Breakingviews - The new Yale model is both obvious and hidden

Reuters

08-07-2025

NEW YORK, July 8 (Reuters Breakingviews) - The Ivy League's secret sauce is curdling. Elite university endowments that once boasted market-beating returns are now paying premium fees for pedestrian results. It couldn't come at a worse time, as the Trump administration slashes research grants and pushes tax changes that will hit campus coffers. The $838 billion collegiate investment machine faces a stark choice: embrace the public markets they once scorned, or venture into the wilds of still-nascent investment ideas.
As colleges' enrollment, tuition and subsidies grew throughout the 20th century, so too did their pots of money set aside for ongoing spending and emergencies. How they invested those funds changed, in large part, thanks to David Swensen. A postgraduate Yale alumnus who returned to manage his alma mater's investments in the 1980s following a stint on Wall Street, he championed diversification across both liquid and illiquid investments. As his disciples spread the word, endowments' public equity allocations fell, dropping from 49% to 37% of their portfolios over the two decades ending in 2024. Private equity and venture capital, meanwhile, quadrupled to 23%, according to asset manager Cambridge Associates.
Results were spectacular—at first. Pioneers secured access to exclusive funds run by buyout barons like Blackstone (BX.N), opens new tab or technology investors like Sequoia, back when their playbooks were less commonplace. Extraordinary returns from this period cemented the 'Swensen model.' Between 1999 and 2009, Yale returned, opens new tab an annualized 13.4%, while a traditional portfolio split 60/40 between stocks and bonds would have turned in a relatively anemic 2.3%, according to Breakingviews analysis, opens new tab. The trade-off made sense: while it's harder to quickly turn private investments into cash, the inconvenience promised a greater reward. Harvard, Princeton, Stanford and others followed Yale's example.
Yet overcrowding is now breaking the formula. Endowments compete not just with each other, but sovereign wealth funds, pension plans, family offices and even retail investors for a slice of private equity, credit and real estate funds. As they swell with assets, these strategies must look beyond the most tantalizing opportunities for less lucrative filler.
The effect is already visible. In 2023 and 2024, the average endowment lagged a simple stock-and-bond portfolio by 2 percentage points, according to Neuberger Berman. The CFA Institute finds that, for each percentage point increase in exposure to so-called illiquid alternatives, the average endowment now sees a 0.3-point decrease in excess returns.
Worse, President Donald Trump's agenda may force colleges to draw down from their endowments while taxing them more heavily. The administration is slashing $33 billion in annual federal grants and contracts that flow to schools. Gargantuan tax-and-spending legislation recently passed by Congress will raise the tax on endowment income for the wealthiest private universities from 1.4% to as much as 8%.
Sinking performance and a need for cash may stall the years-long rush into illiquid markets. Yale is looking to sell up to, opens new tab $6 billion worth of its stakes in private equity funds, the New York Times reported. The Massachusetts Institute of Technology, Notre Dame and others are exploring similar moves. Endowments constituted 10% of the $89 billion in secondary sales of buyout stakes, opens new tab in 2024, according to Evercore.
For panicking investment officers, there is a glimmer of hope. Smaller endowments with more money in publicly traded assets are now outperforming their giant, less liquid brethren. Institutions under $50 million averaged 13% annual returns over the past two years, while those over $5 billion earned 9%, data from Commonfund and the National Association of College and University Business Officers show.
Performing an about-face and re-embracing public markets requires admitting that paying hefty fees for mediocre performance no longer makes sense. The case for rebalancing, meanwhile, has grown more compelling. The S&P 500 Index (.SPX), opens new tab has returned 11.8% annually since the end of 2009, while the Nasdaq (.IXIC), opens new tab delivered a whopping 15.4%.
Furthermore, high interest rates mean that short-term Treasury bills and money market funds are offering yields of 4% to 5% with virtually no risks. Complicated alternatives struggle to match this precise combination. To boot, turning to outsourced chief investment officers for these straightforward strategies, as small colleges are increasingly, opens new tab doing, can further save on fees.
The other option for the still-ambitious endowment chief is to explore what Swensen termed 'dark corners': places where information gaps and structural barriers restrain copycats. Infrastructure remains one such frontier, particularly in emerging sectors like data centers, where the U.S. market is expected to nearly double to $411 billion by 2028, say Bank of America analysts, driven by artificial intelligence and cloud computing demands.
Along those lines, renewable energy project financing offers fertile ground for institutions capable of navigating complex regulations and multi-decade developments. Private investments in U.S. renewable energy and grid-enabling technologies are projected, opens new tab to reach $1 trillion by 2030, a 65% increase over 2021 levels, according the American Council on Renewable Energy.
Catastrophe bonds allow endowments to take advantage of the fact that they can be more patient than an individual investor. Essentially a form of insurance, these notes offer yields of anywhere from 8% to 15% in exchange for taking on the risk of major hurricanes, earthquakes, or pandemics. Modeling the ever-changing risks of this trade seems a neat fit for collegiate intellectuals. Better yet, though it has reached over $55 billion in size, according to Artemis, opens new tab, the market remains dominated by a small group of sophisticated investors.
Either way, though, the crisis facing endowments calls for stricter, opens new tab rebalancing, or an overhaul perhaps on the scale of the transformation wrought by Swensen. The clearest paths forward: on the one hand, simplicity; on the other, once again finding the strategies that the common investor would struggle to replicate.
Follow Sebastian Pellejero on LinkedIn, opens new tab.