printable versionRebuilding the endowment will take time, says CEO of Stanford Management Company
In his first presentation to the Faculty Senate since taking the helm at Stanford Management Company in 2006, John Powers presented an overview of how the department manages the university's investments.
John Powers, president and CEO of Stanford Management Company
BY KATHLEEN J. SULLIVAN
John Powers, president and CEO of Stanford Management Company, told the Faculty Senate last week that he has assembled a group of university experts to scrutinize the university's endowment model, and suggest changes, if needed, to the Stanford University Board of Trustees at its June meeting.
In his first appearance before the senate, Powers, who took the helm of Stanford Management Company in 2006, discussed the department's investing approach, endowment objectives, key investment processes, competitive advantages, the endowment's liabilities and obligations, and sources of liquidity.
He also discussed the lessons the department learned over the last 18 months.
"Outsize performance does come with a risk of volatility," he said. "There is no safe haven in a period like last year," he said. "But it is imperative to retain flexibility at market inflection points."
Powers said the university is operating from a position of strength as an investor, but rebuilding the endowment will take time.
"If you are down 25 percent, you need to be up 33 percent to be back even," he said. "Going uphill is not as easy as sliding down the hill."
Powers was one of three senior university officials who made presentations at the Nov. 5 meeting, the third session of the autumn quarter.
The senate also heard a presentation by Jack Cleary, associate vice president for land, buildings and real estate, who gave an update on construction projects on campus, and by Joseph Stagner, director of Sustainability and Energy Management, who talked about the university's new Energy and Climate Plan, which is designed to sharply reduce energy consumption and greenhouse gas emissions on campus.
A full account of Powers' talk – and other presentations at the meeting – can be found in the minutes of the meeting, which will be posted on the Faculty Senate website this week. The minutes will also include questions faculty members posed to the speakers, and their replies, as well as comments by Provost John Etchemendy and President John Hennessy.
Managing the endowment
Powers emphasized that Stanford Management Company, which was created in 1991 by the Board of Trustees, is part of Stanford.
"We are a department of the university," he said. "We are not an outside service provider to the university."
Stanford Management Company's board, which was appointed by the trustees, approves asset allocation targets, oversees the hiring of external asset managers, and evaluates the performance of its investments and professionals.
In addition to Powers, the board includes investment and real estate professionals, President John Hennessey and Chief Financial Officer Randy Livingston.
"Our primary responsibility is the management of this big pool of assets known as the Merged Pool, most of which is endowment-related funds and assets," Powers said. "We are a "fund of funds." What does that mean? We don't pick stocks. We pick managers who pick stocks, or managers who make venture capital investments, or managers who pick fixed-income portfolios for us. We pick the best third-party managers. We get leverage from being able to pick the best managers out there."
The Merged Pool is the university's primary investment pool and includes most of Stanford's endowment and expendable funds, as well as capital reserves from Stanford Hospital and Clinics, and Lucile Packard Children's Hospital.
In September, Powers announced that the Merged Pool dropped to $14.5 billion for the 12-month period ending June 30, 2009, compared with $20.6 billion for the same period a year ago.
In the fiscal year ending Aug. 31, 2009, the value of Stanford's endowment fell to $12.6 billion, compared with $17.2 billion for the same period a year ago. The change in endowment value includes investment losses and payout for university operations, as well as gifts made to the endowment.
Allocating assets
Powers said his staff decides how to allocate Stanford's investment money.
"We decide how much should go into equities, and of that, how much should go into emerging markets, developed non-U.S. markets, U.S. markets." he said. "What should be in private equity, venture, buyout, etc. What should be in fixed income. What should be in hedge funds – of which flavor."
Powers said that on occasion, the management company's staff will take direct action to increase or reduce risk in the university's investment portfolio.
"A good example of that is that we felt in mid-2007 that we had lots of credit exposure in the portfolio that we couldn't – overnight – get rid of, because it was embedded in the portfolios of some of our third-party managers," he said. "But it was illiquid and not easy to access. So we did things to reduce some of that credit portfolio on our own."
In hindsight, Powers said, it was a great trade.
"We did it in miniscule size relative to the impending credit crisis that was about to hit the world," he said. "So we do a certain amount of internal execution of investment strategies, but that's to offset or accentuate the exposures we get by outsourcing to external asset managers."
Powers said that first and foremost, the management company's goal is to support the payout policy of the university.
