Report targets universities’ role in financial crisis

By Marina Villeneuve

High-risk investment strategies pursued by Dartmouth College — and other institutes of higher education, including Harvard U. — contributed to the recent financial crisis by increasing risk in the capital markets, according to a report conducted by Tellus Institute and the Center for Social Philanthropy. Despite the long-term gains it may have produced in the past, the institutions’ “endowment model of investing” worsened the effect of the financial crisis on the campuses, their surrounding communities and the “wider financial system in general,” according to the report.

“The Endowment Model of Investing is broken,” the report stated.

Although for-profit institutions like banks have received the most scrutiny for instigating the recent financial crisis, not-for-profit institutions are not “innocent victims of the financial crisis,” the report said. Rather, the influence of college endowments on financial markets extended beyond their campuses. Institutions not only provide a significant source of capital, but also provide academic credibility to high-risk strategies, the report said.

The endowment model of investing, developed by Yale U. chief investment officer David Swensen, depends on alternative assets including commodities, real estate and private-equity holdings to increase returns. By assuming greater financial risk, endowment managers expose colleges to the “rampant volatility of the global capital markets,” according to the report.

During the financial crisis that began in 2008, investment losses at colleges and universities nationwide “destroyed tens of billions in endowed wealth,” which made up 30 percent of the total national endowment. This drop in endowment justified pay-cuts, hiring freezes, lay-offs and cuts in program offerings, the report said. The Service Employees International Union, a union representing staff at schools including Dartmouth and Harvard, provided partial funding for the report.

Dartmouth reported a 23-percent decline in endowment value between 2008 and 2009, The Dartmouth previously reported.

A “Wall Street culture” has influenced the investment risk-taking strategy of the “endowment model” among certain higher education institutions, according to the report, which also surveyed Massachusuetts Institute of Technology, Boston College, Boston U. and Brandeis U.

Such influences include the hiring of “excessively compensated” chief investment officers from investment banks and consulting firms as college administrators, according to the report.

Dartmouth’s former Chief Investment Officer, David Russ, earned nearly $1 million in 2008, including benefits and bonuses, even as Dartmouth’s endowment descended “into its most severe investment losses in history,” according to the report. Russ’ salary was over $300,000 more than that of former College President James Wright, who earned $500,000 in 2008. Russ left after four years to become chief investment strategist at Credit Suisse, according to the report.

Chairman-elect of the Board of Trustees Stephen Mandel has filled the resulting “leadership vacuum over endowment management,” the report stated. His firm, Lone Pine Capital LLC, manages a $10 million portion of the College’s investments. Additionally, the firms of more than six Dartmouth trustees manage multimillion-dollar endowment investments.

Conflicts of interests on governing boards such as these have weakened the “independent oversight of investments,” according to the report.

Members of the Board whose firms manage College investments recuse themselves from Board discussions about those investments, in order to avoid potential conflicts, College director of media relations Roland Adams previously told The Dartmouth.

Experience in shadowing bank systems and corporate directorships through alternative asset management firms may have “de-sensitized [trustees] to the risks associated with exotic, illiquid investments that they deem ‘normal’ business activities,” according to the report.

Tellus Institute contacted Dartmouth Students Stand With Staff through a series of phone calls to assess the transparency of public information available to students, according to Eric Schildge, a cofounder of SSWS.

Schildge said the College should pursue a more explicit policy concerning conflicts of interest and that the Board should diversify its perspective by incorporating academics, students and local alumni into its membership. Approximately 70 percent of current Dartmouth trustees hold MBAs, and 45 percent of the Board works in finance, according to the report.

Despite potential conflicts of interest, Dartmouth’s access to prominent money managers must not be discounted, according to Dartmouth economics professor Jonathan Skinner.

“The great advantage of Dartmouth is that it has access to some of the smartest money managers in the world,” Skinner said.

Local communities surrounding the six surveyed institutions will lose at least $1.35 billion in economic activity from cutbacks and delayed construction projects over the next three years, according to the report. The decline in institutional spending will affect the “livelihoods of thousands of families and impose billions of dollars in costs upon the communities in which colleges operate.”

Dartmouth administrators have laid off or eliminated 275 positions, encouraged 105 early retirements, reduced hours for 107 employees and instituted a hiring freeze. These “reductions in force,” according to the report, will result in a “regional annual economic impact” of over $30 million.

College President Jim Yong Kim announced a set of roughly 76 layoffs in February, a number that was lower than anticipated.

Skinner, however, said that the model is not broken. At times when the College’s endowment has flourished, it has stimulated the Upper Valley’s job market, he said.

“What’s worse: to add 400 jobs and have to cut 80 of them, or adding 100 jobs and not cutting any?” Skinner said. “While they had to cut jobs, [the report] does not consider the fact that the reason they had to cut positions was that there were so many that were added when the endowment was larger.”

Colleges’ tax-exempt status, while aiding endowment growth, has also cost communities, the report said.

Skinner said, however, that colleges receive, and should continue to receive, tax-exempt status because their income goes towards “educating students and creating new knowledge.”

The report identifies colleges and universities as role models within a broader economic system.

“Rather than contributing to systemic risk, endowments should therefore embrace their role as nonprofit stewards of sustainability,” the report states in its conclusion. “Rather than helping to finance the shadow banking system, endowments should provide models for transparency, accountability and investor responsibility.”

Skinner said that while many schools became caught in “a liquidity crunch,” they still ended up with more money than if they had followed a conservative investment strategy.

Read more here: http://thedartmouth.com/2010/05/21/news/report/
Copyright 2024 The Dartmouth