The Skorina Letter No. 7

People and issues at Endowments, Foundations, Hedge Funds and Alternative Investments

December 16, 2009

In this issue:

• Dartmouth pulls the plug
• Pension funds search and shuffle
• More funds for hedge funds

Dartmouth announced the other day that their search for a chief investment officer to replace outgoing CIO David Russ has been suspended. Since this is such an extraordinarily good time to find investment talent, the problem can't be lack of candidates.

Dartmouth spokesman Steve Kadish has announced that they will try letting the board investment committee directly oversee the investment office for at least a year. He said it would be "a healthy moment of learning." The investment committee chair is hedge fund star Stephen Mandel, Jr (Dartmouth '78), founder of Lone Pine Capital, whom Kadish described as "one of the best investors in the U.S."

My opinion wasn't solicited, and Stephen Mandel's record speaks for itself. I will just observe that, in general, an endowment CIO and a hedge fund manager are two different things. Endowments play defense with a long horizon, transparent commitments, and a gaggle of constituents; hedges play offense quarter-by-quarter, with less consultation and more combat. Some good people can adapt to either management style; some can't. We'll see if everyone is still happy a year from
now.

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Endowments back from the abyss:

NACUBO and Commonfund aren't ready to unveil their complete annual endowment survey yet, but they gave us a little something to put under the tree this week, with only two-thirds of the eventual responses in hand. On average, the endowments reported a 19% decline for the entire 2009 fiscal year. Better than the sickening 22% drop they previously found in a special survey covering just the first quarter. This implies what we expected to see: a terrible year that got a little less terrible as it unwound. Even without the detail, it also suggests that the huge and widely-reported losses at the Big Ivies have been partly offset by less-painful drops at the smaller schools. See press release here:

http://www.nacubo.org/Research/News/Preliminary_Results_of_the_2009_NCSE_Released.html

Pertinent to our corner here, John Nelson, a Moody's analyst quoted by the Inside Higher Ed website, opined that the reported average allocation to alternative assets -- 51% -- seemed perplexingly high in the preliminary report. He has predicted that endowments would cut back on these "riskier" assets in pursuit of more liquidity. We'll take another look when all the returns are in.

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Pension funds search and shuffle:

Santa Barbara County's retirement system ($1.6 billion) is looking for their first CIO, while the $5.2 billion Sacramento County system is looking to refill their CIO slot.

The $5.7 billion Oklahoma system just brought in Bradley Tillberg as their new CIO. He's a CFA and University of Nebraska grad with years of experience as a private-sector analyst and portfolio manager. He'll be just the second CIO at OPERS in their 46-year history.

Lawrence Johansen, an actuary and SUNY grad who held several positions in New York State's teacher retirement system, is moving over to New Hampshire as director of investments at the $5 billion state retirement system.

And, in Fairfax County, Virginia; the Educational Employees Supplementary Retirement System ($1.6 billion) has bumped deputy executive director Jeanne M. Carr up to executive director and CIO. Ms. Carr, a CFA and another University of Nebraska (MBA) alum, succeeds her boss, Dr. Alan Belstock.

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Thoughts from clients, colleagues, and passing strangers

More funds for hedge funds:

Just seven months ago the out-flowing tide of hedge fund money finally reversed itself.

All through 2007 and the first half of 2008, investors happily threw money into hedges with both hands, at the rate of ten or twenty billion per month. Then, when the economy ran aground last fall, they sucked it right back out. From October to March, forty billion per month was leaving, as fast as the lockups permitted.

That, and plummeting asset prices, decimated the industry. Bye-bye, Satellite. Sorry to see you go, Raptor. Catch you later, Carlyle Capital and Atticus.

Finally, in the merry month of May, the tide began to trickle back in, and by November was bringing in more than $25 billion per month.

On top of that, fund valuations have been trending upward with the recovering equity markets, enough to restore performance fees for many managers, who are no longer "working for free" (a hedgie trying to live on a mere two-percent is a pitiful thing to behold). As of November month-end, hedge assets were back up to $2 trillion, matching their 2008 peak, according to HedgeFund.net's estimates released just this week.

So is everybody happy in hedge fund land? No, not really.

Them what has, gets. The two hundred or so multi-billion-dollar funds are mostly sitting up and taking nourishment. The many hundreds of smaller funds are still scrambling.

As the head of a big California pension plan said to me last week: "The most pressing question on my mind these days is always just how am I going to make over 8% with acceptable risk in the years ahead?" Some of those start-ups will have answers, if they can get themselves noticed.

The industry continues to consolidate, with the 1500 to 2000 smaller hedge funds fighting for barely a third of the hedge assets. They average not much more than $300 million, with many much smaller. It's a textbook long-tail distribution, and that tail isn't going to get any shorter.

I recently spoke to Bruce Zimmerman, the chief investment officer of UTIMCO at the University of Texas, who pointed me to an item in his 2008 year-end report:

"Our staff held over 1,200 meetings with prospective investment managers in addition to receipt and review of countless other investment proposals. This 'pipeline' of potential investments, resulted in approximately 60 new investments, roughly one-third of which were with private investment managers with whom UTIMCO already had an existing relationship."

So, here is one of the biggest endowments in the country ($18 billion) screening thousands of proposals, meeting 5 or 6 of them every working day, and they hire just 40 new managers! Then subtract the private equity guys, the VCs, the hard assets, and how many went to hedges? A dozen? Maybe twenty?

How does a hedge manager get noticed in a mob scene like that?

I called Michael Litt this week. He's a University of Chicago MBA, former partner at FrontPoint Partners, and the founder of a brand-new global opportunistic fund called ArrowHawk Capital, with over $500 million in commitments. I believe that makes him the biggest hedge fund launch of the year.

