Questioning Endowment Losses

High-risk, high-reward policies heavily influenced by Wall Street helped some college endowments grow to several times their original sizes, but they also did damage to employees, local communities and the global financial system, a new assessment of investment practices at Harvard University and five other New England institutions suggests.

The development since the 1970s of the “endowment model of investing” may have paid off for many years, but in a report released Thursday, the Center for Social Philanthropy at Boston’s Tellus Institute concludes that the model is “broken.” Moving forward, the report said, the investment strategies of nonprofit higher education need to be reformed to take into account sustainability and social responsibility, and to eschew the great risks that contributed to the dramatic damage now reaching far beyond the gates of academe.

The report was commissioned and funded in part by the Service Employees International Union, which represents staff working at all of the institutions included in the analysis (a fact buried in a footnote). “The very schools that developed the endowment model of investing have wreaked havoc, jeopardizing the security of academic programs [and forcing] very demoralizing staff reductions on campus,” said its lead author, Joshua Humphreys, a senior associate at the Tellus Institute and director of the Center for Social Philanthropy. “Despite the destabilizing effects during the financial crisis on so many schools, few of them are changing their endowment models.”

Matt Hamill, senior vice president of advocacy and issue analysis at the National Association of College and University Business Officers, said the report failed to put university endowment losses in the context of the broader economic downturn and played down the institutional growth the endowment model of investing made possible. "The thesis seems to be that because these institutions employed the endowment model, they've done more damage than good."

Besides Harvard -- whose endowment was worth $25.6 billion at the end of fiscal 2009, after peaking at $36.6 billion in 2008 -- the study also looks at, in order of endowment size, the Massachusetts Institute of Technology, Dartmouth College, Boston College, Boston University and Brandeis University. In all, the six institutions have endowments totaling close to $40 billion, a tenth of the total held in U.S. college and university endowments.

Despite their apparent wealth, the institutions cited negative endowment returns as a reason to cut spending after the 2008 financial markets collapse, said Wayne M. Langley, director of the higher education division of SEIU Local 615. “We will not allow our members to go through this if we feel like it’s a fraud -- and we feel like it’s a fraud.”

Administrators obliquely pointed to endowment losses but wouldn’t say much more. “When we asked Harvard, M.I.T., Dartmouth, ‘if there’s a crisis, then explain it to us,’ we were stonewalled,” Langley said. “There was absolutely no transparency.”

In researching the report, Humphreys and his co-authors say they sought to find transparency. Many of the report's findings -- that risk-taking jeopardized the security of endowment income and that the rise of the chief investment officer “ratified” the risk-taking culture -- aren’t new. The report denounces the influence that institutions with large endowments had on smaller institutions that tried to get in on the kind of action Harvard saw. It goes into depth on each endowment’s history and management, and illustrates a growing dependence on hedge funds, private equity, venture capital and other complex investments to bring in big returns.

The report is also critical of the large numbers of financial services executives who are on the boards or investment committees of all six institutions. “The potential for conflicts of interest, or the appearance of conflicts of interest, is widespread across the schools under consideration. When it comes to weakened endowment oversight, the most glaring problem arises from trustees from the finance industry whose firms provide investment management services,” the report said.

Dartmouth’s board is home to “the most egregious kind of conflicts,” Humphreys said. “Can you imagine the investment committee meetings at Dartmouth? Basically half the room has to leave to make decisions, including the chair.” The report identifies seven trustees and committee members in whose firms Dartmouth has invested at least $115 million since 2004.

Roland H. Adams, Dartmouth’s director of media relations, said in a statement that the college and its trustees “follow the highest ethical standards with regard to what are called ‘related-party investments.’ We have very strong internal rules governing such investments to assure that we do not have conflicts of interest in investments that have any connection to any of our trustees.”

The committee Humphreys referenced, Adams said, “does not direct daily management of any Dartmouth investments,” but rather oversees the college’s investment office, along with the college’s executive vice president. He added that the college would not steer clear of its trustees’ companies. “To do so when we are following appropriate ethical standards would do nothing more than negatively impact the returns on our endowment and the good work that we do with those returns.”

(Adams was also critical of the report’s partial funding by SEIU, which is in contract negotiations with Dartmouth. Humphreys, he said, “participated as an expert acting on behalf of SEIU in a discussion between the college and SEIU Local 560 related to the budget issues” last winter.)

The report also decries what it frames as staggering negative returns, ranging from 18 percent at Boston College to 30 percent at Harvard. But those losses aren’t contextualized within the larger scheme of financial markets’ declines in 2009, which hovered in the same 25-to-30 percent range, Hamill said. “I’m a little bit puzzled that the report talks about these institutions’ declines in fiscal year 2009 but doesn’t compare them to other external benchmarks,” he said. “Not that you want to celebrate a 22 percent loss, like at BU or Brandeis, but the markets plunged on everybody.”

Andrew Gully, senior vice president for communications at Brandeis University, said that although his institution experienced “a significant drop” in the value of its endowment, when compared with peer institutions, “the diversified Brandeis investment portfolio performed better than many, and we’re pleased with our performance over the last year.” Representatives from Boston University and MIT declined to comment for this article.

Even within the context of other endowments and the global markets, Langley insists the institutions should have been more risk-averse in their investment strategies to protect their employees' jobs. “They took their endowment and put it on the roulette wheel, and you’re paying the cost with your job," he said. “Schools abandoned their smoothing mechanisms.”