Clearing hurdle targets amid rising rates
Bridging the gap amid rising rates and inflations
For much of the past decade, the endowment and foundation community has expressed concerns about the challenge of meeting their spending requirements while maintaining funding levels in an environment of low yields and muted return expectations. This challenge, in many ways, has become even more daunting over the past year. Endowments and foundations must now grapple with increasing inflation expectations, the impact of rising interest rates and new pandemic-related spending pressures facing many of the institutions’ endowments and foundations support.
The 2020 NACUBO-TIAA Study of Endowments provides a fascinating window into the asset allocations, investment performance and spending decisions of higher-education institutions at this unique point in history. The report includes data from 191 endowments with more than $500 million in assets (which we refer to hereafter as large institutions) and covers the fiscal year ending 30 June 2020.
In setting their long-term return requirements, large institutions anticipated needing, on average, 4.7% to cover spending, 2.3% to meet long-term inflation expectations and 0.9% for fees and expenses. These three primary components add up to a hurdle rate of 7.9%. This is meaningfully higher than the 7.5% that is commonly cited as the typical hurdle rate for endowments. Unfortunately, the median five-year annualized return for large institutions in FY2020 was only 5.0%, and top-decile returns were just 6.6%.
Bridging this gap will require endowments and foundations to be more efficient in their search for diversified sources of return, while using all the levers at their disposal related to risk budgeting, liquidity management and rebalancing. In a rising-rate, inflationary environment, it is critical that endowments and foundations understand their portfolios’ exposure to the primary factors that drive return: rates duration, credit, equity beta and idiosyncratic.
In this Q&A, Nuveen’s Nathan Shetty looks at how endowments and foundations can optimize their approaches to portfolio construction, capitalize on current opportunities and enhance their ability to fulfill their spending goals.
About the 2020 NACUBO-TIAA study of endowments
The annual report analyzes the financial, investment and governance policies and practices of the nation’s endowed institutions for higher education. The 2020 report reflects the responses of 705 institutions representing $637.7 billion in endowment assets, including 191 institutions that have at least $500 million in endowment assets. For the purposes of this report, we focus on the survey results reported by these large institutions.
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