U.S. Foundations Bounce Back in Fiscal Year 2003: Average Annual Total Return Rises to 17 Percent
Commonfund Benchmarks Study™- Foundations 2004 Study Shows Largest Foundations Returned 20.5 Percent; Independent Foundations 17.8 Percent, Community Foundations 17.0 Percent and Public Foundations 11.7 Percent; Diversification and Rebalancing Helped Performance
WILTON, CT, June 21, 2004 – According to the Commonfund Benchmarks Study® - Foundations 2004, U.S. independent/private, community and public foundations performed well in Fiscal Year 2003, participating strongly in the market upturn. Respondents reported an average total annual return of 17.0 percent net of fees, comparing positively with an average annual total return of – 8.7 percent reported in the CBS - Foundations 2003 survey. The largest foundations (assets over $1 billion) performed best with an average return of 20.5 percent, up from – 7.7 percent the prior year. Small foundations (assets of $50-100 million) reported an average return of 15.5 percent, up from -10.3 percent the prior year. Independent foundations had an average return of 17.8 percent, community foundations 17.0 percent and public foundations 11.7 percent. The difference in returns was due in large part to greater diversification and use of alternative strategies among the largest funds. For most participants, fiscal year-end was December 31, 2003.
“The performance of foundations in 2003 was gratifying given the effects of the three-year bear market on fund values,” said John S. Griswold, Executive Director, Commonfund Institute. “Spending rates were very high at 6.3 percent on average, well above the IRS required minimum of 5 percent -- suggesting that foundations are taking their role as providers of support for charitable causes in tough economic times very seriously. But despite the rebound in performance last year, it is likely to require multiple years of double-digit positive returns to make up for the last few years and restore foundations’ ability to make grants at pre-2000 levels.”
Asset Allocations
The 270 participating foundations as a whole reported a strong equity position with a large capitalization bias in their FY 2003 portfolios, as in the previous year. This high large cap growth allocation was due in part to donor stock holdings. The study reported overall average asset allocations of domestic equities (48 percent), fixed income (21 percent), alternative investments (14 percent), international equities (12 percent), and cash/short-term (5 percent) for FY 2003.
Allocation to Asset Classes1 by Size of Fund2
Based on 270 foundations that provided asset allocation data
|
|
|
|
$501 |
$101- |
$50- |
|
|
Total |
Over |
Million- |
$500 |
$100 |
|
Type of Investment |
Foundations |
$1 Billion |
$1 Billion |
Million |
Million |
|
Domestic Equities |
48 |
47 |
50 |
48 |
55 |
|
Fixed Income |
21 |
20 |
23 |
21 |
24 |
|
Alternative Strategies |
14 |
14 |
12 |
14 |
9 |
|
International Investments |
12 |
13 |
10 |
11 |
9 |
|
Short Term Securities/Cash |
5 |
6 |
5 |
6 |
3 |
1 Dollar weighted
2 Percent
Domestic equity allocations ranged from 47 percent of portfolio assets for the largest foundations and independent foundations to 55 percent for the smaller foundations and public foundations. The average international equity allocation was 12 percent for all institutions surveyed, up from 10 percent in the prior year. Short term and cash allocations ranged from 6 percent at private foundations to 3 percent at community foundations.
Average fixed income allocation was roughly one-fifth of the portfolio, and varied modestly by size and type of foundation. Sixteen percent of foundations reported plans to reduce their target allocations to fixed-income investments, up from 11 percent in the prior year. The largest institutions and independent foundations reported the lowest fixed income allocations (20 percent), and community foundations the highest allocation (24 percent).
“Asset allocations overall remained relatively stable from the 2003 to the 2004 Study, an encouraging finding as the stresses and strains of the March 2000 to October 2002 bear market did not seem to dramatically alter the long-term horizon of foundation investors,” added Griswold.
