The Hess Collection/
University begins review of investment strategy
The Hess Collection/

President Tilghman told alumni at Reunions that Princeton was likely to end the fiscal year June 30 with a 25 percent decrease in the value of its endowment, which was $16.3 billion a year earlier.  

In April, Tilghman had said the University was planning for a 30 percent decline in the endowment. A loss of 25 percent would outpace the stock market’s performance over the same period as measured by the S&P 500, down 29 percent as of June 24.  

Despite the losses, University officials said that they don’t have to make big changes to their investment strategy, though Tilghman said in an e-mail to PAW that it is being reviewed. Officials say they recognize that they face serious financial challenges, but insist that they’re confident in the decisions they’ve made about where to invest Princeton’s money and how much risk they’ve taken on.  

In response to the economic downturn, the University plans to shrink its $1.3 billion annual budget by $170 million and reduce endowment spending by 15.4 percent over two years. [See story, page 12.]

“I’m very confident that we will be able to execute this plan over the next two years and bring the University’s finances under a very stable position going forward,” Tilghman told alumni. “If there is another shoe to drop in the markets ... we will regroup and develop a different plan.”

The retrenchment follows a period when the fast-growing endowment fueled increased spending on financial aid, faculty, and construction.

Princeton’s investment strategy has sought over time to make or exceed low double-digit returns, similar to those of the U.S. stock market, with less risk than investing solely in U.S.-based companies. Instead, the endowment has invested in a range of alternative investments, including natural resources and companies in developing countries.

In her e-mail to PAW, Tilghman said the University “would be remiss if we did not use this opportunity to reconsider the underlying assumptions of our investment policy, and to either reaffirm them, or to modify them if we think they are no longer valid.”  

Even with this past year’s decline, she noted, the endowment is up 50 percent since 2001, when she was named president. The 2001 total would have increased by 75 percent if funds were neither added nor withdrawn during that time, according to Andrew Golden, president of the Princeton University Investment Co. (Princo), which manages the endowment.

“The tremendous growth in the endowment informs how we think about what has transpired in the last eight months, and how we should go forward,” Tilghman said.

Other Ivy League schools have reported endowment losses in the 20 to 30 percent range. Princeton said that in October it will be able to announce results of the endowment’s performance as of June 30.

In written responses compiled by Vice President and Secretary Robert K. Durkee ’69 to questions submitted by PAW, the University said it continues to believe that it can achieve returns of 10 percent or more over the long term.  

The University said its policies “are designed to strike the right balance between generations in both benefit-sharing and risk-sharing ... one needs to accept some level of risk in order to benefit from the kind of growth that Princeton has experienced over many decades.”

Before the downturn, the endowment grew by 14.9 percent annually over the last decade, outperforming the markets overall.

The University came to rely increasingly on the endowment to pay its expenses, with the amount varying year to year. In 2000–01, the endowment funded 33 percent of the annual budget; in 2008–09, the endowment supported 48 percent of the budget.  

The University said that several factors drove the increased use of the endowment. Officials said they have adjusted endowment spending upward in light of the fast growth of its investments and new gifts added to Princeton’s coffers. They added that they tried to curb tuition increases — a primary source of revenue — as the University’s no-loan financial aid expanded. Increases in federal research funding did not keep up with the growth in the budget. At the same time, Congress has been pressuring universities to spend more of their savings.

The endowment grew so fast in large part because of Princo’s strategy of putting money in long-term, untraditional investments. Princo largely sidestepped domestic stocks. According to the University, as of June 30, 2008, the portfolio included 25 percent private equity; 22 percent real estate, timber, and other “real assets”; 8 percent domestic stocks; 8 percent emerging-market stocks; 7 percent developed-country stocks; and 5 percent fixed income. The remaining 25 percent was in a category the University calls “independent return,” which involves specialized investment funds, such as hedge funds, that seek gains regardless of overall market trends — for example, by betting on when a company might emerge from bankruptcy, or short-selling stocks.

