I’ve got immense respect for Swensen (his book Unconventional Success was loaded with good information, including an absolute demolition of the Wells REIT), and it certainly looks like he and his team have delivered great risk-adjusted returns for Yale’s endowment. But a key question I’ve always had is whether they (and the other Yale and Harvard-size endowments) were more of the exception rather than the rule.
A recent study that I linked to last week by Vanguard seems to confirm exactly that. Vanguard finds that if you look at smaller endowments — basically those with less than $1 billion of assets under management — the results aren’t nearly as good. They find that these smaller endowments underperformed the larger endowments by about 2.9 percent per year over the 15 years ending in June 2011 and consistently find underperformance over other time frames as well. This tells me smaller endowments likely don’t have the depth of team or economies of scale that the larger endowments do. (Vanguard comes to similar conclusions.)
Vanguard then goes on to compare the performance of the smaller endowments to the performance of low-cost, active balanced funds (not sure why they didn’t use indexes instead) and finds that the low-cost funds generally had better absolute returns and risk-adjusted returns. This indicates the smaller endowments would’ve done better with a much simpler, more transparent approach.
I do, though, believe there’s a middle ground between full-blown active management and market-capitalization weighted stock and bond portfolios that can make sense for these smaller endowments. This middle ground, in my mind, is diversifying broadly across systematic sources of return, a topic that I’ve discussed in several other posts. The advantage of this approach is that costs can still be kept relatively low and the strategies are basically rules-based as opposed to the “black box” that typifies conventional active management in the traditional and alternative spaces.
Random Links and Commentary of the Week
The fiscal cliff has been drawing enormous post-election attention, and I thought this piece from The Economist was worth a read.
There’s been a good bit of recent attention on stock market valuation and forward-looking returns. Specifically, people are focusing on the Shiller P/E, which uses 10-year average real earnings in the denominator, versus the traditional P/E, which uses trailing 12-month earnings. I put together a data series of the U.S. market’s price-to-book ratio calculated using Professor Ken French’s data:
This is the first time I had seen a longer-term version of this series, but it looks right. The peaks and valleys are where I would’ve expected them to be. The most recent value of the ratio was about 1.8, which is above the long-term mean of 1.5, indicating that investors should expect equity returns to be below their long-term norm.