Michael happened to be on a Swiss train bound for meetings in Geneva when he took my call, and he reflected on his launch efforts as the Alps flashed by.

He said he knew that even his successful track record at FrontPoint (which he eventually sold to Morgan Stanley) wouldn't get him more than a few extra minutes to pitch to pensions and endowment heads. So he spent a year just patiently going around and asking them what they wanted and needed.

Here's what he heard: Institutional investors want real businessmen with real management experience, a strategy that makes sense, an infrastructure that will accommodate growth, transparency, a cap on fund expenses, a hurdle rate, no gate in the legal documents, no short money co-mingled with long money (they did not want fund of funds pulling out money on a whim and ruining strategies or positions), rock-solid risk systems and controls. Oh, and better pricing. Much better pricing.

So that's what he gave them. Along with a global, multi-strategy offering run with a deep- talented bench. And did I mention that he is constantly on the road (or the rails) talking to investors and prospects? You can call it marketing or just good communications, but he is at it every day, relentlessly.

There really is hope for start-ups and smaller funds. Family offices can make quick decisions if you fit their needs. Seeder funds such as Protégé Partners, FRM, and SkyBridge still have money. And emerging manager fund of funds are still in the running for allocations from the big pension and endowment funds.

I spoke with the CIO of an endowment with almost a billion in assets whose name I would like to drop, but can't. He told me flatly that he has -- and will continue to -- invest in HFs as small as 40 or 50 million. He has no problem at all putting 5 million into up-and-comers or being as much as 20% of the fund in the beginning. This isn't benevolence; it's foresight. He looks at this as a way to get an edge in a growth opportunity.

Apparently, he's not alone. Pensions & Investments just reported a survey by the Spectrem Group of 81 U.S. endowments and foundations, noting that: "Among endowments and foundations with $25 million to $49 million in assets, 36% plan to focus on alternative investments. Of those with $50 to $199 million, 10% plan to focus on alternatives, and 29% of funds with more than $200 million cited alternatives as an area of focus." See press release here:

http://www.pionline.com/article/20091209/DAILYREG/912099978

This study is not dramatically different from last year's Preqin study "The Growing Appetite of Institutional Investors for Emerging Manager Hedge Funds."

They wrote: "with growing experience institutional investors are now choosing to invest in younger funds, imposing fewer restrictions in terms of assets under management and track record requirements." See Preqin research news here:

http://www.preqin.com/listResearch.aspx

This is essentially what my billion-dollar-endowment-manager said above, but with lots of charts and graphs.

And, regarding size, one of those charts said that only a third of the institutions insisted on a minimum $1 billion AUM. More than half would consider, on their merits, funds under $500 million. More than a quarter would look at applicants with less than $100 million. Eleven percent said they had no rigid size minimum at all.

We did our own internal study, looking just at the endowment space. Among the one hundred biggest U.S. endowments -- from Harvard down to University of Louisville -- we found the hedge-fund rosters for 41 of them. Of the 116 funds selling to those schools, 18 (about 16%) had less than $1 billion AUM. Eleven (almost 10%) were under $500 million. Only eight of them (7%) ran $100 million or less. That's a less sunny picture than Prequin paints, but we looked at a narrower group, and besides, nobody said it was going to be easy. [for a copy, send request to skorina@sbcglobal.net]

The head of one major consultant to institutional investors told me last week that they are currently making three times the number of new-business and current-business renewal pitches he saw in prior years. He says that with all the consultant changes on the horizon for next year, investment manager changes will inevitably soon follow.

So, if you're a baby hedge fund, now is the time to meet your friendly neighborhood consultant. There are probably 50 to 75 firms with a reasonably-sized client base, so don't be shy.

Kevin Quirk, of CaseyQuirk, the widely used management consultants to investment management firms, told me that seed platforms have been busy this year, funding startup hedge funds. But, unlike a few years ago, they now tend to have seasoned professionals with solid infrastructure, and clearly articulated strategies.

And those fund of funds we spoke harshly about above? Well, hot money is better than no money at all, and they have their uses, too. A pickup from a good FoF can sometimes give credibility to a startup who isn't getting through any other doors. Our internal study says that 14% of the hedges selling to those major endowments are fund of funds. That's probably a couple of hundred smaller funds selling, indirectly, to endowments they couldn't reach directly.

There are channels to carry your message. But you'd better have one that's worth carrying and you'd better get it out there tirelessly.

A lot of hedgies are more comfortable running spreadsheets than going out and talking -- and listening -- to people. They will not survive.

It doesn't matter how brilliant your professors thought you were, how much money you raised back then, or how good your numbers are. If no one hears about it, you're not in the game.

The Skorina Letter No. 6

Charles Skorina looks at people and issues in the world of Endowments, Foundations, Hedge Funds and Alternative Investments

Doing Good...and Doing Well:

The world's largest private foundation, the Gates Foundation in Seattle, is paying its new CEO nearly $1 million per year. Jeffrey Raikes was an early Microsoft employee who rose to the number three job in the company and, according to Forbes, was personally worth $490 million as of 2003. (He's also a co-owner of the Seattle Mariners -- another largely philanthropic endeavor). His predecessor at the foundation, Patricia Stonesifer had taken just a dollar a year during her ten-year tenure.

Mr Raikes led the list among foundation CEO salaries reported by the Chronicle of Philanthropy last month.

The second-highest paycheck went to Joan E. Spero, former head of the Doris Duke Charitable Foundation, who made $770 thousand in 2008. The median pay for private-foundation CEOs was about $460 thousand last year.

Among the community foundation heads, Lorie Slutsky at the New York Community Trust headed the list with $630 thousand.

