- April 1, 2018: Vol. 5, Number 4

Investing like the Harvard and Yale endowment funds

by Michael Azlen

U.S. university endowments, such as Harvard and Yale, have been leaders in diversified multi-asset-class investing for more than two decades. Through this approach to investing, and with a large exposure to alternative asset classes, they have consistently achieved attractive annual returns with moderate risk. This paper explores whether investors can benefit from applying these investment principles to their own portfolios.

The rationale for investing across multiple asset classes is supported by modern portfolio theory. This theory, developed by Nobel Memorial Prize–winning economist Harry Markowitz, demonstrates the risk-adjusted returns of a portfolio can be improved by diversification across assets with varied correlations. Modern portfolio theory is at the heart of the investment philosophies of the Harvard University and Yale University endowments, and is the foundation upon which their portfolios are constructed.

Gary Brinson, Randolph Hood and Gilbert Beebower’s seminal 1986 study into the importance of asset allocation, and the work of Roger Ibbotson and Paul Kaplan in 2000, determined the vast majority of the variability of a portfolio’s returns emanated from the long-term or strategic asset allocation of the portfolio. Therefore, an investor constructing an indexed portfolio with a similar asset allocation to the top-performing endowments should, in theory, achieve similar return-risk characteristics to these successful investors.

U.S. endowments are exceptionally well resourced and have access to the best fund managers and private equity programs, which contributes significantly to their investment success. By adopting similar asset-allocation principles, however, it is possible for smaller investors to obtain high levels of risk-adjusted returns for their own portfolios — superior to that of traditional equity/bond portfolios and to most balanced investment funds.


University endowments are non-taxable vehicles established to contribute toward the future funding requirements of colleges and universities. Their funding comes from a combination of legacies, gifts and investment returns. They employ an investment philosophy focused around diversification, taking advantage of a long-term investment time horizon that allows them to invest a portion of capital in less-liquid assets whilst also being tolerant of market volatility. This, in turn, ensures the pursuit of long-term investment objectives, as opposed to reacting to shorter-term market movements.


Examining the strategies of U.S. endowments is of relevance to investors for the following reasons:

  • U.S. endowments have consistently achieved superior investment returns. This is especially the case for the “super endowments” of Harvard and Yale. They have achieved an average 20-year annualized return of 11.2 percent, which is 5.2 percent greater than the returns of a traditional 60/40 global equity/bond portfolio.
  • U.S. endowments have diverse portfolios with exposure to multiple asset classes, including significant exposure to alternative assets. This emphasis on diversification provides inspiration for smaller investors looking to meet their own personal long-term investment objectives at a time when many investors are looking at ways to diversify from large bond holdings into alternative asset classes.
  • U.S. endowments typically have long-term investment horizons and stable, strategic asset allocations over time — asset allocations that rely less on market timing for generating returns with lower trading costs.


The average U.S. endowment held roughly 70 percent in traditional asset classes — public and private equity, bonds, and cash — with the remaining 30 percent invested in alternative assets. By comparison, the largest 20 endowments and the super endowments (in reference to their size) of Harvard and Yale held 55 percent in traditional asset classes, with the remaining 45 percent allocated to alternatives. The additional diversification employed by the larger U.S. endowments is one of the reasons for their superior long-term investment performance. In particular, the larger endowments have sizeable allocations to alternative asset classes such as real estate, commodities, natural resources and absolute return strategies, which can be seen to be positively correlated with long-term performance.


Frontier Investment Management places particular emphasis on the asset-allocation methodology of the largest five endowments, which include Harvard and Yale. These funds have consistently been five of the better-performing U.S. endowments, with annual returns placing them in the top 10 out of more than 800 U.S. endowments in a majority of years. For the 20 years to June 2016, the annualized return for the top five was 11.2 percent, greater than the vast majority of their peers and the 6.0 percent of a traditional portfolio.

In the United States in 2016, 805 endowments represented $515 billion in aggregate assets; the largest fund was Harvard University, with $35.7 billion under management, followed by the Yale Endowment at $25.4 billion. The top five account for $132 billion, which represents 26 percent of the 805 endowments’ assets. These funds have been pioneers in multi-asset investing.

Like U.S. endowments in general, the asset allocations of the top five endowments have been very stable over time, changing by an average of only 5 percent per year over the past 15 years. A large part of this annual change is due to asset-class price movements because the target allocations of these investors are stable, long-term and strategic.

