What a $2-Billion Loss Really Means for Harvard and Its Endowment

October 03, 2016

Some observers dismiss a year of bad returns as of little consequence for the world’s richest university. Others see a cautionary tale over how elite institutions use and invest their endowments. Above, the Widener Memorial Library at Harvard.
Over the past week, administrators and investment managers at Harvard University have had to endure some public scrutiny over a $2-billion loss in the university’s endowment value. The editorial board at The Harvard Crimson, for example, gave administrators a scolding for the "subpar" performance of its investments. Harvard had been bested in the market by Princeton and others, the Crimson has noted in several articles.

"Let’s not mince words: this is unacceptable," the editorial said. "… As crass as it might be to say, money makes Harvard go round."

A situation where in-house investment managers are paid 50 times more than professors, while delivering lackluster returns, is 'politically not feasible.'
On Thursday, Harvard announced that it had hired N.P. (Narv) Narvekar, who had managed Columbia University’s endowment, to oversee its investments. Mr. Narvekar is Harvard’s fourth endowment manager since 2005. The previous manager, Stephen Blyth, quit after a year and a half, citing health reasons.

At the same time, people outside of Cambridge, Mass., can’t help snorting when they see people at the world’s wealthiest university fussing over money. True, $2 billion is a lot of coin — more than all but about 40 universities have in their endowments. But Harvard still has $35.7 billion, about $10 billion more than its closest rival, Yale University.

"I don’t think a year or even several years of bad returns really qualifies as an existential threat," wrote Jordan Weissmann, a business reporter at Slate.

At some level, all of this handwringing is tied to the horse race among elite institutions, with money as a proxy for prestige. The Crimson, quoting a former Harvard president, Lawrence H. Summers, said that the endowment’s performance — rather than fund raising — would "determine whether Harvard remains pre-eminent."

Concern and Risks

But there is a real cause for concern here, and some palpable risks. Starting in the 1980s, explains Timothy J. Keating, a Harvard alumnus and president of Keating Wealth Management, both Harvard and Yale pursued an alternative-investment strategy, focused on private equity, real estate, commodities, hedge funds, and so on. But the two universities diverged in their approach to the strategy: Yale outsourced its investment management, while Harvard turned to its own Harvard Management Company.

"That worked fine, until the returns were eye-popping," Mr. Keating says. Jack Meyer, who ran the management company from 1990 to 2005, more than quadrupled the size of the endowment, from nearly $5 billion to $26 billion. The in-house investment staff grew to more than 200, and the head managers were getting paid tens of millions. Then, in 2005, Mr. Meyer left to start his own firm, and Harvard’s investment arm started going through a series of leaders.

"That is the beginning of the undoing of Harvard’s endowment," Mr. Keating says. "All this turnover leads to changes in strategy, changes in asset allocations, and all that zigging and zagging began to take its toll on Harvard. It’s almost as if Yale was the tortoise and Harvard was the hare, and each change brought more management discontinuity."

As Bloomberg reported, Harvard’s endowment returns have lagged behind all other Ivy League universities, except Cornell.

A situation where in-house investment managers are getting paid 50 times more than university professors, while delivering lackluster returns, is "politically not feasible," Mr. Keating says.

Indeed, the news about Harvard’s endowment led many to question the university’s approach and its costs. Mark J. Perry, a professor of economics and finance at the University of Michigan at Flint and a scholar at the American Enterprise Institute, estimates that Harvard spends at least $70 million on its endowment-management office. That’s almost enough to cover Harvard’s $45,000 tuition for its 1,600 freshmen.

Trying to Beat the Market

What is Harvard getting for that money? Mr. Perry and others point out that if Harvard had passively invested in a standard mix of 60 percent stocks and 40 percent bonds, it would have gotten a higher rate of return — 8.9 percent over the past five years, versus 5.9 percent with its active in-house management, according to The Boston Globe.

"Everyone thinks they’re so smart they can beat the market," but few investment managers do, Mr. Perry says. "That seems like that should be a concern for investors and alumni. They are paying these supposed experts $70 million a year to lose money."

The nontraditional investment strategy pioneered by Yale and Harvard has now been adopted by many big universities, says Ken Redd, director of research and policy analysis at the National Association of College and University Business Officers. While that investment strategy worked well from the 1980s to the mid-2000s, some wonder if that strategy is played out, now that the field is crowded with institutions chasing the same kinds of investments. Of the dozen or so colleges with large endowments that have reported their endowment earnings so far this year, Mr. Redd says, many have shown anemic returns.

An underperforming endowment strategy can affect other sources of wealth. Donors can take notice of the lower returns and wonder whether their money will grow in a university’s hands, Mr. Redd says, and that can depress fund raising.

But Mr. Keating points to a more worrying aspect of weak endowment returns at elite institutions: The percentage of the operating budget supported by the endowment has crept up over time to cover a huge portion. At Harvard, endowment distributions support 35 percent of the university’s $4.5-billion operating budget, and represent Harvard’s largest chunk of income. At Princeton University, the endowment and investments support almost 50 percent of the $1.6-billion operating budget.

In the case of Harvard, the endowment needs to kick out $1.5 billion every year, "no matter what the market conditions are," Mr. Keating says, with other institutions in a similar situation. That argues for an investment mix that includes more income-producing securities, like municipal bonds, which starts to push elite universities toward a standard 60/40 model.

Harvard had to borrow money to get through the 2008 financial crisis, Mr. Keating points out. While that was an extreme situation, bear markets come around about every five to 10 years, which threatens a major source of operating funds for Harvard and institutions like it.

"In this world that we live in, you really want a safe cushion," he says. "You don’t want to have to run out and issue bonds every time the market seizes up."

Scott Carlson is a senior writer who covers the cost and value of college. Email him at