The survey also noted that foundation chief investment officers often made more than their bosses (which is also the case among the biggest college endowments). Laurance R. Hoagland, CIO at the William and Flora Hewlett Foundation, for instance, made $1,619,904, including his $1 million bonus.

As in the crass for-profit sector, however, the goodies don't necessarily trickle down to the worker-bees. Back in June, the Chronicle noted that some large private and community foundations were sharply cutting staff. The Robert Wood Johnson Foundation offered buyouts to 43 percent of its 250 employees. The Ford Foundation offered a buyout to 140 of its 550 staff members. And The California Foundation in L.A. cut 44 jobs.

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And now some thoughts from clients, colleagues, and passing strangers about the big economic and investment picture in these interesting times:


Have The "Emerging" Markets Finally Emerged?

At the "Eye on Endowments and Focus on Foundations” conference in Boston last month, two prominent CIOs, Don Lindsey of George Washington University and Larry Kochard of Georgetown University, emphasized the need for institutional investors to look outside the US for robust long-term growth.

"The structural changes taking place [in the market] mean that we as investors will need to spend a significant amount of time outside of the United States, not just on the ground, but also as a way to understand the political and social implications of what's happening abroad," said Lindsey.

Kochard said, "when I look at the United States and compare it to where we were in 1980, it really is a mirror image of where we are today. [Now] it's an environment where there's probably going to be more demand for hard assets, relative to financial assets... But unlike the 1980s, when the U.S. was really the only game in town, today much of the world is a market-based economy."

Two of my favorite long-time investors in global markets are Chuck Johnson of Tano Capital and Lou Morrell, the recently “retired” head of the Wake Forest Endowment. I spoke to both of them recently about international and emerging-markets opportunities and how institutional investors should be looking at them.

Chuck has been immersed in global markets since the early 90s, when he spearheaded the merger of the Franklin and Templeton mutual fund groups. As co-President of the merged Franklin Templeton, he opened new offices in 20 countries and, with prescient timing, set up the Franklin Templeton India Mutual Fund Company in 1995. It's now one of the top three domestic mutual fund firms in India.

Lou Morrell was the Wake Forest University CIO from 1995 to 2009. Now, in his new more-active-than-ever "retired" position, he manages about one-quarter of the school’s endowment on an outsourced basis, as well as funds from other individuals and institutions. Lou's performance at Wake Forest put him in the top tier of investment managers, earning his school the Savviest Nonprofit of the Year award from Foundation and Endowment Money Management magazine in 2006.

Chuck just returned from his latest five week swing through Asia and, although he is in the midst of raising money for his latest India fund, took time to sit down with me and discuss what he sees as the key drivers in the Asian economies.

He says that three factors are paramount in India, China, and Southeast Asia: “First, they are decoupling from the economies of the U.S. and Europe, and they will be able to grow even while we are in the doldrums. Second, their economies are more soundly financed, without our overhanging debt problems. And, most importantly, their demographics and liberalized economies guarantee that tens of millions of young people are going to be climbing into the new middle classes and powering big domestic consumer growth for decades to come."

Chuck says these trends mean that China will likely overtake the US as the world’s largest economy in 20 years and India will overtake the US within 40 years. He is investing in opportunities across the public and private equity spectrum and sees superior returns for years to come.

Lou, in his November “Capital Market Update” writes that the “outstanding investment opportunities are available primarily outside of the U.S.” He states that the US “economy is weak, the unemployment rate is growing, the U.S. dollar continues to fall relative to other currencies, the federal budget deficit is growing, and at some point, unless interest rates are raised, inflation will appear. To make things more difficult, tax increases are planned that will reduce funds available for investment as the US shifts away from private enterprise to government control." And finally, “businesses are reluctant to hire because of uncertainty with tax increases and higher healthcare costs on the horizon.”

When I told Lou that, as an American, I found this forecast pretty depressing, he replied: “Just the opposite, Charles; it's a great opportunity for investing on a global basis. The falling dollar is great for U.S. exporters. There are also new opportunities in healthcare - especially bio-tech, both in the U.S. and internationally. Gold up again this morning - great opportunities in energy. Bets against the dollar also offer big returns. It all looks good!”

These gentlemen are looking into the future, as all investors must. And a quick glance at the recent past seems to confirm what they’re saying.

Take a couple of index-tracking ETFs: one for emerging markets (iShares EEM), and one for U.S. domestic stocks (Vanguard's VTI). Emergers over five years returned 17.1% per year while the Russell 5000 (tracked by VTI), gave you just 1.9%. Of course, the rap against emerging markets has always been their volatility and, indeed, they were about twice as volatile as U.S. stocks in recent years. Further back, we all remember the crises in Mexico (1994), Southeast Asia (1997), and Russia (1998).

But, Marko Dimitijevic, who runs the $2 billion Everest Capital Emerging Markets Fund (up 65% so far this year), recently pointed out in Barron's that the term "emerging markets" is rapidly obsolescing. These markets, he says, have become much bigger, more liquid and less volatile than many investors in the West realize. He points out that nearly one-third of the world-equity market cap is now represented by emerging markets.

Just look at the Sharpe ratios to get a sense of their risk-adjusted returns: You got a handsome 0.58 Sharpe for the emergers, and a dismal -0.04 for U.S. stocks. On a risk-adjusted basis you would have gotten a better return holding T-bills for five years than the Russell 5000!

Endowment managers have typically been putting only about 5% to 8% of their portfolios into emerging markets equities in recent years and, as these holdings fatten up, I presume they will tend to follow their long-term gameplan and re-balance back down. I focus on finding the talent, of course, not asset allocations and investment bets, but I have to wonder whether those targets shouldn't be trending up as we look at the prospects for the next decade.

