In March of last year, Charlie Munger — Warren Buffett’s second-in-command — donated $200 million to UC Santa Barbara for state-of-the-art student dorms. It was a record gift that far surpassed his previous record-setting gift of $65 million to fund the Kavli Institute for Theoretical Physics on the UCSB campus.

But there was a caveat to Munger’s donation this time around: There can be no windows in the dorm rooms. They must be like Disney cruise ships’ artificial portholes, where “starfish come in and wink at your children,” he told the UC Board of Regents. “No one can tell it’s not a window.”

Weird? You bet. But animatronic portholes in the school’s dorms are no weirder than what’s been happening at the UCSB endowment, where in-house financial clinicians and well-heeled outside fund managers could not get the endowment’s five-year annual returns to match the average American’s 401(k) returns for the period. It’s enough to make donors want to open their virtual portholes and scream into the fake void.

At the end of June 2015, its endowment was valued at $253.1 million. A year later, it had grown to $273.6 million thanks in part to donations of $119.1 million. But the growth masks deep structural problems. The foundation’s performance, according to the University of California Annual Endowment Report for the year ending in June 2016, lost 3.1 percent on its invested funds and over five- and 10-year periods, was returning less than half what experts say is required just to maintain purchasing power.

Besides low returns, its managed endowment funds have established big positions — a combined 32 percent — in hedge funds and private equity. And the UCSB endowment isn’t alone.

University endowments from coast to coast have been taking big risks since the end of the Great Recession. Asset managers no longer ponder the ideal distribution among stocks, bonds, and real estate, but rather now see the world as either “alternative-strategy investments” or public investments.

Critics contend endowments have essentially become hedge funds, or have empowered outside hedge funds to manage big chunks of them. It is estimated that over $100 billion of educational endowment money nationwide is invested in hedge funds, which cost schools about $2.5 billion in fees in 2015. But it’s worse than that, since that thinking doesn’t consider their increased involvement in private equity deals and commodities.

Over the past five fiscal years, UCSB’s combined endowment earned 3.7 percent a year. By comparison, a portfolio passively invested with 60 percent in a U.S. stock index and 40 percent in a bond index over the same five years would have earned 8.9 percent annually. UCSB’s performance is uniquely bad, even among underperforming UC endowments.

And nothing irks donors more than index funds outperforming highly paid asset managers.

Of late, endowments have been accused of hoarding money, hiding risk, underperforming, paying sky-high management fees, and creating conflicts of interest as hedge fund managers — sometimes alumni — become trustees, make donations, have buildings named after them, and then receive ever bigger pots of money to manage.

The trend mirrors the national one. Asset managers at elite U.S. universities, after paying rapacious fees to hedge-fund gurus, have been heavily weighting portfolios in foreign stocks, equity positions, venture capital, managed futures, distressed debt, commodities, and other so-called “alternative strategy investments.” Hedge funds, which are essentially unregulated, high-cost investment vehicles, account for ever-larger portions of endowments, as do private equity deals.

Colleges and universities report they need to earn a median return of 7.4 percent to maintain their endowments’ purchasing power in light of spending, inflation, and management costs. This year’s negative returns contributed to a decline in long-term 10-year average annual returns to 3.7 percent at the combined UCSB endowment.

A 2016 white paper found the University of California paid hedge fund managers about $1 billion in fees over the last 12 years. Nationally they paid about 60 cents to hedge fund managers for every dollar in investment returns between 2009 and 2015, according to a report by the Strong Economy for All Coalition.

A who’s-who of rock-star chief investment officers across academia are heading for the exits in the dark of night to spend more time with their families, leaving donors, students, and taxpayers in the lurch.

But like a drunk gambler signing a marker, many a chief investment officer will head to the blackjack table one more time to try to erase a decade of underperformance with a few lucky hands.

Jeremy Bagott, a former journalist, writes about finance and land-use issues.


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