Want Your Endowment to Grow? Try Diversifying Your Investment Team

A few years ago, a commentary I wrote for The Chronicle urged Congress to keep its hands off of college and university endowments, allowing the institutions to use those endowments to pursue their core missions of teaching and research, including the financial aid that allows students of all income levels to attend and graduate.

Unfortunately, the tax bill passed last December and signed by President Trump includes a significant tax on endowment returns for institutions with per-student endowments over $500,000, including my former institution, Pomona College. Colleges are concerned that this tax may be extended or increased over time, and will reduce their ability to expand access to the education they offer. Efforts are underway in Congress to reverse this short-sighted and dangerous decision.

But college leaders have work to do, as well, to ensure that our endowments and the ways in which we manage them are fully in line with our core mission as educational institutions. This is a time for us to examine the connection between our endowments and the diversity imperative that higher education recognizes as crucial to our success. Endowments are the next frontier in bringing our actions in line with our well-established commitments to diversity. Reps. Maxine Waters and Gregory Meeks, senior members of the House Committee on Financial Services, have in fact argued in a letter to congressional leadership that repealing the tax on endowments should be tied to colleges’ commitments to diversifying the ranks of managers in charge of investing those endowments.

Since the 1960s, colleges have recognized that their student bodies need to align better with the diversity of the population of the country and the world, through significant commitments of financial aid. A college cannot be said to prepare its students for life in the 21st century unless those students represent the full diversity of the country, including race, ethnicity, income, and other dimensions. We strive to be engines of opportunity rather than bastions of privilege, though there is much more to be done in this area.

As student bodies have changed, we have recognized the need for faculty to change as well. A diverse faculty teaching a diverse curriculum, which recognizes the contributions to history and to knowledge from underrepresented people, are needed to teach the students of the future. Recently Reed College acknowledged that its Humanities core needs to explore New York City and Mexico City as well as Athens and Rome. At Pomona College, recruiting a diverse faculty required us to continuously monitor our success in broadening search pools.

Much current focus on diversity has now moved to college leadership: the senior management of higher-education institutions (including presidents) and the composition of their boards. Since boards have the ultimate responsibility to hire presidents, it is appropriate for every college to see that the full diversity of our society is reflected in the decision-makers who lead us.

One area has received much less attention, however, and that is the way we select managers for our endowments. Do we prioritize diversity in these choices and look for funds that are owned by women and minorities, or that employ underrepresented-minority members in significant leadership positions? Do university board investment committees (not always very diverse themselves) prioritize diversity in the investment policies they monitor?

It is perhaps not a surprise that the investment field has lagged behind other areas in minority presence, as firms often hire using established networks, and the lack of role models discourages young people from entering the field. The lack of access to capital among minority individuals makes it harder for them to start up new firms. A 2017 study by the Knight Foundation found that in four areas (mutual funds, hedge funds, private-equity funds, and real-estate funds), the proportion of women- and minority-owned firms ranged from 3 to 9 percent, with the fraction of assets under management even lower, from below 1 to 5 percent.

Similar gaps are found at the level of managing directors. A 2017 study by the Financial Times’s FundFire and the Money Management Institute found that in a pool of 2,089 managing directors, 86 percent were white and 7 percent Asian, while only 4 percent self-identified as Hispanic and a little more than 1 percent as black. At smaller firms, the percentages of minority managers were even lower.

The Knight Foundation study showed that performance cannot account for this lack of diversity, since 25 percent of the women-owned and 28 percent of the minority-owned mutual funds and hedge funds showed returns in the top quartile of performance, consistent with a conclusion that no statistical difference in performance is seen. A 2015 study by the management-consulting firm McKinsey & Company showed similar results: Companies in the top quartile for ethnic and cultural diversity were 35 percent more likely to outperform peers on profitability.

The Knight Foundation has taken specific actions in response to these results, moving 22 percent of its endowment into firms owned by women and minorities. There are numerous high-performing diverse asset managers; colleges just aren’t using them.

The Securities and Exchange Commission has asked asset managers this year to voluntarily provide information on the diversity of their work forces, and several leading firms have published such data, but such information is not broadly available. Some firms are starting initiatives to mentor new staff members and make diversity and inclusion an important priority at every level. Recruitment can be enhanced by seeking referrals from existing employees and working with associations focused on diversity.

What can college leaders do to help? First, we can ask the asset managers we employ for information on the diversity of their employees at every level. That will enable us to monitor progress in this dimension as in every other dimension of our operations. These results should be publicly reported by universities. Second, we can seek out (or ask our investment consultants to seek out) minority-owned firms (or firms with significant minority presence at high levels) for investment, rather than relying on established networks that may lack diversity. Third, those of us sending graduates into asset-management fields must encourage participation by women and minorities so that the future work force will better reflect the diversity of the country.

Multiple studies have shown that diverse teams perform better than homogeneous teams. For example, a 2014 study led by Sheen Levine, of Columbia University, showed that ethnically diverse trader teams priced assets more accurately, avoided conformity, and thwarted bubbles. By strengthening the diversity of their investment managers, colleges can not only bring investment policies in line with their core mission, they can potentially increase the returns on their endowments. This is a win-win situation we should all explore.

David Oxtoby is president emeritus of Pomona College and a president in residence at the Harvard Graduate School of Education.