The Endowment’s mission necessitates a high return objective, which Princo can achieve over the long term only through an aggressive, equity-biased approach.
The purpose of the Endowment is to provide steady support for the University’s current and future operating needs, while preserving real value for future generations. This mission requires an expected return that exceeds the sum of the annual rate of spending and University inflation. This mission suggests that Princo must seek long-term returns above 10% per year, which financial theory and empirical evidence indicate can only be achieved through an aggressive, equity-biased approach.
Princo partners with best-in-class investment management firms across the globe and in diverse asset categories. Much of Princo’s success reflects its ability to select and gain access to top-tier managers, as well as engage with them constructively. This entails continuous, vigorous, yet cooperative dialogue, through which Princo seeks to encourage full utilization not only of manager skill but also of the Endowment’s natural advantages. Indeed, our strong partnership with managers has led to additional value creation.
Key among Princo’s advantages is the Endowment’s perpetual time horizon and relatively low spending requirements, which enable the fund to tolerate above-average volatility and below-average liquidity. Other advantages include the Endowment’s size, the University’s dedicated alumni base, and the reputations of both the University and Princo. The Endowment’s asset base is large enough to cost-effectively support the efforts needed to find highly attractive opportunities that often occur far from the beaten path. However, it is not so great as to prevent niche opportunities from having a meaningful impact. A vast network of alumni and University friends creates an informational advantage, while the collective skills and experience of Princo Directors and staff create an edge in judgement. Finally, the reputations of the University and Princo help the Endowment gain access to the very best investment firms, often even when they are turning other clients away.
A critically important element of Princo’s investment approach is our non-traditional asset allocation.
Asset allocation involves determining what share of the portfolio should be invested in various broad categories of investments. The decisions aim to balance the relative merits of equities versus fixed income, domestic versus foreign investments, and publicly-traded versus non-marketable assets.
The Endowment’s Policy Portfolio describes Princo’s long-term, steady-state asset allocation targets in “normal” market conditions, and a range of weightings within which exposures can be adjusted in response to mid-term opportunities arising from significant market disequilibria or to other unusual circumstances. The figure below depicts the Policy Portfolio targets.
Clearly evident in the chart is Princo’s bias towards equities—95% of the portfolio is allocated towards them. Also striking is the relatively small portion (10%) of the portfolio dedicated to U.S. Equities. Large portions of the portfolio are allocated to other high-return categories, such as international, hedged, and private investments. Independent Return, Private Equity, and Real Assets merit further description. Independent Return consists of a set of investment vehicles—colloquially known as hedge funds—that seek high absolute returns which are typically independent of broad market trends. This asset class includes managers that, in addition to investing “long,” will sell “short,” in attempts to exploit opportunities in over-valued, as well as under-valued, assets. Private Equity encompasses investments in private companies, ranging from startup-stage to mature buyouts, while Real Assets includes investments related to real estate and natural resources. One compelling characteristic of both Private Equity and Real Assets is the possibility of increasing the value of underlying assets through operational and structural improvements.
Princo diversifies into non-traditional asset categories for a number of reasons, the most important of which is that it seeks return premia, in both risk-adjusted and absolute terms. Compared to the U.S. stock market, each of the non-traditional categories offers the potential to improve the Endowment’s expected long-term return. The Endowment also has competitive advantages in each of these areas that make superior returns particularly likely. A broader opportunity set means that the portfolio should be capable of producing high returns more often and in a greater variety of environments. Finally, the multi-asset class approach offers a diversification benefit that helps control risk and volatility.
More information about Princo’s investment strategy can be found in the Report on Investments within the Report of the Treasurer.