The University of San Francisco endowment has increased its domestic equities portfolio target from 23% to 33% of its overall portfolio, and its international public equities target from 15% to 20%, to be more in-line with its current, actual allocations, according to Stacy Lewis, associate vice president, finance and treasury, at the $400 million endowment. The endowment also increased its private capital investment target from 17% to 20% of its portfolio, last month.
Many of the allocation targets had already been met in the portfolio, but had not been updated, because the endowment’s Investment Committee had held off from rebalancing for several years, according to Lewis. “In every meeting, the Investment Committee reviews the asset allocation, and since the bull market started in March 2009, they had not felt that it was a good time to rebalance, so we let our equity exposure continue to increase,” Lewis said.
At its February Investment Committee meeting, the endowment also lowered its hedge fund allocation to 5% from 10% and its absolute return allocation target to 10% from 15%. This was was done as an offset to the fund’s increase to its public equity targets, Lewis noted. The fund’s real assets holdings were also decreased to 5% from 10% of its portfolio.
Explaining the portfolio modifications, Lewis said: “We looked at the risk/return and correlations of several different asset mixes and basically had to accept only slightly higher risk, for the higher returns.”
Delaying decision on equities allocation target
The USF has had a target to domestic public equities set at 23% of its portfolio since around 2008. “We adjusted it three or four years after that, but it was not significant,” Lewis said. After that, “we didn’t increase the amount invested, we just let it stick where it was.”
The reason? “In February, “we were so far from our target that it was my thought to the committee and the consultant’s [Monticello Associates] thought that [if] this is really where we need to be, then we need to change the target or re-allocate it back to where our previous target was,” Lewis said. “The Committee ultimately, decided to change its target to be where it is with its current asset allocation.”
Increasing while others decrease
Lewis is aware that while the USF endowment is increasing its equities target, many other similar funds are pulling back on the sector. But “we are in a different position than some other institutions…in that we invest for an infinite time horizon,” she said. “We are incredibly long-term investors.” So what does the endowment consider long term? “Long-term is forever, we don’t have an ending horizon for our investing time frame.”
USF’s endowment spending contributes only 3% to its operating budget, “so it gave us some leeway to say, ‘as long as we maintain an acceptable level of liquidity, we can withstand these downturns looking long term,’” Lewis said.
Regarding the decision to increase equities, the investment committee had to ask: “‘Are we comfortable? Can we stomach short-term volatility if we maintain our current asset allocation?” Lewis said. The answer from the Committee was a resounding ‘yes.’
The endowment’s annual spending is based on 4.5% of the portfolio’s three-year average market value on December 31st. A decline in the market value, therefore, decreases its calculated spending. “If the market value declines significantly, it will obviously negatively affect the annual spending amount,” said Lewis. “But since we don’t depend as much on endowment spending to fund our operations, a slight decline in the spending wouldn’t have a detrimental effect on our operating budget,” she explained. “When the market rebounds, endowment spending levels will also increase and provide more funding for operations,” she noted.
Lowering hedge fund and absolute return exposure
USF decreased its hedged-equity exposure because of poor performance in the sector. “We didn’t get into hedge funds until 2007, and when we looked at the risk/return profile since then, the results didn’t perform as expected. We did get some protection on the downside, but it seemed like the upside was lower than we expected,” she said.
Lewis added that “our concern was that we were hedging for when the market declines, but if we are willing to withstand that and just wait for a rebound, as there always is, then why not capture more of the upside than we have been capturing with our hedged equity?”
USF decreased the size of its absolute-return funds, for similar reasons: “The strategies we invested in just had not performed like we initially expected them to.”
The decrease in its real assets holdings, which include real estate and commodity fund investments, was due to the fact that, “We have not had a long history of investing in real estate; the only time we have done it is in some diversified funds, as our expertise on the committee is more slanted toward equities and private capital,” Lewi explained. “So that is where we spent a lot of our focus and not on real assets.”