All thoughts, comments, and career moves are welcome. To comment or unsubscribe please email: skorina@sbcglobal.net.

The Skorina Letter No. 5

Charles Skorina looks at people and issues in the world of Endowments, Foundations, Hedge Funds and Alternative Investments

Wesleyan Looks at Outsourcing:

Another shoe drops at Wesleyan University (the one in Connecticut -- not to be confused with all those other Wesleyans) regarding the quiet departure of chief investment officer Thomas Kannam last month.

The campus paper reported just last week that replacing him may take several months. Or he may not be replaced at all. President Roth noted that some endowments use "outside organizations" instead of hiring a CIO, and that they are reviewing all options.

So, Wesleyan adds to the ranks of those considering outsourced management.

Scott Wise Carries On:

In October, Rice University officially moved its endowment over to the new Rice Management Company. Scott Wise, previously VP-Investments and Treasurer of the university, will serve as president of RMC.

I spoke to Scott down in Houston recently, and he's pleased with his new role. He's glad to give up some of the administrative headaches he had as treasurer to focus full time on getting the best possible returns on the endowment. He says, "The more you focus, the better you perform."

Scott was just 39 when he took over Rice's $900 million endowment twenty years ago. By 2006, he'd grown it to $4 billion -- an average compound return of 13 percent over 17 years.

Institutional Investor magazine recognized his achievement that year, naming him one of four finalists for their Endowment of the Year award. He's a Rice alumnus, with a BA in economics and a Masters in accounting from University of Texas.

For the fiscal year just ended, the Rice endowment was down 17%, still well ahead of Stanford, Harvard and most of the other mega-endowments. And I have no doubt that the Rice nest-egg will bounce back big-time as it benefits from Scott's now-undivided attention.

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And now some thoughts from clients, colleagues, and passing strangers about the big economic and investment picture in these interesting times:

Risky Business:

What you need to do about risk depends on what you think it is.

“Gravity” once just meant the “heaviness” of something. When Newton got through with it, it was an invisible force understood only by mathematicians.

Investment risk is a little like that. Except, Newtonian gravity can actually predict precisely how the future will unfold. Math-modeled risk indicators, not so much.

Still, we soldier on, trying to corral uncertainty and turn it into measurable risk. And, as portfolios become more complex, a niche has opened for someone who can stand apart from front-line management and judge the whole picture using the best available techniques, both quantitative and qualitative. Hence, the rise of the Chief Risk Officer.

Among major financial companies before 2007, only Bank of America had a designated CRO.

Over the following year, Citigroup, Merrill Lynch, J.P. Morgan Chase and Morgan Stanley announced chief risk officer appointments. And most major hedge funds have acquired CROs or CRO-like people.

Highly-paid risk officers and risk committees proliferate, but do they help when they're really needed?

The exploding landmines at the center of the 2008 meltdown were the quasi-governmental mortgage-buyers Fannie Mae and Freddie Mac.

Fannie hired Enrico Dallavecchia as CRO in 2006. Shortly thereafter he told his bosses that Fannie had one of the weakest control processes he'd ever seen, but that nobody seemed to care. His budget was cut by 16% in 2008, and he soon left the company.

Freddie Mac had a CRO named David Andrukonis, who told his boss way back in 2004 that the company was buying bad loans that "would likely pose an enormous financial and reputational risk to the company and the country." His boss responded that they couldn't afford to say no to anyone and Freddie continued to buy riskier and riskier loans with the approval of its Congressional patrons. Mr. Andrukonis left the risk management business in 2005 and became a teacher.

These people could all do the math. But what good are the impeccable calculations if no one wants to understand them?

An officer reporting to Robert Lewis, SVP and Chief Risk Officer at AIG, reportedly blessed nearly every credit-default swap that later exploded in their faces. Mr. Lewis, who was CRO before and during these monumental miscalculations, is still aboard.

Bear Stearns, which was carrying a book of derivatives leveraged at 36-to-1 when it collapsed, employed a chief risk officer named Michael Alix. When the dust cleared, Mr. Alix was hired as a senior vice president at the New York Fed. As a banking supervisor.

Harvard (of course!), has a CRO, or had. Daniel Kelly was the long-time CRO at Harvard Management Company until he was lured away last month. Now, he's chief risk officer of alternatives for UBP Asset Management, the hedge fund-of-funds arm of Union Bancaire Privee of Geneva, a hire they made as loudly as possible, after losing $700 million of their investor’s funds placed with Bernard Madoff.

The endowment at my own school, University of Chicago, is now looking for its first CRO, and I had a chance to chat with their new chief investment officer, Mark Schmid about the challenge.
He emphasized that the CRO would have to be a state-of-the art risk analyst, but would also have to understand qualitative factors, and be able to knit them together. And, it's not just a defensive, policing function. The CRO should also be able to play offense, thinking opportunistically about asset classes, relative valuations, investment themes, and hedging opportunities.

This is a tough search given the broad skill-set that's required and competition from hedge funds and investment banks.

And, even with the best talent available, understanding and controlling risk is still as much art as science.

Russell Read, the former CIO of Calpers from 2006 – 2008 (and another University of Chicago alum), points out that at Calpers they "used what we believed were the finest resources available including some terrific external vendor packages [to manage risk]”…Unfortunately that didn’t lead to us being able to assess properly all the liquidity limits that we faced”.

For all but the largest institutional funds, a CRO hire is as unlikely as getting a private chef for the snack room.