Asset allocations at some independent foundations were affected by donor stock holdings. Foundations with large amounts of donor stock were generally less diversified than foundations without donor stock. This exposed them to concentration risk, particularly if they had restrictions on the sale of stock.
Allocations within Domestic Equities
Within domestic equity, foundations were significantly weighted to large cap stocks with an average allocation of 61 percent. This was down slightly from the 64 percent average allocation to large cap stocks in FY 2002. Allocations were 72 percent at public foundations, 68 percent at the largest foundations, 62 percent at independent foundations, 49 percent at community foundations, and 46 percent at large foundations ($501 m - $1b). Mid-size foundations had the highest allocations to mid cap (11 percent) and small cap (17 percent) stocks. By type, community foundations had higher allocations to mid cap (14 percent) and small cap (18 percent) stocks than independent or public foundations. Foundations overall held an average 16 percent of domestic equities in indexed stocks. Donor stock appears to have influenced both overall equity and large cap allocations at the largest foundations.
Twenty-seven percent of foundations reported plans to decrease their target allocations to domestic equities, up from 20 percent in the prior year. Over one-third of the largest foundations (38 percent) expect to make reductions, up from 16 percent in the prior year.
Alternative Strategies
Alternative strategies represented an average allocation of 14 percent of foundation portfolios (the same as FY 2002), with variations by type and size: 15 percent at independent foundations, 9 percent at smaller foundations, 8 percent at public foundations, and 7 percent at community foundations. Thirty-eight percent of all foundations reported they plan to increase their allocations to alternative strategies, up from 27 percent in the prior year. Among the largest foundations, 65 percent expect to increase alternative allocations, up from 32 percent in the prior year.
Overall, allocations to alternative strategies were generally well diversified. Average allocations within alternative strategies lead with hedge funds (42 percent, up from 32 percent the prior year). The largest foundations and independent foundations had the most private equity with 23 percent and 18 percent respectively. The highest allocations to venture capital were at the largest foundations (15 percent), public foundations (14 percent) and large foundations $501m-$1b (11 percent).
Within alternative allocations, marketable alternative strategies (hedge funds) continued to comprise the great majority of assets. Hedge funds comprised 35 percent to 63 percent of alternatives allocations. Most institutions increased their hedge fund allocations over the past year. The largest foundations increased from 25 percent to 35 percent, while reducing allocations to private equity (17 percent from 21 percent the prior year) and distressed debt (4 percent from 11 percent the prior year).
Most institutions reported using four or more hedge fund programs. Twenty percent of respondents reported using seven hedge fund strategies, and 37 percent reported using one strategy. Large foundations used more hedge fund strategies than smaller foundations.
Overall, the hedge strategies used most often included long/short equity (77 percent), distressed debt (60 percent), merger arbitrage (55 percent) and equity market neutral (51 percent).
Concerns about risk, especially of investments in marketable alternative strategies, are an emerging issue as allocations to these strategies grow and place increasing demand on foundation professional and board resources responsible for their oversight. Overall, the most frequent concerns reported by foundations invested in hedge funds included individual manager risk (59 percent of respondents) and risk transparency (51 percent of respondents). The two largest foundation categories by size are more concerned about both issues (61 percent and 67 percent of respondents) than smaller foundations, a result of their larger allocations to these types of investments.
“There are still too few professional staff overseeing investments at most foundations, especially given the increased use of alternative strategies,” said Mr. Griswold. “It will be interesting to see whether foundations continue their movement to alternatives in the next few years, and if so whether they will add more staff to perform due diligence and monitoring.”
Portfolio Rebalancing
Portfolio rebalancing was reported by 83 percent of foundations, a sharp increase from 64 percent in the prior year. Tactical rebalancing was the most frequent approach reported by 38 percent of foundations vs. 23 percent in the prior year. Tactically flexible approaches were used by 52 percent of the largest foundations, up from 19 percent in the prior year. Only 34 percent of foundations used a fixed mechanism to rebalance to their target range, down sharply from 53 percent in FY 2002.
