Foundations outpace indexes

By Todd Cohen

U.S. foundations lost 8.7 percent of their endowment assets in 2002, and prevented deeper losses by holding onto equity, diversifying investments overall, hiring more outside money managers and using professional practices to manage portfolios, a new study says.

Despite their losses, foundations on average spent 6 percent of their assets, compared to the 5 percent payout required by the Internal Revenue Service, although lower assets in 2001 and 2002 have resulted in fewer dollars for grants and operations, says the 2003 Commonfund Benchmarks Study of foundations.

The study, the first in what will be an annual effort by the Commonfund Institute in Wilton, Conn., to track foundation endowments, examines financial performance at 230 private and community foundations with $184 billion in total endowment.

Despite their losses, the study says, foundation endowments outperformed the S&P 500, which lost 18 percent, and the NASDAQ Composite, which lost 32 percent.

Still, endowment management poses a growing challenge for foundations, says John S. Griswold Jr., Commonfund Institute’s executive director.

“It’s more expensive to manage your portfolio now because the portfolio is more complex and at the same time there are strains on budgets across the board, including the ability to hire and keep good people,” he says.

Despite greater diversification, big growth fueled by the 1990s’ bullish stock market, and an increase in the number of outside money managers, foundations “didn’t ramp up their oversight” of investments and investment managers,” he says.

“The strain on staffs will increase to be able to do their jobs effectively because the cost environment is getting worse,” he says.

Foundations the survey tracked allocated nearly half their assets to domestic equities, and nearly one-fourth to fixed income.

They also allocated 14 percent to alternative investments, 10 percent to international equities and 4 percent to cash.

In a tough market for domestic equity, the study says, the strong orientation to equity, with a large-cap bias, shows “both a long-term view and real investment discipline,” with most foundations keeping close to their allocation targets and rebalancing their portfolios during the course of the year.

Nearly two-thirds of foundations rebalanced their portfolios, and few foundations changed their allocation targets, the study says.

Those changing targets mainly responded to market conditions, the study says, reducing target allocations to domestic and international equities and fixed income, and increasing targets to alternative strategies.

This year, one in five foundations expects to reduce domestic equity targets, and 12 percent expect to reduce fixed-income targets, while just over three in 10 expect to raise targets for alternative strategies.

Twenty-seven percent of private foundations held original donor stock, representing 40 percent of their total assets, a practice that resulted in lower allocation to fixed income, international equity, alternative strategies, and thus less diversified investments, the study says.

Donor stock also inflated the allocation to large-cap-growth to nearly half the equity portfolio, compared to a large-cap-growth allocation of just 25 percent at foundations without donor stock.

Foundations with donor stock had returns a full percentage point lower than at foundations without it – and lower than at private foundations and at total foundations overall, the study says.

It says foundations increasingly have turned to “external resources” such as consultants, investment managers and custodians.

To maintain good governance in the face of the slumping market, the study says, foundations should “consider the potential cost savings that might be achieved from outsourcing key services” and from using more Web-based tools to analyze investments and help in reporting to their boards.         

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