Ivy League endowments offer investors several key lessons, particularly when it comes to asset allocation. In fact, studies have shown that asset allocation policy is the primary determinant of performance for endowments — so when Ivy League endowments reveal that they are steering a meaningful amount of capital toward real estate, savvy investors should take note. Here we’ll explore why and to what extent Ivy League endowments are allocating to real estate, and what it means for individual investors.
Endowment performance compared to a standard 60/40 portfolio of US stock and bonds (growth of $10,000). Data as of June 30, 2019.
University endowments are designed to provide substantial levels of cash flow for the institution’s operating budget, generating funds to help pay for research, salaries, and financial aid. Endowments are also tasked with preserving purchasing power for future generations, which fosters a focus on the growth of principal and increased future earnings. As such, the programs tend to have long investment horizons, large asset bases, and little reliance on market timing for generating returns.
In terms of results, nobody meets their mandate better than the Ivy League: In annual studies among a pool of more than 800 college and university endowments, the Ivy League reliably dominates the upper ranks. Over a twenty-year period, the standout endowments of Yale, Princeton, and Harvard notably posted average annual returns of 10.3%, besting a traditional 60/40 equity/bond portfolio by a substantial 6 percentage points annually.
The rationale behind allocating heavily to real estate
A meaningful portion of the strong returns generated by Ivy League endowments appears to stem from their sizable allocations to real estate. To understand why these funds allocate heavily to real estate, it’s helpful to step back and examine their broader views on alternative investments. For the past several decades, endowments have increasingly committed to diversifying their portfolios by channeling more dollars to alternative investments such as hedge funds, private equity, venture capital, and real estate.
At the heart of this evolution is modern portfolio theory, an asset allocation framework developed by Nobel Laureate Harry Markowitz and widely adopted by institutional investors. Modern portfolio theory posits that investors can improve the risk-adjusted returns of their portfolios by diversifying across multiple assets with varied correlations. It proposes that investors can identify an optimal asset allocation designed to generate an ideal balance of minimal risk versus maximum return. For many investors, the framework recommends a portfolio allocation of 10-20% to alternatives, including real estate.
Many endowments have taken this portfolio construction philosophy and pushed it even further. Within the Ivy League, Yale’s David Swensen is often credited for creating and popularizing the so-called endowment model, which advocates for a markedly higher allocation to alternative assets. The approach has paid off handsomely: Swensen earned the Yale endowment more than $20 billion in excess returns over a 20-year period, and during the first 30 years of his leadership, the fund earned an average annual return of 12.5%. 
Under Swensen’s direction, Yale dramatically reduced the endowment’s exposure to U.S. securities by reallocating from traditional to alternative asset classes. In 1987, nearly 80% of the endowment was committed to U.S. stocks and bonds. In recent years, the program’s target allocations have called for less than 10% in domestic securities while diversifying assets such as foreign equity, real estate, and venture capital have come to dominate the endowment, representing approximately 90% of the target portfolio.
Other endowments are following suit, with alternative assets in university funds rising from only 7% of holdings in 1990 to 55% in 2015.
Within alternatives, real estate plays a particularly vital role, due to its ability to both provide meaningful diversification, and generate a steady flow of income while maintaining equity upside. Not surprisingly, Ivy League endowments commonly target high single-digit percentage allocations to direct real estate investments — and often much higher. For example, Yale’s real estate allocation between 2015 and 2019 averages to 12%, while Harvard’s real estate allocation averages to 14%. With a similar mindset, Princeton holds an 18% allocation in real assets, highlighting, in particular, the potential to generate superior risk-adjusted returns by investing in these assets long-term.
What Ivy League endowment real estate allocations mean for accredited investors
Compared to Ivy League endowments and institutional investors in general, most individuals allocate substantially less of their portfolios to alternatives at large, and even less to real estate in particular. In fact, individuals dedicate an average of just 5% of their portfolios to alternatives, according to a report by the Money Management Institute. As a result, individuals with long-term investment horizons may be missing out on a potentially attractive source of diversification and risk-adjusted return.
It’s important to note that Ivy League endowments primarily focus their real estate capital on private, direct investments; publicly-traded real estate investments, such as shares of REITs, are less commonly held. While accredited investors may readily recognize direct real estate as a valuable addition to the traditional stock and bond portfolio model, it has historically been difficult to efficiently access the asset class.
Ivy League endowments are able to draw on relationships and local expertise to identify quality investments, but it is often more challenging for individuals to complete the rigorous analysis required to add high-caliber direct real estate investments to their portfolios. Fortunately, the investment landscape for accredited investors is changing. Platforms like Cadre are enabling more efficient, institutional-caliber participation in direct real estate investments, allowing accredited investors to more closely apply the endowment model to their own portfolios.
Northern Trust, “Illuminating the Returns of Elite Investors,” April, 2014, https://www.northerntrust.com/documents/commentary/investment-commentary/illuminating-returns-elite-investors.pdf ↩︎
NACUBO, Public NTSE Tables, January 30, 2019, https://www.nacubo.org/Research/2019/Public-NTSE-Tables ↩︎
Historical university endowment reports ↩︎
Benchmark 60/40 weighting applies 60% to the S&P 500 and 40% to the Barclays US Aggregate Bond Index, rebalanced annually 30th June (endowment fiscal year-end) ↩︎
Guru Focus, “David Swensen: His Model and Execution Made Yale Richer,” February 7, 2018, https://www.gurufocus.com/news/637231/david-swensen-his-model-and-execution-made-yale-richer ↩︎
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