Harvard Not Hedging, Will Cut Investment Staff
January 26, 2017 Mark Hrywna
The investment management arm of Harvard University plans to make sweeping changes, cutting about half of the 230 staff by the end of the year and outsourcing the functions to outside managers. It also will shift from a silo investment approach to a generalist investment model focused on the overall endowment.
N.P. “Narv” Narvekar was hired last year as president and CEO of the largest university endowment in the nation, Harvard Management Co. (HMC), assuming the post in December. The nearly $36 billion endowment is made up of more than 13,000 funds and in recent years has lagged its Ivy League counterparts, particularly after the recession.
Narvekar explained the changes in a three-page letter to the Harvard community on Wednesday.
“In recent years, the tremendous flow of capital to external managers has created a great deal of competition for both talent and ideas, making it more difficult to attract and retain the necessary investment expertise while also remaining sufficiently nimble to exploit rapidly changing opportunities,” he wrote. With a very small percentage of the endowment comprised of active hedge fund investments managed internally, the “organizational complexity and resources necessary to support the investing activities of these portfolios” can no longer be justified.
HMC will shut down internal hedge funds by the end of this fiscal year, June 30. The direct real estate investments portfolio will be spun off and become an external manager by the end of 2017 while the natural resources portfolio will be managed internally for the time being.
The silo approach created unintended consequences, sometimes “creating gaps in the portfolio and unnecessary duplication,” he said, as well as an overemphasis on individual asset class benchmarks. Narvekar expects compensation for investment professionals will be driven by aggregate performance of the overall endowment by the beginning of fiscal year 2018.
During his time at Columbia University, Narvekar used the hybrid approach, employing hedge funds as well as in-house portfolio managers. The $9 billion endowment portfolio delivered annualized 10-year returns of 10.1 percent through 2015.
Harvard has averaged an annual return of 5.6 percent over the last five years, the weakest among Ivy League schools, including a 2-percent return on investments in the most recent year ending June 30. The real estate portfolio was the highest-performing asset class with nominal return of 13.8 percent. Natural resources and public equities portfolios underperformed respective benchmarks, delivering nominal returns of 10.2 percent. The endowment distributed $1.7 billion to the university last year, contributing more than one-third of the university’s total operating revenue.
HMC also will create a tool to focus on risk allocation rather than asset allocation, allocating portfolios based on underlying exposures. Columbia developed a similar framework in 2004, he said. “Coming into 2007/2008, there was an arms race among the endowments to take on more and more risk, and many endowments, including Harvard paid a severe price,” Narvekar said.
Harvard’s investment management arm also announced four new hires yesterday, including a chief investment officer, who will “play a key role in the transition from asset class-specialization approach to a generalist investment model and help support a strategy of further deepening relationships with a select group of external managers.”
The reorganization of HMC and its portfolio is a five-year process and while fiscal 2017 performance will be challenged, by the end of the calendar year the organization will look and active very differently than it does today.
Narvekar said his experience at Columbia proved that it required about five years to position both the organization and portfolio to “deliver strong risk-adjusted returns subsequent to that period.”
According to a recent survey, university endowments returned an average of 2.4 percent for the fiscal year ending June 2015, the most recent year available, compared with 15.5 percent for 2014. It was the lowest return since -0.3 percent for 2012, contributing to a decline in average 10-year returns from 7.1 percent to 6.3 percent.
The 2015 NACUBO-Commonfund Study of Endowments (NCSE) was based on 812 college and university endowments and affiliated foundations, representing some $529 billion in assets. The annual survey covering fiscal 2016 is expected to be released next month.