Inside Harvard’s Radical Plan to Reverse a Decade of Poor Returns

From the Wall Street Journal:
Harvard’s endowment is preparing to close its hallmark internal hedge funds and invest nearly all its money with outside money managers. The dramatic steps are just the beginning of an overhaul engineered by its new chief executive as he attempts to reverse a streak of lackluster returns.

Early on Jan. 25, staffers at Harvard University’s endowment streamed into the boardroom on the 14th floor of its offices in the Federal Reserve Bank of Boston’s building. In back-to-back sessions, endowment executives told them big changes were coming to Harvard’s investment strategy, and that half the firm’s 230-person staff would be laid off.

Chief Operating Officer Robert Ettl told employees they would learn their “disposition” in coming weeks, staffers said.

Employees were told whether or not they were being laid off earlier this month, and departure dates range throughout the rest of the year, according to people familiar with the matter. Traders have been told to wind down their portfolios by the end of March as the $36 billion endowment prepares to close its hallmark internal hedge funds and invest nearly all its money with outside money managers.

The dramatic steps are just the beginning of an overhaul engineered by new chief N.P. “Narv” Narvekar, the endowment’s fourth chief executive in a decade. Harvard has promised Mr. Narvekar at least $6 million a year over the next three years as he attempts to reverse a streak of lackluster returns, according to people familiar with the matter. His pay package is one of the highest for any endowment chief.

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In the past, Harvard Management Co. had staffers specialize in different areas, like real estate. Now, Harvard will use a generalist approach where staffers look across the entire portfolio to make investment decisions, Mr. Narvekar wrote in a January letter outlining changes to the endowment. Harvard has told its outside money managers they will be part of that generalist approach, pitting private-equity funds, for example, against other types of investments. Harvard will also invest by focusing on the types of risks that different investments present instead of earmarking specific allocations to asset classes.

The decisions represent the biggest overhaul of the world’s wealthiest endowment in decades and bring Harvard in line with many other endowments.

But the move toward the generalist approach is a repudiation of an investment framework used by countless pensions and other institutional investors that encourages deep expertise in narrow specialties.

Proponents of that more traditional approach say various asset classes have certain characteristics that take time to learn. An expert on U.S. government bonds, for example, might have little knowledge of quantitative-hedge-fund strategies. Mr. Narvekar wrote in the letter that that approach led to too much focus on the performance of individual asset classes and not enough on the entire endowment.

“We must evolve to be successful, and we must withstand the associated growing pains to achieve our goals,” Mr. Narvekar wrote.

Harvard has given Mr. Narvekar time to deliver as his pay package was guaranteed for the next three years, according to people familiar with the matter. Mr. Narvekar has said staffers will be paid based on the endowment’s overall performance by 2018.

Harvard’s guarantee is rare among top endowments, some of the people said. It reflects the post’s turnover and the board’s enthusiasm for Mr. Narvekar, people familiar with the matter said. Such guarantees are more typical in turnaround situations, one of the people said; his pay is less than his recent predecessors’ in some years.

Harvard was once the envy of the endowment world. From 1990 to 2005, the endowment returned an average of more than 14% a year.

At that time, then-chief Jack Meyer built an in-house hedge fund and embraced investing in outside hedge funds and private-equity funds, early compared with most endowments. Harvard’s endowment was one of the first to make a major play in timber, investing in swaths of forestland in the early 2000s in New Zealand.

Mr. Meyer and a crew of traders left in 2005 following criticism from some faculty and alumni that they were paid too much. They were among the highest paid university employees in the 2000s. In 2003, bond traders David Mittelman and Maurice Samuels earned more than $34 million apiece. Then-Harvard President Lawrence Summers made less than $1 million, according to a tax filing.

Harvard posted a 27% loss during the financial crisis, the worst in the Ivy League, and sold stakes in private-equity funds at losses. The endowment’s annualized gains of 5.7% over the 10 years ended June 30, 2016 are the second-lowest in the Ivy League and below the comparable 8.1% returns of Yale University and Columbia University.

The board’s allegiance to having both internal and external money managers was shaken by its experience with the endowment’s last chief, Stephen Blyth, say people familiar with the matter. An internal equities trading team he had built suffered at least $200 million in losses the last fiscal year, according to people familiar with the matter.

Mr. Blyth stepped down last summer after 18 months on the job, citing personal reasons. He has returned to teaching at Harvard and told students he has been undergoing cancer treatment, according to a person familiar with the matter.

The board resolved to hire a turnaround chief for the long haul. Mr. Narvekar was chosen after a two-month search.

The one-time J.P. Morgan trader had been running Columbia’s endowment for 14 years, turning it from an underperformer to the top of the Ivy League. He more than doubled its size, to $9 billion by 2016.

He scaled back Columbia’s investments in private equity to reduce the endowment’s correlation with public markets. The decision paid off during the crisis when Columbia didn’t have to borrow money or sell assets at fire-sale prices, people familiar with Columbia said. Columbia made investments whose returns didn’t track broader markets, including in drug-royalty streams, litigation-finance funds and quantitative hedge funds, such as Renaissance Technologies and the D.E. Shaw Group, other people said.

“He’s good in up markets, he’s good in down markets,” said Robert Kasdin, the former senior executive vice president at Columbia, who worked closely with Mr. Narvekar. “I remember saying to Narv at the end of ’08 when we were outperforming, ‘How are we doing this?’ He said, ‘It’s single and double after single and double. There is no big bet we put on in this portfolio that saved us.’”

Harvard endowment staffers had been anxious since Mr. Narvekar’s selection was announced in September, guessing he would move toward greater investments with outside money managers. He signaled as much during his first weeks on the job, current and former employees now say, citing the long hours he spent in his office and limited interaction with traders. A person familiar with Mr. Narvekar said he was interested in knowing employees, but was focused on understanding the endowment given the decisions he faced.

Write to Juliet Chung at juliet.chung@wsj.com and Dawn Lim at dawn.lim@wsj.com

https://www.wsj.com/articles/inside-harvards-radical-plan-to-reverse-a-decade-of-poor-returns-1488277804

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