One other option, as Russell mentioned, is to buy some outside risk-analytics help.
Companies like RiskMetrics, which was spun out of JP Morgan in the mid-90s, or Investor Analytics, peddle the VAR (Value At Risk) methodology that has become a standard investment tool. Hundreds of big banks and hedge funds buy their wares, but they haven't had much luck breaking into the foundations and endowments world because of their user-unfriendliness. And the major advisory firms like Cambridge Associates and Wilshire Associates don't provide any equivalent kind of sophisticated risk advice to nonprofit investment committees.

I recently had an interesting conversation with Bill Ferrell of Ferrell Capital Management (and a distinguished fellow-alumnus of Culver Military Academy!) who has some thoughts along these lines.

Bill is a capital markets vet who has a longstanding interest in risk management. He's now launching an advisory service which keeps the math behind the curtain and offers a user-friendly dashboard. With it, a CIO or investment committee may test what-if scenarios and get a broad, actionable look at where they stand versus predetermined risk limits. If risk exceeds their target, Bill’s firm will hedge out the excess risk. In a nutshell, “Managing” the portfolio risks is about controlling the downside and allocating to the best sources of risk-adjusted returns”

For more detail see Bill Ferrell “Pension & Investments” May 4, 2009. Link:
http://www.ferrellcapital.com/pdfs/P&I%20Transparency%20Editorial%2004MAY2009.pdf

Bill has been successful in marketing to banks, and he tells me he's now seeing increasing interest from the foundation and endowment world.

All thoughts, comments, and career moves are welcome. To comment or unsubscribe please email me at skorina@sbcglobal.net.

The Skorina Letter No. 4

Charles Skorina looks at people and issues in the world of Endowments, Foundations, Hedge Funds and Alternative Investments

Another Very Quiet Departure:

Chief Investment Officer Thomas Kannam has left Connecticut's Wesleyan University for parts unknown. The school's president announced that he had left to "pursue other activities.“ Kannam, a Dartmouth MBA, had been with the endowment since 1998, but was only promoted to full-fledged CIO a couple of years ago.

In recent decades, Wesleyan's endowment has underperformed little Ivy peers like Amherst and Williams. But their troubles go back before Kannam's tenure. The school seems to have adopted a conservative, bond-heavy strategy at the end of the 70s and missed the big stock run-up that followed. Also, it has taken a bigger annual bite of the endowment for operating expenses than most schools – over 7% until recently – and maxed out its borrowing with $200 million in 35-year bonds now outstanding. The fund lost 19 percent over five fiscal quarters as of a year ago, down $715 million to $580 million. Late last year they had to suspend a major construction project and cut back on routine maintenance to balance the budget.

In any case, they now have a chance to reset the endowment under new leadership.

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On The Road Again:

I'm often impressed – or appalled – at the grueling travel schedule many of my hedge fund and private equity clients commit to. I understand that they have to get up close to both their investors and their portfolio companies to stay in the game, but the mileage they rack up requires real stamina.

Wanda Dorosz, CEO of Toronto-based Quorum Funding, invests in the oil and gas technologies sector. She alternates her usual UK, Oslo, Abu Dhabi, Dubai and Bahrain run with her other regular orbit: Toronto-Calgary-Red Deer-Houston-LA.

Chuck Johnson of Tano Capital, meanwhile, is currently monitoring his fund’s investments with his quarterly five-week swing through Singapore, India, Singapore again, HK, a handful of Chinese mainland cities, New York, and home.

And, Doug Metcalf and Bill Lawton of Seagate Global, are digging for private equity investments in China and the Philippines on their usual two to three month journeys to China and Southeast Asia, hitting places I can't even find on the map.

Business out in Asia and the Middle East is looking very good, from what thy tell me. But with the Euro hitting a buck fifty and China slowing down to a "mere" 8% growth rate, it's hard not to get a bit depressed about our prospects here at home.

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Harvard University operates on a bigger scale and in a brighter spotlight than most, but one fundamental problem extends all the way down the food-chain: paying top investment talent what they could make elsewhere. There is always going to be some cultural strain at mission-oriented non-profits, and finding an acceptable balance is never easy.

Bloomberg reporter Gillian Wee has gotten a peek under the skirts of the Harvard Management Company and told all, revealing which outside managers hit their targets, which didn't, and by how much. The numbers, just coincidentally, align with the CIO's push to bring more money in-house, which could re-ignite a whole cycle of controversy at Cambridge as Wall Street-size salaries collide with Harvard-size egos and egalitarian politics.

Most of the endowment (about two-thirds) is currently invested with 63 outside managers. Now, "internal data" mysteriously acquired by Bloomberg shows that only 25 of them hit their targets (and only nine, or 14%, of those actually made any money).

That leaves thirty-eight funds – 60% of them – who not only lost money, but failed to even hit their benchmark targets.

Given that Harvard lost 27% of its endowment last year – the worst performance in the Ivy League – it's not surprising that most of its managers lost money. But this report names names and provides details that are rarely available to sleuths and cynics like us.

There's Jon Lavine (Harvard MBA), who runs Sankaty Advisors under the Bain Capital umbrella. Sankaty's high-yield bond strategy lost 65% of the $383 million it ran for Harvard and trailed its benchmark by a dismal 61 points.

And sharing the doghouse is Dinakar Singh's TPG-Axon long-short fund, which lost $47 million of Harvard's money, 16 points behind its benchmark.

Seth Klarman (Harvard MBA, and a B-school lecturer), beat his target by a respectable 6 points, but that wasn't nearly good enough in a bad year. He still lost $400 million of Harvard's original $2.5 billion stake in his Baupost Group.

There are a few heroes, too. Ed Lampert at ESL Investments in Connecticut turned Harvard's $118 million into $134 million, beating his benchmark by 39 points. And John Grayken's (Harvard MBA '82) Lone Star VI Fund in Dallas, targeting distressed debt in the residential mortgage space, returned 7.5% to his alma mater, topping their target by 21 points.

