Yale University Investments Office History of Yale Investments In 1930, equities represented 42 percent of the Yale endowment; the average university had only 11 percent In the mid-and late 1960s, in response, the endowments trustees decided upon two substancial policy shifts: 1. Increase the exposure to equity investments 2. Yale decided to contract out much of the portfolio management function to an external adviser. The school helped to found a new Boston-based money manager, Endowment Management and Research Corporation (EM&R), whose principals were well-known successful growth stock investors recruited from other Boston money management firms. History of Yale Investments Between 1969 and 1979, the inflation-adjusted value of Yales Endowment
declined by 46 percent. Yale terminated its relationship with EM&R. In 1985, Swensen (Ph.D in Economics at Yale) was hired to head the Investments Office. He pointed out that equities are a claim on a real stream of income, as opposed to a contractual sequence of nominal cash flows (such as bonds). Operative behavior since 1985 Structure flow: Investment Office President Investment Committee Investment Philosophy: 1 2 3 4
5 Believe in Equities Diversify portfolio Less efficient markets Outside Managers Incentives Private Equity Management Investment Philosophy: 1 2 3
4 5 Believe in Equities Diversify portfolio Less efficient markets Outside Managers Incentives Some rules from the Investment Office: The Inv. Office place a premium on building Long Term
relationships. Value-added approach: seek firms that build better business instead of just managing the endowment. Organizations which incentives were aligned. Yale was more interested in LBO than in Venture Capitals. Private Equity Management Investment Philosophy: 1 2 3 4 5 Believe in Equities Diversify portfolio
Less efficient markets Outside Managers Incentives Some rules from the Investment Office: Risk reduced by limiting aggregate exposure to any single asset class rather than by attempting to time markets. Look opportunities of higher return in emerging market Undervalue d securietes Excess Returns Approached Bond with skepticism. 4% as a disaster reserve.-HEDGE for severe drop in asset value and or deflation. Investments in Real Assets ( Real State- Oil and Gas and Timberland Investments). Uncorrelated with those from Marketable common Stock. Returns protected from inflation. Strategy:
Clasess Private Equity-Real Assets-Absolute Returns Asset allocation Did not rely on Historical data. The investment office imposed limits on the amount that could be invested in each asset class. Yale Large Universities All Universities Other Absolute return Private equity Real assets Cash Bonds Foreign equity Domestic equity
1985 1985 1995 1995 2005 1985 1995 2005 During the last decade, Yales asset class returns annualized differences were: 0.2% in the most efficient priced asset class 12.2% in least efficient market, private equity 2005 Internal Bonds Managment They saw a minimum spread between their management and an
external management of this assets. Did they underestimate the opportunities? All Universities Yale Other Absolute return Private equity Real assets Cash Bonds Foreign equity Domestic equity 1985 1985 1995 2005 1995 2005
Principles 1. No bonds.but, why? Private Equity Management Investment Philosophy: 1 2 Believe in Equities Diversify portfolio Some rules from the Investment Office: 3 Less efficient
markets 4 5 Outside Managers Incentives 25,337 companies were listed on emerging stock market exchanges. (51% of all companies in the world) The economies of emerging markets amounted more than 30% of non-US GDP in dollar terms. Twice that amount in real terms. Emerging markets grow rapidly, at nearly twice the rate of developed countries. Emerging Market Takahashi found the emerging equity markets in Asia, LataM and Eastern Europe: There were under-valuated securities in these less efficient markets. Moreover, EM provides an interesting Diversification: low correlation with US.
Managers search not easy at all. Annualize returns of 12.8% vs. previous decade; 6.2% vs. benchmark. Even though they knew this will not be forever, EM will continue to be more profitable than develop markets. Private Equity Management Investment Philosophy: 1 2 Believe in Equities Diversify portfolio Some rules from the Investment Office: 3 Less efficient
markets 4 5 Outside Managers Incentives External investment advisor should be given considerably autonomy to implement their strategies. (Litlle interference from Yale) Developing close and mutually beneficial relationships. New Manager. First Client Ability to find superior Managers: (Disciplined fundamentals-based approaches, when intelligently applied, could generate superior and long-run performance. Hiring number of overseas investment managers was one of the near-term bright spots in the portfolio. Private Equity Management Investment Philosophy: 1
2 Believe in Equities Diversify portfolio Some rules from the Investment Office: 3 Less efficient markets 4 5 Outside Managers
Incentives Yale preferred Managers willing to coinvest and to be compensated with their investment performance. Avoid that Managers emphasize growth in assets at expense of performance. Transferred model for successful domestic equity investment to foreign countries was challenging. Relationship with key Managers served as a competitive advantage. Leveraging their own structure Yale obtained the highest rating (AAA or Aaa) to leverage their structure and, from a politic perspective, keep being attractive for new investors. Questions 1/2 What should be the mix between new groups and established organizations? Should Yale expand its international program to include a greater emphasis on Asia and other Emerging Markets? Depends on the risk management policy. Attention to changes in regulations.
Volatile markets. Illiquidity Comparison between Yale Portfolio and average hedge fund structure Yale Other Absolute return Private equity Real assets Cash Bonds Foreign equity Domestic equity 1985 1995 2005 Rise the weight of the emerging market in the endowment
Question 2/2 Could a strategy that worked so well for Yale when it was a billon- dollar fund continue prosper as the pool of asset grew? Knowledge Networking
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