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College endowments badly trail the market, would be better off just buying Treasurys, study shows

Key Points
  • Economists find that the U.S. endowments posted median annual returns 5.53 percentage points below a classic 60-40 mix of equity and Treasury bond indexes.
  • The median return for the sample — which included 28,000 endowments funds drawn from IRS filings — was 3.75 percent.
  • The median return was 1.14 percentage points below the 10-year Treasury bond return over the years between 2009 and 2016.
Harvard University
Brooks Kraft | Getty Images

Major endowments in the United States, including those managed by colleges and universities, "badly underperform" market benchmarks, according to a new study from Georgetown University and NYU's Stern School of Business.

In a sample of more than 28,000 endowment funds drawn from filings with the U.S. Internal Revenue Service, economists found that the nation's endowments posted median annual returns 5.53 percentage points below a classic 60-40 mix of U.S. equity and Treasury bond indexes between 2009 and 2016.

The median annual return for the entire endowment sample was 3.75 percent, or 1.14 percent below the 10-year Treasury bond return.

"In other words, the typical endowment fund would have earned substantially higher returns if its trustees had followed a simplistic investment strategy of holding 100 percent Treasury bonds and taken no equity market risk whatsoever," economists Sandeep Dahiya and David Yermack wrote in a new paper. "Higher education institutions, whose endowments account for more than half of all assets in the sample despite representing just 6 percent of the observations, significantly underperform market benchmarks, with abnormal investment returns of minus 189 basis points [1.89 percentage points] per year."

While the researchers were quick to acknowledge exceptions to this rule (Yale University reported in 2018 that its endowment grew to $29.4 billion with an annualized return of 11.8 percent per year over the last 20 years), a marked uptick in political scrutiny has thrust the performance of non-profit funds and their managers into the limelight. And the results are "fairly dismal."

Results for all endowments showed a statistically significant negative alpha of 1.01 percent per year despite one of the longest bull markets in modern history. The S&P 500 – the broad market index used as a benchmark for measuring alpha – returned 14.4 percent in total annual returns over the eight years studied.

Investment wisdom is a 'myth'

But higher education endowments – long considered a haven for reliable returns – continue to struggle. While prior literature has found that more selective schools tend to return higher investment income, the current study found that the endowments of the top 20 national universities (including the Ivy League, MIT, Stanford and Georgetown) earn "almost exactly zero abnormal return."

These results give "no indication of superior performance [at more selective schools] but is nevertheless much better than other colleges and universities as a whole," Yermack and Dahiya wrote.

"They suggest that the most selective schools do better than others within their sector and basically earn returns that are no worse than average," the researchers added. "However, they also support the conclusion that the investment wisdom of top universities is largely a myth, as one could expect to earn these types of returns simply by chance."

The poor returns come as institutions of higher education across the country have been grappling with other financial burdens, including dwindling populations and enrollment rates. Though the annual price tag for a year of college continues to tick higher, the amount students and their families that actually pay has declined in recent years.

After declining from $15,500 in 2007-2008 to $13,200 in 2011-2012, the average net tuition and fees paid by full-time students at private nonprofit four-year institutions rose to an estimated $14,600 in 2018-2019, according to the College Board, a New York nonprofit that administers the SAT and tracks university costs.

Harvard's struggles

To be sure, studying the investment period starting in 2009 could also impact the results. Fund managers — fresh from the turbulence of the financial crisis — may have been overly cautious with endowment funds and may have postponed more aggressive investment until it was abundantly clear that risk levels had receded.

Still the lackluster results are hard to ignore, especially given the length of the current economic and market expansion. And these funds shouldn't try to market time, even during a crisis.

Harvard University, which boasts the nation's largest education endowment at $39.2 billion, posted the worst performance of any Ivy League rival in 2018 with 10 percent growth for the fiscal year ended June 30. It also underperformed the S&P 500, which returned 14.37 percent over the same period.

The outperformance — or lack thereof — of the nations largest endowments also has important implications for future fundraising, the researchers found. The study found that donors to major endowments are significantly more apt to contribute if the fund can post healthy returns.

If a fund outperforms the equity market benchmark by 10 percent, donations would grow by about 1.3 percent in the following year, the economists found.

"The constituent donors of a non-profit, such as the alumni of a university, are aware of how well the organization performs as an investor and adjust their donations in a pattern that rewards stock market profits with the supply of new capital, much as one sees the inflows to a mutual fund increase when the fund outperforms the market," they wrote.