How to Invest Like Yale

by Alyssa Oursler | January 22, 2013 1:00 pm

Most people probably think of colleges and universities as mere pathways to a degree and then a paycheck, but lots of schools have pretty big checks coming their way as well.

Take Yale University, for example — one of the wealthiest colleges in the country, second only to fellow Ivy-Leaguer Harvard. The school has a whopping $19.3 billion endowment[1]. Ten years ago, that total was only $10.5 billion.

Approximately three-quarters of those university’s funds are true endowment, which the institution describes as “gifts restricted by donors to provide long-term funding for designated purposes.” The remaining funds are quasi-endowment — money Yale chooses to invest … and money that David Swensen oversees.

The Connecticut-based school took a huge hit during the financial crisis, losing a whopping 25%. Since then, though, things have gotten back on track. In fiscal 2011, Yale boasted a return of nearly 22% and in fiscal 2012, it generated a 4.7% return for an investment gain of $913 million. While that lagged the broader market’s gains for 2012, the institution also boasts annual net investment returns of 10.6% — hardly anything to sneeze at.

So, how can you invest like Yale?

Well, it’s not easy; the university prefers non-traditional assets, with around 35% of its funds in private equity (with a 30% annualized return since its inception in 1973), 22% in real estate and around 15% in hedge funds (which it is planning to increase again after cutting last year).

As the school explains:

“Over the past two decades, Yale dramatically reduced the Endowment’s dependence on domestic marketable securities by reallocating assets to nontraditional asset classes.The heavy allocation to nontraditional asset classes stems from their return potential and diversifying power. Alternative assets, by their very nature, tend to be less efficiently priced than traditional marketable securities, providing an opportunity to exploit market inefficiencies through active management.”

Still, you can more-or-less replicate the basic breakdown of Yale’s other investments using exchange-traded funds. Take a look at the breakdown and some similar-flavor investments:

Yale Asset Allocation
Asset CURRENT Allocation Relevant ETF Ticker EXPENSE RATIO
Absolute Return 14.5% IQ Hedge Market Neutral ETF QMN[2] 0.99%
Domestic Equity 5.8% Schwab U.S. Large Cap Growth ETF SCHG[3] 0.07%
Fixed Income 3.9% Vanguard Long-Term Bond ETF BLV[4] 0.11%
Foreign Equity 7.8% Guggenhem BRIC ETF EEB[5] 0.64%
Natural Resources 8.3% SPDR S&P Global Natural Resources ETF GNR[6] 0.4%
Real Estate 21.7% Vanguard REIT ETF VNQ[7] 0.1%

While there are countless funds that will give you absolute-return exposure, Index IQ is one of the leaders in the alternative-investment space. Its relatively new IQ Hedge Market Neutral  ETF (NYSE:QMN[2]) is an option which seeks to track the performance of the IQ Hedge Market Neutral Index — one of the largest hedge fund investment styles, in terms of the number of funds and amount of assets put to work.

The next few categories are much more traditional, but aren’t huge priorities for Yale. In terms of domestic equities, for example, Yale’s target allocation is only one-third of the average educational institution, while its foreign equity allocation is less than half the average. Fixed income is even smaller than usual at around one-quarter of the average.

For foreign equity, Yale targets China, India and Brazil the most, which is why the Guggenhem BRIC ETF (NYSE:EEB[5]) is one possible option, even though it hasn’t had the best luck over the past year. It tracks the Bank of New York Mellon BRIC Select ADR Index, which invests in a universe of depositary receipts from any of the BRIC nations.

Where Yale skimps on traditional assets, it makes up in real estate. As it explains,

“A steady flow of income with equity upside creates a natural hedge against unanticipated inflation without a sacrifice of expected return. Yale’s 22% long-term policy allocation significantly exceeds the average endowment’s commitment of 4.3%  … While real estate markets sometimes produce dramatically cyclical returns, pricing inefficiencies in the asset class and opportunities to add value allow superior managers to generate excess returns over long time horizons. Since inception in 1978, the portfolio has returned 11.6% per annum.”

If you don’t want to snatch up actual properties — which are both expensive and illiquid — a real-estate investment trust (REIT) is a great alternative. REITs are required by law to pay shareholders 90% of their profits in the form of a dividend, so the Vanguard REIT ETF (NYSE:VNQ[7]) boasts not only a low expense, but also a high yield.

The fund aims to mirror the MSCI US REIT Index, which represents about 85% of all U.S. REITs. It includes big-name companies like Public Storage (NYSE:PSA[8]) and Equity Residential (NYSE:EQR[9]) — and, if you want to invest like Yale, it’s a great place to start.

As of this writing, Alyssa Oursler did not own a position in any of the aforementioned securities.

  1. $19.3 billion endowment:
  2. QMN:
  3. SCHG:
  4. BLV:
  5. EEB:
  6. GNR:
  7. VNQ:
  8. PSA:
  9. EQR:

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