More details here:

http://www.bloombergmarkets.org/apps/news?pid=20601109&sid=akEKjenRO24Q

Some of these gentlemen will be invited back next semester; some probably won't be getting the thick envelope.

The larger point: Where does this leave the current version of the Harvard investment model? According to Bloomberg, Ms. Mendillo, the endowment CIO, is "reducing the influence of independent firms." But then they carefully note that she “declined to comment on Harvard’s external fund managers or her plans to shift more money in-house.”

Mmmm.

It’s important to note however, that in the decade ending this June – even including the awful recent year – the Harvard endowment earned an average of 14% annually, according to Mebane Faber at Cambria Investments. Respectable returns by any standard.

Yet the last time Harvard emphasized internal management, under Jack Meyer (CIO from 1990 to 2005), his impressive money-making machine was blown up by some of its angry beneficiaries. Meyer paid his people based on performance and in 2004 the top performers got over $100 million in total. A lot of money, but a trifle compared to the tens of billions that the endowment was earning in those fat years.

But some 60s-era alumni thought these salaries were unseemly. A great, Harvard-style dust-up arose. So, Jack Meyer along with thirty of his best and brightest, in an "Atlas Shrugged" moment, left Harvard to found Convexity Capital Management.

With exquisite irony, Harvard is now paying Jack Meyer much more to manage much less of its money.

There's never been any love lost between the B-school types and the "real" Harvard across the river. If the activist alumni didn't want to pay in-house managers what they were worth even five years ago when returns were high, how much will they stand for when returns are more modest and Harvard is freezing salaries for the poets and post-structuralists who stay on the right side of the Charles?

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Don't forget the Connecticut Hedge Fund Association's Global Alpha Forum:

It's on November 5th at the Hyatt Regency in Greenwich, CT.

John Thain, former (and final!) CEO of Merrill Lynch will open the conference on Thursday, and have a chance to get it all off his chest.

Dr. Richard Sandor of the Chicago Climate Exchange will offer a preview of the dreaded and/or longed-for Cap-and-Trade regime. Plus many other academics, gurus and practitioners from all over.

If you have any plans to head back east for some pre-holiday studies, shopping, or bonding with relatives, we would love to see you.

The Agenda and a link to registration form is here:

http://globalalphaforum.org/agenda.html

Register Now!

All thoughts, comments, and career moves are welcome. To comment or unsubscribe please email me at skorina@sbcglobal.net.

The Skorina Letter No. 3

Charles Skorina looks at people and issues in the world of Endowments, Foundations, Hedge Funds and Alternative Investments

I'm in the executive search business, so I should love to see leadership turnover. And lately I'm seeing a lot to love. But most people shouldn't be looking at it from my perspective.

People responsible for institutional money should want to see as little turnover as possible. Every new chief investment officer has to build up mutual confidence with boards, committees and colleagues; communicate an investment philosophy; and be given enough time to have his performance fairly judged. When that door revolves too fast, it often results in confusion, demoralization and loss of precious institutional memory.

These are extraordinary times, and it's hard to judge the wisdom of individual moves from the outside, but that door does seem to be spinning at unusual speed in many places.

For instance:

Maurice (Maury) E. Maertens, CIO of New York University's $2 Billion endowment, retired at the end of July. And it appears that his able subordinate Tina Surh, veteran of the Princeton investment company and a Harvard MBA, will not get the job. A lot of institutional knowledge went out the door with Maury, and it will be interesting to see who fills the slot.

And...

Patrick O'Connor, who became University of Arizona's first CIO less than three years ago, left this summer for a job at Cook Children's Hospital in Fort Worth. He inherited a generic 70/30 allocation and wrestled it into something more flexible and sophisticated: four broad categories of equities, fixed income, real assets and cash; with hedge funds and alternatives residing in each of the first three. But he also carefully tuned the portfolio to the specific risk preferences of Arizona's investment committee. He said, awhile back, that "the largest obstacle I see over the next five years is not utilizing this opportunity that the markets have made readily apparent." Now, someone else will have to complete that five-year mission.

And...

Josh Kaplan, hired as Drexel University's first CIO in 2007, just left, quietly and suddenly. Like O'Connor, he inherited a traditional long-only stocks-and-bonds portfolio and began shifting into alternatives. Maybe it was too much, too soon. Just three weeks ago the school's interim president wrote that Drexel's endowment had performed relatively well versus equity indexes and peer institutions, and had posted double-digit gains so far in this calendar year. Then he thanked the CFO, Thomas Elzey, and made no mention at all of the CIO who had run the portfolio for the past two years. Sic transit gloria and so forth.

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And now some thoughts from clients, colleagues, and passing strangers about the big economic and investment picture in these interesting times:

We've been reminded lately that if you are committed to cashing out 5% of your portfolio every year for as far as the eye can see, you'd better make sure you're seeing far enough.

The alternative-rich endowment model pioneered by the Big Ivies rose in the (mostly) fat years of the 80s and 90s, including their relatively short and mild recessions. It had never been tested in the kind of bone-crushing slump we are now living through. And someone should have noticed the implications for portfolio liquidity when, inevitably, such a slump finally arrived.

In fact, someone did: my fellow Chicago alumnus, Larry Siegel.

Larry was a long-time strategist for the Ford Foundation (just retired in August) and he wrote a paper early last year that was prescient. "Alternatives and Liquidity: Will Spending and Capital Calls Eat Your 'Modern' Portfolio?" appeared in the Fall 2008 issue of the Journal of Portfolio Management about the time Lehman's employees were cleaning out their desks.