Endowments of other Ivy schools also focus on investing abroad and in hedge funds, real estate, and natural resources. As of June 30, 2008, Harvard reported investing 34 percent of its portfolio in U.S. and foreign stocks; 16 percent in fixed income; 26 percent in real estate, timber, and real assets; 18 percent in hedge funds and similar entities; and 11 percent in private equity. Yale reported 25.1 percent of its portfolio in hedge funds and similar entities, 10.1 percent in U.S. stocks, 4 percent in fixed income, 15.2 percent in foreign companies, 20.2 percent in private equity, and 29.3 percent in real assets. (Percentages total more than 100 percent, reflecting the schools’ strategy of using leverage to invest more than their endowment’s value.)

Some of Princeton’s investments required a long-term commitment of capital, but the University’s money managers believed they would provide superior returns. For many years, they were right. But last year, when the markets crashed, concerns arose about whether Princeton could continue on the same financial path.

Officials acknowledged they had come to rely on the endowment more than ever for annual operating expenses. The University said it could have sold many of its investments in the endowment to raise funds for the operating budget in the last year, but selling them into a distressed market would have attracted far less money than Princo believed its assets were worth.  

Instead, the University borrowed money to support its operating budget. In January, Princeton, which already carried $1.5 billion in debt, sold $1 billion in bonds, divided between 10-year bonds at 4.95 percent interest and 30-year bonds at 5.7 percent interest.  

The University said it faces no liquidity concerns going forward. On any given day, it said, it has more than $500 million in cash available. And over the course of a year, just by selling its “most easily sold investments,” the University said it could raise three times the annual budget.

Carolyn Ainslie, vice president for finance and treasurer, said that borrowing rather than spending endowment funds allowed the University to avoid “decapitalizing at such a loss,” which would be “really detrimental to the long-term health” of the endowment.

Ainslie noted that every year, the Princo board looks at the endowment’s asset allocation and the University’s requirements for spending. The board in June made “some changes at the margin,” she said. The University declined to provide additional details.

When it comes to borrowing money, Princeton is faring better than many of its peers. Harvard had to pay significantly more to borrow money weeks before Princeton did. The two major credit-rating agencies downgraded Dartmouth, reflecting decreased confidence in the school’s ability to meet its obligations. Princeton retains its AAA rating, and among a group of seven selective schools that sold 10-year taxable bonds in recent months, only Stanford received a lower interest rate.  

University officials insisted that they were prepared for a market downturn more severe than last fall’s, though they acknowledged they didn’t expect such a crisis to come so soon. They said they had taken steps in the good years to prepare for a sharp downturn, such as allocating money to prepay debt.

Over the years, the trustees have concluded that spending 4 to 5.75 percent of the total endowment is appropriate, with the amount increasing by about 5 percent a year. In 2009–10 and in 2010–11, however, endowment spending will decline by 8 percent each year. Even so, the University expects to spend 6.7 percent of the endowment’s value on the operating budget in 2009–10.  

At Reunions, Tilghman said the endowment was back to its 2006 level. “In 2006, we thought we had a pretty fine University, and we thought we were doing awfully well,” she said. “So while this is a very significant decline, we have to put it in some kind of perspective.” She added that the University’s highest priorities — such as financial aid without loans — would be unaffected by the market downturn.

Zachary Goldfarb ’05 is a financial writer at The Washington Post.

The University’s views on ...

Preparing for hard times: As we increased our spending ... we did so prudently, knowing that just as markets over recent years had yielded very high returns, a day could come when returns would be much lower or even negative.

Liquidity: On any given day, more than a half-billion dollars of cash is readily available.

Risk: One needs to accept some level of risk in order to benefit from the kind of growth that Princeton has experienced over many decades.

Return: We believe it continues to be reasonable to aim for a return over time approaching or exceeding 10 percent per year.