COMMENTARY: Problems with the Endowment Model

Alternative investments long ago ceased to be diversifiers, as their trading markets became more liquid and pricing there came to be more closely aligned with that of public markets. For the same reason, the principal classes of alts ceased to be sources of alpha and became a serious drag on performance. As a result of this market evolution, the endowment model’s signature asset-class diversification scheme now imposes rigidity without benefit: Asset classes have become silos, tantamount to quotas for large-scale investing in pricey alternative investments of uncertain merit. One hundred or more investment managers for an endowment portfolio are way too many: Inefficient diversification abounds. Costs approaching 2% of asset value are implausible on their face. TOPICS: Real assets/alternative investments/private equity, foundations & endowments, portfolio construction, performance measurement Key Findings ▪ Alternative investments have ceased to be diversifiers and have become a serious drag on performance. ▪ Having more than 100 managers for the typical large endowment is a source of inefficient diversification. ▪ An average estimated annual cost of 1.7%, combined with extensive diversification, virtually assures underperformance.