Yale's David Swensen Speaks on the Investment Environment

David Swensen, the legendary chief investment officer of Yale’s $20 billion dollar endowment, recently appeared on Consuelo Mack’s WealthTrack for a two-part interview.

Swensen has literally transformed the way university endowments are managed all over the US. He has been so successful and influential that he has set a new standard for a wide array of institutional money managers from pension funds to foundations, and was recently named to President Obama’s new Economic Recovery Advisory Board.

His track record tells the story. Under his leadership Yale’s endowment generated 20 consecutive years of positive returns from 1988 until June of 2008, the end of its fiscal year. In the decade ended June of last year, the endowment had clocked an average annual return of 16.3%, versus 6.5% for the average college endowment and 2.9% for the S&P 500. That performance put Swensen in the top 1% of all institutional money managers and added an estimated $15 billion to Yale’s endowment. Yale did not escape last year’s market wrath. As of December, the portfolio lost about $6 billion or 26% of its value.

But how did he generate those long-term results? Swensen radically altered the instruments in which Yale’s endowment invests. From the traditional mix of domestic stocks, bonds and cash, he and his team switched to alternative investments. Their stake in private equity increased from under 4% to over 20%, real assets like timber and real estate increased from 8.5% to 29.3%, and hedge funds from zero to 25.1%. Meanwhile, the investment in domestic stocks and bonds plunged from over 70% to under 15%.

In this interview Swensen pulls no punches in his approach to investment strategy, Wall Street and the mutual fund industry. It rates as must-see viewing material.

Part 1

Click on the image below to view the first part of the interview and click here for a transcript of the discussion.

Part 2

In the second part of the interview, Swensen discusses the strategy behind the extraordinary long term track record of the Yale endowment, recent criticisms of the “Yale model” and his investment recommendations for individual investors.

Click here or on the image below for the second part of the interview.

Source: WealthTrack, May 22, 2009 (hat tip: GreenLightAdvisor).

Comments

[Graham and ...:]

Dear Prieur:

I made a similar point in my Instablog, "David Swensen and the New Efficient Frontier" that he had pushed out the "efficient frontier" with new instruments.

He doesn't push his ideas quite as far as I would lilke to see, but he's done quite well enough, thank you.

Jun 08 09:34 AM

[Uncle Pie:]

If you read Mr. Swenson's book, Unconventional Success, you'll find that about 60% of Yale's endowment was invested in hedge funds or private equity funds, an asset category which goes under the euphemism "absolute return". Given that hedge and private equity funds are almost always very highly leveraged, you have to see Yale's endowment as a giant margin account. Then you have to wonder what part of the outperformance was due to Mr. Swenson's expertise, and what part to plain old fashioned leverage. Mr. Swenson recommends index funds for us mere mortals. Again, this writer cannot see the wisdom of investing in a fund that mimics the S&P or Dow Indices. What can you say about an index that waits until after GM files for bankruptcy to kick out the stock? That's not so much like waiting to close the barn door after the horse has fled, as it is like closing the barn door after the horse has fled and subsequently died of old age. What sense does it make to invest like that?

Jun 08 10:51 AM

[Old Trader:]

Given that 26% haircut the endowment suffered, which, as I recall reading caused some financial difficulties at Yale, in terms having to cut back on some programs, I wonder if he'll continue to invest such a high percentage in illiquid assets?

Jun 08 07:44 PM

[Henry Buttal:]

Uncle Pie,

This was part of Mr. Swenson's (and hedge funds in general) genius.

I am a university, or rich enough (I wish!) to qualify as an LP in a decent fund. I give the Hedgie $1 million under lock up, watch them go to one of the former/surviving Prime Brokers and get leverage, plus maybe help the fund float some commercial paper. Bang...the Hedge is at 10X plus leverage, I/my entity as an LP may be require to met some calls under the fund agreement, but likely not worse.

In the many good years, I made big LP money for me or the institution; the GP took is 2/20 in Capital, everybody got rich.

When things blow up finally in 2008 - hey, I am an LP. I lose what I have in the fund, but that is it! All those gains, and only down 30 per cent. Wish I had it so good....

Jun 09 11:38 PM

[Griller:]

Yes, and consider this regarding his advice regarding passive index investing:

1) If index funds undergo many years of slow decline how will that help the small, passive index investor?

2) There is also such a thing "growth bias," where we only expect capitalism to work. Note how in the interview he says "then capitalism isn't working" with a positivist grin.

On Jun 09 11:38 PM Henry Buttal wrote:

> Uncle Pie,
>
> This was part of Mr. Swenson's (and hedge funds in general) genius.
>
>
> I am a university, or rich enough (I wish!) to qualify as an LP in
> a decent fund. I give the Hedgie $1 million under lock up, watch
> them go to one of the former/surviving Prime Brokers and get leverage,
> plus maybe help the fund float some commercial paper. Bang...the
> Hedge is at 10X plus leverage, I/my entity as an LP may be require
> to met some calls under the fund agreement, but likely not worse.
>
>
> In the many good years, I made big LP money for me or the institution;
> the GP took is 2/20 in Capital, everybody got rich.
>
> When things blow up finally in 2008 - hey, I am an LP. I lose what
> I have in the fund, but that is it! All those gains, and only down
> 30 per cent. Wish I had it so good....

Jun 16 11:56 AM

[six:]

A better title would be- "Do as I say and not as I do" I have heard this baloney about Swenson and I don't buy it. Those hedge funds made him money becasue they actively traded and did not buy and hold (or hope as they case may be...) If there is someone at Yale to listen to it is Robert Shiller.

Jun 16 02:06 PM

[Fighting Yoda:]

Investing in hedge funds is like investing in Madoff minus the Ponzi scheme. The alternate investment and private equity strategy is no different than the bigger fool theory. All these investments were ultimately found to be illiquid and way over priced, and of course since correctly significantly - lumber and land and what have you. And of course the diversification into foreign stocks was not diversification, the world is a lot more coupled than we imagined.

All these were essentially self fulfilling trades, it worked when the herd followed and it died when everyone exited.

Jun 16 02:35 PM

[The Geoffster:]

Swenson is not speaking to the sophisticated investor when he recommends index funds. He is speaking to the average investor who's 401K is full of actively managed mutual funds which rarely beat the market and cost more than index funds. His point is simple. The average investor does not have access to the top tier money managers who have the potential to beat the market using enhanced beta strategies so save your money and buy the indexes.

Jun 16 03:03 PM

[debtacid:]

The fact that a lot of wall street insiders and high finance oligarchs went to Yale probably gave him a huge edge.

Jun 16 03:46 PM

[mkreisel:]

People always assume hedge funds to use lots of leverage.

But they are more likely to go into all cash than mutual funds.

What mutual funds have is basically a collection of positions that have 0.75+ correlations with each other.

Last year was really rough in that all positions have either a correlation of 1 or -1.

Jun 16 04:49 PM