"We write a big check every year – or a series of checks every year – to the university in support of its academic and research and residential needs," he said.
Among the other goals Powers discussed: preserve the long-term purchasing power of the endowment; minimize fluctuations in payout; increase the financial resources of the university.
"You know, excellence is not a commodity," he said. "You have to pay up for it. The university is a great place. We want to keep doing our part to further the academic excellence of the university."
Putting last year in perspective
To help put last year's endowment performance in perspective, Powers presented a color slide comparing the annualized performance of Stanford's Merged Pool with that of five major markets – the S&P 500, indexes for foreign, real estate and commodities markets, and 10-year Treasury Notes, at 1-year, 3-year, 5-year, 10-year and 30-year intervals.
"We had a down year [in the year ending June 30, 2009], down 26 percent," he said. "But let's compare that to other markets. We're right on top of the S&P [down 26.2 percent]. We outperformed the real estate public markets. We way outperformed the commodity world and we lost to the 10-year Treasury [up 7.2 percent], which was a safe haven in the tumultuous year we had."
Powers said the financial picture was even brighter on a five-year basis.
"On a five-year basis we caught up with everything, including Treasuries," he said, pointing to a slide that showed Stanford's Merged Pool recorded a 6.8 percent gain, compared with losses ranging from 2.2 to 3.4 percent in the S&P 500, real estate and commodities markets, and a 5.5 percent gain in Treasury notes.
"On a 10-year basis, we trounce most other markets," Powers said, pointing to a slide showing Stanford's Merged Pool with a 9-percent gain, compared with a 2.2-percent decline in the S&P 500, and gains ranging from 1.6 to 6.3 percent in the other four major markets.
Powers said the 10-year period in which Stanford's annualized return was 9 percent included two "major meltdowns:" the global economic crisis of 2008-2009, and the 2000 bursting of the technology bubble, which hit the university particularly hard because of its significant exposure at that time to venture capital investments.
"I think this speaks pretty powerfully to the long-term viability of the endowment model," he said. "Anyone who would say the endowment model is dead – I would challenge them to put up an alternative to that kind of performance over any time frame over three years and tell us why that's a better model."
How did peer institutions fare?
Turning to a bar chart of the endowment losses reported by 20 universities for a fiscal year ending June 30, 2009, Powers said Stanford recorded the third highest percentage loss, with a 25.9 percent decline in the value of its endowment.
Cornell reported the second highest loss, at 26 percent. Harvard reported the largest drop, 27.3 percent. Just behind Stanford were Yale (24.6 percent loss), Duke (24.3 percent loss) and Princeton (23.7 percent loss).
"I give the operating university tons of credit for being aggressive with respect to expense reduction," he said, referring to recent budget cuts at Stanford.
Exploring possible partial secondary sale
On Oct. 21, Stanford Management Company announced that it was exploring a partial secondary sale of a portion of its private equity illiquid investments.
"We have a strong portfolio of liquid and illiquid investments," Powers said at the time. "We are fortunate that we were able to wait to explore the market for private equity assets at this time. Our liquid assets give us full confidence in our ability to meet our obligations to the university and to our investment partners. The strong rally in equity and credit markets makes now a good time to test the waters in the secondary market for some of our private equity investments, which would further enhance portfolio liquidity and flexibility."
Powers took the opportunity at last week's senate meeting to clarify the university's financial position.
"We are in the luxurious position, I think, of being able to sell to generate additional liquidity if we get prices that we find very attractive and if we really want to sell," he said. "We are not a distress seller. That was misreported in the press to some extent. We have ample liquidity reserves within the pool, not even going to our $800 million of additional cash reserves that we raised in the debt market in April."
Stanford raised $1 billion in a taxable bond issuance last April. A portion of the money was used to retire other university debt, while $800 million was retained as a liquidity buffer for the university. Those funds remain in a cash reserve and could be drawn to meet unanticipated needs of the university.
"We have ample internal reserves to meet our obligations, including the payout to the university as well as our commitments to our asset managers," Powers said.
"So we are dealing from a position of strength. We didn't try this when the market was really dislocated in October and November of 2008 like some of our peer institutions did. We waited until we had a good run in the markets, a lot of liquidity had returned to the markets – with much better pricing in both equity and credit markets – and now we are exploring a possible secondary sale. We may or may not transact."