Looking beyond asset allocation to enhance educational endowment returns

High inflation and a challenging market environment represent a financial one-two punch for many schools and colleges. These conditions not only force institutions to divert endowment funds to cover rising expenses, but they also dampen an endowment’s asset value growth at a time when institutions are wrestling with higher costs.

In 2022, higher education institutions saw operational costs rise in all categories, with the Higher Education Price Index (HEPI) inflation rate topping out at 5.2%—the highest rate since 2001. It’s almost double the 2021 rate, when costs rose 2.7%.^{Disclosure 1}

High interest rates are also affecting operating margins as the cost of debt service rises, causing some institutions to push against or beyond the limits established in their covenants. Expecting higher endowment draws to cover operating margin shortfalls is no longer a viable answer in today’s environment. The stock market’s recent downturn has sent endowment investment returns into negative territory, a marked change from their strong performance in 2021. Returns on endowment portfolios fell on average 8.0% in 2022, with smaller institutions hit especially hard.^{Disclosure 2}

Given higher costs and lower endowment returns, many institutions are looking for ways to operate more efficiently and reduce expenses while rethinking their approach to endowment management.

Looking for improvements to close the financial gap.

Institutions, especially those that provide generous scholarships and financial support to students, are looking for operational cost savings to fulfill their missions in an inflationary environment. Yet operating improvements alone are unlikely to deliver the financial results needed in today’s economic climate, and that has leaders looking for opportunities in donor management as well.

Many institutions still manage planned giving and donor fund accounting with inefficient, manual processes to track donors and their financial information. Using spreadsheets for sub-fund accounting creates a time-consuming administrative burden when institutions are looking to improve staff productivity and introduces the possibility for error in recording donor gifts.

At a time when donors expect greater transparency about the institution’s stewardship of their gifts, outdated donor management processes hinder an institution’s ability to fully apprise donors of the current fund value of their donations and the benefits their gifts are providing. Fund accounting is more than a courtesy that donors appreciate. They’re more likely to give generously now and in the future when they can observe the growing value of their gifts and witness the ongoing benefits for students.

Nonprofit fund accounting solutions can automate the tracking and reporting of donations resulting in increased accountability for financial staff and greater visibility for improved oversight by the investment committee, their trustees, and the board. Some endowment managers, like Truist Foundations and Endowments, can provide comprehensive solutions.

Regular review keeps investment costs in line.

Endowment investment advisory and management expenses are another area where wise stewardship can deliver meaningful cost savings. Regularly reviewing the fees and costs associated with managing an endowment is a prudent move, even if your institution’s charter or board policy don’t require periodic requests for proposals for these services.

Scrutiny of the fee structure can often reveal costly investment vehicles or hidden fees, both of which can erode net endowment returns. A cost review provides an opportunity to consider the value of the service the school is receiving for management costs and fees.

Beyond fees, a strong investment platform is vital in meeting your investment objectives while providing quality advice and service to yield the returns you need. When reviewing investment advisors and managers, consider:

• Do investment advisors bring substantial experience in the educational endowment space and knowledge of its unique challenges and opportunities?
• Do investment managers specialize in serving institutions of comparable size?
• Do they offer open architecture (both in-house and third-party products and services) for endowment investment choices?
• Are the investment recommendations conflict-free (i.e., not exclusively proprietary)?
• Do they utilize appropriate benchmarks to evaluate endowment performance and identify best-fit investment vehicles?
• Are they adept at tailoring guidance to align with institutional values? Do they have an approach to managing investments to fit your institution’s environmental, social, and governance (ESG) objectives?

Addressing considerations like these can reduce costs, ensure that fees paid meaningfully bolster your endowment today, and create an asset that will provide financial support for your institution over the long term.

Optimize your investment strategy to raise endowment performance and growth.

Controlling endowment costs addresses the expense side of the cash flow equation, but what about the income and returns side? During periods of high inflation and market volatility, protecting endowment income is critical for ensuring adequate institutional support and positioning for a strong future.

Begin by evaluating your endowment investment portfolio. Does the investment strategy reflect the specific needs and goals of the institution? Have you rebalanced your investment mix lately to account for changes in the economy, asset class performance, and changes in investment risk? Many institutions are automatically funneled into a common plan, so it's important to make sure you’re not one of them. A “one size fits all” investment strategy doesn’t recognize the nuances of your institution’s endowment and is not likely to maximize its financial potential.