The Impact of Alternative Investments on Private Colleges' Endowment Investment Returns

Over the past twenty years, colleges have invested an increasing share of their endowment assets in “alternative investments.” Prior to 2009, an alternatives emphasis had been widely credited for the sterling endowment investment returns earned by many colleges. However, with college endowments generally suffering sharply negative investment returns during fiscal year 2009, many commentaries have more recently questioned the desirability of this increasing alternatives allocation. This paper addresses several key questions that are central to the current debate on the appropriate role for alternative investments in colleges' endowment portfolios.Going beyond anecdotal accounts, the evidence confirms that an increased emphasis on alternatives did tend, ceteris paribus, to reduce private colleges' investment returns in 2009. However, the extent of the impact on 2009 investment returns is perhaps smaller than has been commonly understood. Further, when one looks at the evidence for the ten-year period ending in 2009, an increased emphasis on alternatives tends, ceteris paribus, to significantly increase a college's cumulative investment return. Despite concerns about the ability of colleges with smaller endowments to successfully invest in alternatives, the positive impact on investment returns over the decade of an increased alternatives allocation holds for colleges in all endowment size groups -- though the positive impact does tend to be smallest at colleges with the smallest endowments.One year's returns do not tell the whole story, and even one decade's returns are limited in the perspective they provide. The decade from 1999 to 2009 may have been an unusually strong one for alternatives relative to the returns earned in a more traditional portfolio emphasizing U.S. equities and fixed income securities. Yet, as argued in David Swensen's Pioneering Portfolio Management, there is a reasonable conceptual basis for a move towards alternatives, especially among colleges with the needed expertise. For now, the actual cumulative record through 2009 of private colleges' investments in alternatives supports a significant role for alternatives