Financial crisis: Duke's ten year average return on endowment craps out to 6.5 percent

Chronicle lead story begins by saying Duke is "somewhat back on track" financially. That's not enough assurance for Fact Checker!!

Here's today's post

The most important number here is the ten year return on our endowment -- which has fallen to 6.5 percent. This is the first university announcement, and it's far worse than the 7.45 percent predicted by Fact Checker!!

Whoops, FC did note the figure was tentative and we'd have to hear from Trask.

The problem is simple: Duke budgets as if its sustained return year after year is 8.5 percent.

What do we do with that? We spend roughly five percent, and another 3.5 percent is plowed back into principal to protect the buying power of the endowment against inflation.

Something’s got to give.

We cannot keep budgeting as if we were earning 8.5 percent -- when for the past decade we have not done so. Either we trim further the amount of money we take to spend each year -- or we cheat future generations by not covering for inflation. It’s that simple.

Dr. Trask makes me laugh this morning. He says, yes, but our 6 year and 11 year averages still are above our target. Tallman, whoever heard these statistics before? Show me where in any report you have ever issued, you broke it out for six years and 11 years. This manipulation is offensive.

Dr. Trask is correct in sounding the warning bell for the Finance Committee of the Trustees. This is serious stuff, as serious as it gets. But he is waffling to wonder whether this is a “short term anomaly” or a long term reality.

Dr. Trask, Fact Checker has no crystal ball, but some pretty high powered financial managers have already decided this is not a short term anomaly. Please check out the change in investment assumptions at CalPers, the giant endowment that supports the state of California pension system. And Ditto in NJ.

✔OK the Chronicle story needs just a little sandpaper. “DUMAC is a private firm that handles Duke’s investments.”

Rather than having an investment office in Allen Building, Duke chose to create Duke Management Company. It is as much a part of the university as the English Department, History Department or basketball team. To confuse the issue, DUMAC has one outside client, which happens to be a separate charity founded by James B. Duke called The Duke Endowment. So I do not know what is meant by private firm.

As for the “$40 million to go” portion of this article, Fact Checker must point out a few things. First, this year’s budget has $71 million in red ink covered by a special withdrawal from the endowment authorized by the Trustees, part of quarter BILLION dollar appropriation over three years to accommodate the new financial reality in steps rather than one jolt.

In addition to the $71 million, we are drawing down selected portions of our endowment at a faster pace than usually authorized by the Trustees. This includes the amount of money we spent on need-blind undergraduate admissions, 28 percent above the usual pace. A Deputy Fact Checker recently obtained information, not yet confirmed, that the Graduate School of Arts and Sciences is similarly drawing down its endowment at a faster rate. We cannot sustain that either.

The Chronicle reports that endowment income provided 19 percent of university revenue two years ago, 18 percent last year ago, 17 percent this year. I do not know if any of the special appropriations mentioned in the last paragraph -- the $71 million and so forth -- are included, or if this only relates to our continuing support. It makes one big difference.

FC would also like to point out, calculating the value of our endowment is mostly guesswork. Hopefully fair guess work, but mostly guess work. We are at the mercy of hedge fund operators and private equity vultures to estimate value, because almost all of our investments are not traded in the open market, nor are there any guidelines to calculate their worth. Who is to say, for example, what a $10 million investment in a private equity deal will be worth when it matures in three years?

Ah yes, there’s also that pesky $500 million we borrowed during the height of the financial meltdown, rather than spending money as we routinely do from the endowment. We still owe this -- and $500 million is properly subtracted from any total value for the endowment that you see.

✔Let FC add that the financial results for 2009-2010 are being dribbled out by the administration -- most favorable numbers first. In the next few days, we will get Trask’s annual report which contains another segment of information on the academic year, but not all the information. Loyal Readers, keep watching this space.

✔Thanks for reading FC.