He looked at how an alternative-heavy portfolio would stand up to three different economic scenarios. The worst-case was a "black swan" meltdown of the kind we've actually enjoyed. And his conclusions about liquidity lockups were pretty prophetic. Three months ago, he got to go to Paris and pick up the first EDHEC-Robeco prize for his work.

It includes practical suggestions on how to avoid a future cash crunch by laddering gradually into alternative assets. It's remarkably lucid and light on the math. Even I understood it. It's not available online, but Larry's graciously allowing me to send a copy to anyone who wants to read it. See my email address listed below.

Two weeks ago he presented on the same topic at the Foundations and Endowments conference in San Diego and was able to compare his what-if scenario to recent events.

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Investing in Jurassic Park...

As of January, the top 100 hedge funds control $1.03 Trillion of the total $1.4 Trillion in hedge fund assets, according to Chicago based Hedge Fund Research and Euromoney Institutional Investor's Alpha magazine. And the ten biggest funds control about one-fourth of the whole pie: $324 Billion.

So, three-fourths of all hedge money is in 100 firms, and one-quarter of it is in 10 firms. So how do they make the big, bold bets when every move they make roils the market? They ARE the market!

But there are still 2000 to 4000 hungry little hedge funds with about $400 billion, ready to scamper between the legs of the dinosaurs. They don't shake the earth, but they're way more maneuverable, and often produce superior returns.

=====================================

Don't forget the Connecticut Hedge Fund Association's Global Alpha Forum on November 5th at the Hyatt Regency in Greenwich, CT.

John Thain, the former (and final!) CEO of Merrill Lynch will open the conference on Thursday, and have a chance to get it all off his chest.

Dr. Richard Sandor of the Chicago Climate Exchange will offer a preview of the dreaded and/or longed-for Cap-and-Trade regime. Plus many other academics, gurus and practitioners from all over.

If you have any plans to head back east for some pre-holiday studies, shopping, or bonding with relatives, we would love to see you.

The Agenda and a link to registration form is here:

http://globalalphaforum.org/agenda.html

Register Now!

All thoughts, comments, and career moves are welcome. To comment or unsubscribe please email me at skorina@sbcglobal.net.

The Skorina Letter No. 2

Charles Skorina looks at people and issues in the world of Endowments, Foundations, Hedge Funds and Alternative Investments.

In-house asset management versus outsourcing, the debate continues… the UC Berkeley Foundation just announced that it will outsource its portfolio management to a new standalone management company called, unimaginatively, the UC Berkeley Management Co.

Previously, the UCBF had no CIO as such, just a (huge) board and an investment committee.

The five-member board of the new entity includes such heavy-hitters as Warren Hellman (of the mighty San Francisco-based private-equity firm Hellman & Friedman and “Bluegrass aficionado”) and Laurance R. Hoagland, CIO of the $6.3 Billion Hewlett Foundation.

The new CIO is John-Austin Saviano, whom they plucked from Cambridge Associates. He'll get $270 K in compensation, which is at the low end of the salary scale for a $ 2.3 Billion dollar asset pool.

Saviano is an MBA from Duke, spent several years at the $4.5 Billion Moore Foundation, and has been specializing in alternative assets:

Brandeis CIO search: I hear the search continues for a CIO at Brandeis. People I know keep getting calls…a tough choice with such a strong pool to draw from.

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And now some thoughts from clients, colleagues, and passing strangers about the big economic and investment picture in these interesting times:

There have been heated arguments lately about the “endowment” model of investing and whether, given the sharp drops in returns over the last year, the model is all it’s cracked up to be. David Swenson, the long-time Yale CIO seems to be the poster boy for the strategy, which leans heavily into non-public "alternative" investments that were seldom seen in endowments twenty years ago.

Setting aside for the moment the fact that this model is really just the basic sound portfolio management I was taught at University of Chicago and, that we have experienced over the last thirty years or so one of the greatest run-up in assets prices since our country was founded, the question still remains, is having a relatively large allocation of illiquid assets (private equity, venture capital, real assets, infrastructure) in your portfolio, along with traditional buy-and-hold bonds and stocks, good for institutions in the long run?

My colleague John Legere has some thoughts about this issue in light of the whopping 27% loss just officially reported by Stanford for the fiscal year 2008 (ending June 2009) and the results at a smaller neighboring school, Santa Clara University.

He argues that it’s a cheap shot to say that the "exotic" strategies pursued by Stanford (and its Ivy peers) were too risky, and couldn't survive a single bad year. But look, over the ten years ending in and including the most recent terrible fiscal year, Stanford still averaged an annual return of almost 9 percent. In fact, the endowment grew by 23% in 2007 alone. You could argue that the "disastrous" 2008 really only wiped out the super-good earnings of the previous year-and-a-quarter or so. And from that angle the strategy still looks pretty good over the longer-haul. And the longer-haul is exactly what an endowment CIO should be looking at.

If you had just bought an S&P 500 index fund and held it over that same ten-year period, you would have lost, on average, over two percent per year! (Most of that loss, admittedly, would have been concentrated in just a couple of bad years, but that's the whole point about looking at a long horizon). The single-year loss in 2009 would have been comparable to the Stanford strategy, but you wouldn't have had all those previous fat years to offset it.

Santa Clara University, with its more conservative strategy, posted a significantly smaller loss in fiscal 2009 (although it still lost a painful 20%).