Spending Rates, Gifts and Donations
The average spending rate among total foundations was 6.3 percent, compared with an average 6.0 percent in the prior year. There was no apparent correlation between spending rates and size of fund. Independent foundations reported lower average spending rates (5.7 percent) than community (6.9 percent) or public foundations (9.2 percent).
Overall, 51 percent of respondents reported a spending rule of 5 percent, the IRS minimum. An additional 25 percent set an appropriate spending rate each year. Two-thirds of respondents (66 percent) reported no change to their spending rate in the past year. Twenty-three percent of the largest foundations reported decreases in their spending rates. In actual dollars, 35 percent of respondents increased spending, 37 percent decreased spending and 27 percent experienced no change in spending in FY 2003.
Gifts and donations increased over the past year for many respondents. Almost one-half (49 percent) of foundations overall reported increases in gifts in FY 2003, compared with 22 percent in the prior year. The largest foundations (67 percent) reported increases most frequently. About one-half of community and public foundations reported increases in gifts. Roughly one-quarter reported that gift levels remained stable year over year.
Underwater Funds
In a new question this year, community foundations were asked about “underwater funds,” restricted endowment funds whose market value has fallen below the “historic dollar value” as defined by the Uniform Management of Institutional Funds Act (UMIFA). Nearly 11 percent of foundations overall and one-half of community foundations reported they held underwater funds. The rebound in equity markets in FY 2003 has lessened the problem of underwater funds, but the combined effect of market values and continued spending during the bear market years indicate that underwater funds will likely remain a concern for some time.
Corporate Governance
Conflict of interest policies were reported by 81 percent of respondents overall. Nearly all of the largest foundations (92 percent) reported policies, compared with smaller foundations (68 percent). Community and public foundations reported policies (88 percent and 87 percent respectively) compared with independent foundations (78 percent). “In the governance area, too many foundations still don’t have term limits for trustees or conflict of interest policies in place,” said Mr. Griswold.
The Commonfund Benchmarks Study® - Foundations 2004, sponsored by the Commonfund Institute, surveyed 272 leading private, community and public foundations throughout the U.S. with a total market value of foundation assets of $138 billion. The study was conducted through telephone interviews during the fourth quarter 2003 and first quarter 2004. It included 182 independent/private, 60 community and 30 public foundations. Most institutions (67 percent) had a fiscal year end of December 31, or a year-end of June 30 (18 percent). The study is conducted annually.
# # #
About Commonfund Institute
Commonfund Institute was founded to house the education and research activities of Commonfund and to provide the entire nonprofit community with investment information and professional development programs. Commonfund Institute is dedicated to the advancement of investment knowledge and the promotion of best practices in financial management. Commonfund Institute provides a wide variety of resources, including conferences, seminars and roundtables on topics such as endowments and treasury management; proprietary and third-party research and publications including the annual Commonfund Benchmarks Study™; and events such as the annual Commonfund Endowment Institute and the Commonfund Prize for the best contribution to endowment investment research. Its broad range of programs and services are designed to serve financial practitioners, fiduciaries and scholars.
About Commonfund
Founded in 1971, Commonfund is devoted to enhancing the financial resources of educational and other nonprofit institutions including endowments, foundations, healthcare and service organizations through superior fund management, investment advice, and treasury operations. Directly or through its subsidiaries, Commonfund Capital, Commonfund Realty, and Commonfund Asset Management Company, Commonfund manages approximately $30 billion for more than 1,500 educational institutions, foundations, healthcare and other nonprofit institutions, representing one of the largest pools of educational endowment and operating funds in the world. In response to the growing needs of nonprofit institutions, Commonfund, together with its subsidiary companion organizations, offers more than 45 different endowment investment programs including funds for the management of short- and intermediate-term operating cash reserves. All securities are distributed through Commonfund Securities, Inc. www.commonfund.org