How Endowments & Foundations Have Been Affected by the Financial Dip
the +6% net of fees hurdle now looks closer
to 9% nominal return, to maintain real
purchasing power.
We aren’t done; there are extra costs. The
foundation may be a lean, cost-effective
non-profit, but there may be a few people
on staff. Are there miscellaneous taxes?
Do you hire an accountancy firm full time
or hire a Chief Financial Officer to take
care of it? Does the foundation need the
services of an attorney? Are there marketing
personnel or community outreach staffers?
Do you maintain an office? These costs
may add another percentage point to the
bottom line requirement.
After fees, inflation, and other expenses,
the charity may actually need a target rate
of return closer to 10%, rather than the
presumed 5% target. A 10% target is pretty
high under the best of market circumstances.
Making matters worse, the current market
environment has unprecedented low interest
rates. As a result, most fixed income
portfolios have yields which are several
percentage points below their historical
averages. Therefore, to generate a high
average rate of return upward of 10%,
some foundations may need to allocate their
portfolios heavily into equities and similarly
aggressive, volatile asset classes. This, in
turn, increases the probability of having
significant depreciation during inevitable
market downturns.
favored status for certain foundations.
•
Some donors specifically require
their donation to maintain its nominal
value. Naturally, these restrictions
will significantly influence the types
of investment permitted and spending
policy against those assets.
•
If spending targets are immune to
market downturns (i.e. – you have
committed spending), consider separating
these earmarked funds into separately
managed accounts. For example, if
you’ve committed to spending $100K
per year for 3 years, then establishing
a separate corresponding bond ladder
to match that commitment may be the
best option.
•
Similarly, isolating restricted and
unrestricted investments into separate
portfolios is prudent.
Going Forward
Here are some action items you, or your
committee, can take to ensure transparency
in your operations and for your community
network of donors, staff, and volunteers:
•
Set the criteria for spending behavior
within your investment policy statement.
•
Set the expectations for spending
projects when they are adopted. If
spending targets are contingent upon
market behavior, set expectation with
those project managers.
•
Smooth out your spending targets
based on 3-year or 5-year rolling
performance. You can still be sensitive
to market pressures without wild
swings in spending levels.
•
Clearly establish your priority - which is
either maintaining the current spending
levels or protecting the perpetuity of
the portfolio. You sometimes can’t
have both. Of course, this assumes
you have a choice in the matter. The
5% payout is a requirement for tax
Gabriel Potter, MBA, AIF® is a Senior Investment Research
Associate at Westminster Consulting. Gabriel can be reached
at [email protected]
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