Best stock to invest in
America’s foundations spend many millions of dollars every year on
investment advice. What do they get in return? Bubkes.*
You read that right: Money that could be spent on charitable
programs — to alleviate global poverty, help cure disease, improve
education, support research or promote the arts —instead flows
into the pockets of well-to-do investments advisors and asset
managers who, as a group, generate returns that are below average.
This is redistribution in the wrong direction, and why it
hasn’t attracted more attention or debate is a mystery.
The latest evidence that foundation executives make dumb
investment decisions arrived recently with the news that two
energy funds managed by a Houston-based private equity firm called
EnerVest are on the verge of going bust. Once worth $2 billion,
the funds will leave investors “with, at most, pennies for every
dollar they invested,” the
Wall Street Journal reports [paywall]. To add insult to
injury, the funds in question, which were invested in oil and
natural gas, raised money in 2012 and 2013, just as Bill McKibben,
350.org and a handful of their allies were urging
institutional investors to divest
from fossil fuels.
Foundations that invested in the failing Enervest funds include
the J. Paul Getty Trust,
the John D. and Catherine T.
MacArthur Foundation and the California-based Fletcher Jones
Foundation, according to their most recent IRS filings.
Enervest operates 33,000 U.S. oil and gas wells, more than any
other company, according to a profile of its founder, John Walker,
magazine. Stranded assets, anyone?
Of course, no investment strategy can prevent losses. But the
collapse of the Enervest funds points to a broader and deeper
problem–the fact that most foundations trust their endowment to
investment offices and/or outside portfolio managers who pursue
active and expensive investment strategies that, as a group,
have underperformed the broader markets.
How costly has this underperformance been? That’s impossible to
know because most foundations do not disclose their investment
returns. This, by itself, is a troubling; it’s a reminder
that endowed private foundations are unaccountable to anyone other
than their own trustees.
Unhappily, all indications are that most foundations pursue
investment strategies that fritter away money. This month, what is
believed to be the most comprehensive annual survey of foundation
endowment performance once again delivered discouraging news for
The 2016 Council
on Foundations–Commonfund Study of Investment of Endowments for
Private and Community Foundations® reported on one-year,
five-year and 10-year returns for private foundations, and they
again trail passive benchmarks.
The 10-year annual average return for private foundations was 4.7
percent, the study found. The five-year return was 7.6
percent. Those returns are net of fees — meaning that
outside investment fees are taken into account — but they do not
take into account salaries for investment officers at staffed
foundations, who frequently are paid more than foundation
presidents or CEOs.
By comparison, Vanguard, the pioneering giant of passive
investing, says a simple mix of index funds with 70 percent in
stocks and 30 percent in fixed-income assets delivered an
annualized return of 5.4 percent over the past 10 years.
The five-year return was 9.1 percent.
These small differences add up in a hurry.
The underperformance of foundation endowments is not a surprise.
In a Financial Times essay called The
end of active investing? that should be read by every
foundation trustee, Charles D. Ellis, who formerly chaired the
investment committee at Yale, wrote:
Over 10 years, 83 per cent of active funds in the US fail to
match their chosen benchmarks; 40 per cent stumble so badly that
they are terminated before the 10-year period is completed and
64 per cent of funds drift away from their originally declared
style of investing. These seriously disappointing records would
not be at all acceptable if produced by any other industry.
The performance of hedge funds, private-equity funds and venture
capital has trended downwards as institutional investors flocked
into those markets, chasing returns. Notable investors including
Warren Buffett, Jack Bogle (who as Vanguard’s founder has a vested
interest in passive investing), David Swensen, Yale’s longtime
chief investment officer, and Charles Ellis have all argued for
years that most investors–even institutional investors–should
simply diversity their portfolios, pursue passive strategies and
keep their investing costs low.
In his most recent letter
to investors in Berkshire Hathaway, Buffett writes:
When trillions of dollars are managed by Wall Streeters
charging high fees, it will usually be the managers who reap
outsized profits, not the clients. Both large and small
investors should stick with low-cost index funds.
For more from Buffett and others on why passive investing makes
sense, see my March blogpost, Warren
Buffett has some excellent advice for foundations that they
probably won’t take.
That said, the debate between active and passive asset managers
remains unsettled. While index funds have outperformed
actively-managed portfolios over the last decade, Cambridge
Associates, a big investment firm that builds customized
portfolios for institutional investors and private clients, published
a study last spring saying that this past decade is an
anomaly. Cambridge Associates found that since 1990, fully
diversified (i.e., actively managed) portfolios have
underperformed a simple 70/30 stock/bond portfolio in only two
periods: 1995-99 and 2009-2016. To no one’s surprise, Cambridge
says: “We continue to find investments in private equity and hedge
funds that we believe have an ability to add value to portfolios
over the long term.” Portfolio managers are also sure to argue
that their expertise and connections enable them to beat market
But where is the evidence? The last time I asked, eight of
the U.S.’s 10 biggest foundations declined to disclose their
investment returns. I emailed or called the Getty, MacArthur and
Fletcher Jones foundations to ask about their investments in
Enervest and was told that they do not discuss individual
investments. A Getty spokesperson emailed me to say:
The Getty Trust was an investor in a private equity fund
managed by Enervest. We do not discuss the specifics of our
investments, but this investment was not material in terms of
our overall portfolio which is highly diversified. We also do
not release investment performance data, but our returns compare
very favorably with benchmarks and peers.
To its credit, MacArthur is one of the few big foundations that
its investment performance of its $6.3bn endowment. On the
other hand, MacArthur has an extensive grantmaking program
and sustainable development.” Why would it want to
finance oil and gas assets?
A meaningful step towards transparency around foundation
endowments will come soon when the Ford Foundation discloses its
performance for the first time. Darren Walker, Ford’s president,
told me at the Skoll World Forum that the foundation would do so,
and a spokesman confirmed that last week. When, I wonder,
will other big foundations follow?
The refusal of portfolio managers to adopt simpler strategies
that deliver higher returns is ultimately the responsibility of
foundation boards, which brings us back to the headline on this
blog: Why smart people make dumb choices.
Maybe it’s because so many foundation trustees — particularly
those who oversee the investment committees — come out of Wall
Street, private equity funds, hedge funds and venture capital.
They are the so-called experts, and they have built successful
careers by managing other people’s people. It’s hard for the other
board members, who may be academics, activists, lawyers or
politicians, to question their expertise. But that’s what they
need to do.
At the very least, foundations ought to be open about how their
endowments are performing so those who manage their billions of
dollars can be held accountable.
* Bubkes is Yiddish for goat droppings.
Marc Gunther is a veteran journalist,
and writer who
reported on business and sustainability for many years. Since
March 2015, he has been writing about foundations, nonprofits and
global development on his blog, Nonprofit Chronicles.
Best stock to invest in