I note that ten years ago -- in June, 1999 -- Santa Clara had $370 Million. Growing $370 to $540 in ten years implies a straight-line growth rate of just 4.6%. On the same basis Stanford Management Co grew its pool from $5.8 billion to $14.5 billion, implying a straight-line growth rate of 8.7%, close enough to their announced 8.9% ROI. Clearly, SC grew at only about half the rate Stanford managed. This simple metric ignores a lot of financial and accounting detail, including the typical 5% of market value piped into the annual operating budget, but it still tells the story. If you want to grow faster you must either raise ROI or rev up a development effort that's already peddling as fast as it can.

Of course, this leaves out the important consideration of liquidity. Being heavily into illiquid limited-partnership deals can cause big problems in the short run, even while it enhances returns in the long run. Stanford had to issue bonds to plug the hole in its operating budget last year, and that bond-interest is effectively reducing endowment returns. But it has the borrowing capacity to do it and, over the long run, pulling this emergency lever once or twice in a century might still be a better strategy than relying more heavily on more-conservative and more-liquid public securities.

Another major school, the University of Pennsylvania made a prescient move into U.S. treasuries and dumped financial stocks in 2008, which saved it a bundle over the last year. But that same strategy would undoubtedly have left it far behind the curve if it had been adopted and maintained over the whole past ten years. They timed the market under last year's extraordinary conditions, and they get credit for doing it well, but that isn't what we usually expect managers of a permanent endowment to be doing.

As the Great Recession begins to recede and panic subsides, maybe it will be possible to take a more objective look at this whole question. And most likely, as time passes, the "exotic" Swenson-type strategies will turn out to have been the right road all along, at least for the big endowments with the resources to execute them.

All thoughts, comments, and career moves are welcome. To comment or unsubscribe please email me at skorina@sbcglobal.net.

The Skorina Letter No. 1

Charles Skorina looks at people and issues in the world of Endowments, Foundations, Hedge Funds and Alternative Investments.

I keep my recruiting business focused on the investment management niche, and one reason is the amazing diversity of the people I deal with every day.

Where else can one find such a clash and ferment of ideas as among chief investment officers, portfolio managers and traders? The fact that they seldom agree is what makes markets work, and makes my job fun!

In the foundation and endowment world, managers have had to re-think their business and muster some creativity after the Great Blow-Out of 2008. Three recent CIO moves suggest how some of them are grappling with the problem of maintaining returns, managing risk and reducing expenses.

Carla McGuire, former CIO at Indiana's DePauw University, moved to Hammond Associates in June. From her new desk in St. Louis she will still manage the $427 Million DePauw portfolio, while opening up her practice to new clients. Carla will be the first Hammond exec to offer "fully-outsourced" investment management to a mid-sized institutional client, one step up from the advisory services Hammond has traditionally offered. After six years at DePauw following five years at the University of Chicago endowment, heading for St. Louis is a homecoming for Carla, a St. Louis University MBA graduate.

Chris Bittman, University of Colorado Foundation's former CIO, moved to investment bank Perella Weinberg Partners, but he's not leaving town. Chris, a Colorado alumnus, will head up a new Denver office for Perella, an international firm headquartered in New York. Perella has an institutional asset management arm, and Chris will be heading up their endowment-management group. Colorado is outsourcing management of their whole $870 Million endowment pool to Chris and Perella, which will ensure continuity of Chris's deft hand while offloading the cost of an in-house investment office. Chris became UCF's first CIO in 2004, and in 2007 they were named “Large Foundation of the Year” under his leadership.

Lee Partridge. The most interesting move of all, however, is the departure of Lee Partridge, deputy chief investment officer of the Teacher Retirement System of Texas in August to launch Integrity Capital LLC. His first investor just happens to be the San Diego County Employees Retirement Association which recently shut down a long running search for a CIO. Why the move and outsourcing arrangement? It turns out that the SDCERA can’t pay enough for a CIO in house due to a county salary cap, so the pension board will let Integrity run the 6.5 Billion fund for roughly a million dollar fee. I wonder when and how this idea came up, and who thought of it?

This kind of wholesale outsourcing of the CIO function won't appeal to all non-profits, but it is clearly something that some mid-sized funds are going to be looking at. Carla, Chris and Lee now have new opportunities for professional development and scaling up their best ideas, while institutional clients gain options for managing the assets.

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And now some thoughts from clients, colleagues, and passing strangers about the big economic and investment picture in these interesting times:

Chuck Johnson, the head of Tano Capital, focusing on growth markets in India and China and real asset investments, and a long time veteran of the mutual fund and hedge fund industry, points out in a recent newsletter that although we seem to have dodged a bullet with this latest crash and recovery, we should be very careful before we congratulate ourselves, because it could always get worse.

He writes “To put the crash of 1929 in perspective, the poor souls in the 30’s witnessed a decline in values very similar to what we have just gone through in the last year, and then from that point on, witnessed another further 74% decline over the next three years on top of what they had already experienced.”

Why do I keep looking over my shoulder?

Doug Metcalf and Bill Lawton of Seagate Global, a private equity fund focused on mid-sized investments in China and the Philippines, spend eight months a year on the ground in Asia. From vast bamboo plantations in China to commercial and industrial developments around the old US Clark Military Base in the Philippines, they tell me that from what they see, these two Asian economies are growing with hardly a hiccup. Money, a young population and relentless development offer a completely different investment climate from what we are seeing in Europe and North America.

Wanda Dorosz, the CEO of Quorum Funding, a Toronto-based private equity/venture capital fund has invested in private companies in the oil and gas technologies sector for years. The need to pull more and more oil from harder-to-reach places a huge premium on new detection and extraction technologies. She believes that betting on the best of these is going to offer solid returns in the next decade.

Backing up her investment thesis, the Financial Times pointed out the other day in their LEX column that. “ The majors’ [oil companies] most important work consists of incremental technological grind, rather than finding sleeping giants [new oil fields]”.