These stable allocations reflect their long-term investment horizons and willingness to remain invested throughout economic cycles. They generally do not seek to tactically time the markets.


The superior returns, long-term investment horizons, and stable asset allocations of the top five funds make benchmarking to their asset allocations attractive. Academic research by Brinson and Ibbotson et al. has confirmed the strategic asset allocation of a portfolio is the dominant driver of both return and risk.

We created an Endowment Index Portfolio (EIP) that applies the top five’s asset allocations to a set of indexes. This allows us to determine whether a multi-asset portfolio is able to deliver superior risk-adjusted returns relative to a traditional portfolio. In addition, it will provide insight into the importance of strategic asset allocation and also the amount of alpha generated by the top five endowments. We also create a second endowment index portfolio that substitutes the Cambridge Associates U.S. Private Equity Index (non-investable) with an investable proxy index that offers investors daily liquidity, in line with the rest of the EIP.


The first step was to take the average annual asset allocation of the five largest U.S. endowments at yearly intervals from July 1996 to June 2016. The only asset allocation adjustments made were to reallocate cash so the portfolio could be directly comparable to a fully invested portfolio. Further analysis of the underlying exposures allowed us to divide the equity allocation into “U.S. domestic,” “International,” and “Emerging” components. A major benchmark index was selected to represent the returns from each asset class. For private equity, we used the Cambridge Associates U.S. Private Equity Index and as a liquid private-equity proxy, the LPX 50 Index. The asset allocation for 2016 places 56 percent of the portfolio in equity/bond asset classes, with the remaining 44 percent allocated to alternative asset classes.

Portfolio returns were calculated by multiplying asset class weights by index returns in U.S. dollars from July 1996 to June 2016 (20 years) and rebalanced annually every June 30.

For comparison purposes, an EIP hedged into British pounds was also calculated. All returns are shown gross of fees and access costs.

The EIP generated a 20-year annualized return of 8.4 percent (9.2 percent hedged into British pounds) since July 1996, relative to 6.0 percent for a global equity/bond portfolio and 6.8 percent for the average endowment fund.

Comparatively, the EIP using a liquid private-equity proxy index generated an annualized return of 7.3 percent (8.1 percent hedged into British pounds) with only slightly greater volatility, highlighting the attractive returns that can still be obtained without sacrificing liquidity.

The EIP generated a 15-year annualized return of 7.5 percent, which was less than the top five endowments but still captured 85 percent of their return, with similar levels of volatility. The EIP substantially outperformed a traditional equity/bond portfolio, which generated 5.3 percent.

Over the 20-year period and using annual return data, the EIP has a correlation of 94 percent to the top five endowments, with an R-squared of 88 percent indicating the EIP is a good fit (T-Stat =2.13).

Outperformance versus global equity/bond portfolios over long periods of time illustrates the benefits of a globally diversified asset allocation with significant allocations to alternative asset classes. Relative to an equity/bond portfolio, the EIP increased the 20-year annualized return by 38 percent. In addition, equity/bond portfolios have experienced a 20-year period of declining interest rates, which has been a key driver of bond returns. Going forward, bonds have a low probability of generating these high historical returns.

While the EIP performance is not as strong as the top five endowments, it still manages to capture 81 percent of their return, thereby supporting the researchers’ findings that strategic asset allocation drives the majority of the variability of portfolio returns. It also confirms the top-performing and elite endowment funds generate alpha of 1.3 percent to 2.8 percent per year, which is consistent with other academic research on endowments.


The top five endowment funds have consistently achieved attractive investment returns with moderate volatility due to their multi-asset approach to investing, their strategic approach to asset allocation, and their significant exposure to alternative asset classes. Whilst the financial crisis of 2008 negatively impacted the performance of U.S. endowments, their long-term investment strategy has prevailed to the extent long-term total and risk-adjusted returns remain superior to those of traditional portfolios.

Although most investors do not have access to the superior resources of the larger endowments, this research note demonstrates, by applying their multi-asset principles to an investable index-based portfolio, there is considerable scope for achieving risk-adjusted returns that have historically been superior to those of more traditional portfolios.

This article was excerpted from the Chartered Alternative Investment Analyst Association report Investing Like the Harvard and Yale Endowment Funds, and was written by Michael Azlen, an executive with Frontier Investment Management.

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