That's why I chose Yale: The endowment investment model

34x returns

That's how much you would have made if you invested with the Yale endowment fund over 36 years (1988-2021). 

The Yale Investment Office has had annualised returns of 13.7% during this period. For reference, if you had the brilliant foresight to put all your money in the S&P 500 Index and not touched it for 36 years in the same timeline, you would have made 19.3x your money.

Many homeowners have probably been patting themselves on the back as they witnessed the surge in value of their square footage over the last 30 years, but it is likely that their homes have underperformed Yale significantly, and the S&P 500 Index for that matter.

History of the Yale endowment

In 1985, Dr. David Swensen took charge of Yale’s endowment, which was then valued at approximately US$1 billion. At that time, the portfolio was heavily weighted towards traditional investments, with 80% allocated to US stocks and bonds. Under Swensen's leadership, Yale's investment strategy underwent a radical transformation.

Sitting in New Haven, in a corner of Yale University’s campus and away from the noise of Wall Street, Dr. Swensen pioneered and implemented the “endowment model,” which emphasised diversification and a risk-seeking orientation. He redeployed about 90% of the portfolio into a diverse mix of alternative asset classes, including foreign equities, private equity, venture capital, real estate, hedge funds, and natural resources.

This approach transformed Yale’s portfolio from a traditional stock-bond mix to a highly diversified one. Take a look at Yale’s target allocation over the years:

This approach yielded remarkable results. Over Swensen’s 36-year tenure, the Yale endowment achieved an annualised gain of 13.7%. Today the endowment is valued at US$40.7 billion.

The Yale endowment model has significantly influenced the broader investment landscape. Many universities and foundations have adopted similar strategies, shifting their portfolios towards alternative assets like private equity, venture capital, and hedge funds. This approach has become the industry standard for institutional investing over the past three decades.

Yale Investment Office's secret sauce, explained

The endowment's success stems from its ability to take a long-term view, allowing it to weather market volatility and capitalise on illiquid investments. 

The Yale Investment Office implemented a strategy that has not only generated impressive returns but also reduced risk, with the chance of a disruptive spending drop falling from 10% in 1985 to just 5% by 2019.

The model’s success hinges on several key principles:

Diversification

Yale's portfolio spans various asset classes, including foreign equities, absolute return strategies, and real estate. Swensen applied the academic principles of the Modern Portfolio Theory to Yale’s sizeable endowment, and believed that achieving true diversification required allocating to asset classes with low correlation, which would reduce the volatility of a portfolio as a whole.

Long-term horizon

With a disciplined and long-term investment approach, the Yale endowment can commit to the markets and their strategy for an extended period of time, which means they can hold assets that are less liquid than the public markets.

Alternative investments

A significant portion of the portfolio is allocated to private equity, venture capital, and other alternative assets. 

Asset classes such as private equity and venture capital require at least eight to 12 years of commitment. Owning a forest or investing in a large infrastructure project may require 15 to 20 years. Illiquidity is rewarded with what the industry calls the illiquidity premium, which experts estimate to be an extra 3% in returns per annum over the liquid (public) markets.

Unfortunately, “invest like Yale” isn't so simple

Time and patience

Yale's endowment can take an extremely long-term view, theoretically an infinite horizon, allowing them to weather market volatility and invest in illiquid assets. 

This enables them to commit to strategies that may take decades to bear fruit and to stomach illiquid investments and unwaveringly stick to their plan during periods of high volatility.

Size and influence

With billions in assets, Yale wields significant clout in the investment world. Dr. Swensen’s reputation, which is likened to the Jedi status in the arena, opens doors, giving the endowment access to top-tier fund managers and exclusive opportunities. Every money manager wants his stamp of approval and will roll out the red carpet for Yale.

Broader investment options

Yale can access anything and everything they want, a much broader range of investment opportunities than us mere mortals, including private equity, venture capital, and real estate. In most cases, even if individual investors are able to access investments in alternative asset classes, any extra returns will get eaten up by the layers of fees.

Favourable fee structures

The endowment's size and prestige allow it to negotiate lower fees, preserving more returns for the institution. This advantage compounds over time, significantly impacting long-term performance.

Lessons from the Yale endowment for individual investors

For individual investors, there will be practical difficulties in attempting to replicate Yale's exact model. The underlying principles of diversification, patience, and a focus on institutional-quality access and low-cost investing remain relevant.

Diversification is paramount—Thoughtful diversification was key to long-term investment success. Yale's approach also emphasises the primacy of asset allocation over security selection. 

Adopting a long-term perspective is crucial. Yale's endowment takes an infinite time horizon, allowing it to weather market volatility and capitalise on illiquid investments. As an individual investor, cultivate patience and resist the urge to react to short-term market fluctuations. 

For individual investors, in an interview with the Yale Alumni Magazine, Dr. Swensen recommended low-cost index funds rather than active management. He stressed the importance of regular rebalancing to maintain target allocations and capitalise on market fluctuations. 

These lessons can inform your own investment approach, helping you build a more resilient and potentially higher-yielding portfolio over time.

Food for thought: What if we could pool our money together and invest like Yale?

Brilliantly executed diversification will improve risk-adjusted returns over the long run, as proven by Yale endowment, but may not work in any one year. 

The value of Yale’s endowment fell for the second consecutive year in 2022 and 2023; this does not mean they should have switched their portfolio. Dr. Swensen's long tenure in running the fund and sticking to his investment strategy has shown enviable outperformance and success over almost all investment strategies known to man. 

Matthew Mendelsohn, Yale Endowment’s current Chief Investment Officer, highlighted in his letter in 2023 that, despite challenging times ahead, the Investment Office’s ability to “be patient” with long-term, illiquid assets is one of their “key competitive advantages.”

Endowus gets its name from “Endowment investing for all of Us”. At its core, the investment philosophy is about goal-based investing and, by extension, structuring investment portfolios such that they meet the short-term and long-term goals on an inflation-adjusted (or real) basis. 

To learn more about applying institutional-quality investment strategies to your portfolio, get started with Endowus. 

Frequently asked questions

What is the philosophy of the Yale Investment Office?

The Yale Investment Office's philosophy centres on diversification and a long-term approach. They believe in allocating assets across various classes with low correlation, reducing overall portfolio volatility. This strategy allows them to commit to markets for extended periods, often decades, enabling investments in less liquid assets like private equity and venture capital. The office’s disciplined, patient approach aims to capitalise on the illiquidity premium, estimated to yield an additional 3% in annual returns compared to liquid markets.

What is the Yale model of investment?

The Yale model, pioneered by David Swensen, involves a significant shift from traditional stock and bond investments to alternative assets. The model emphasises true diversification through assets with low correlation, aiming to reduce overall portfolio risk whilst potentially enhancing returns. It's important to note that this model benefits from Yale's unique advantages in time horizon, size, influence, and access to exclusive investment opportunities.

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Risk Warnings

Investment involves risk. Past performance is not an indicator nor a guarantee of future performance. The value of investments and the income from them can go down as well as up, and you may not get the full amount you invested. 

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