Yale’s trendsetting private-equity strategy is getting harder to pull off | Universities and other institutions have built up large private-equity holdings, but they are now lagging behind the S&P 500 and aren’t easy to shed

> Universities, pensions and foundations have piled into private equity for decades, hoping to match the blockbuster returns of Yale’s legendary endowment chief, David Swensen. But Swensen’s approach is becoming harder and harder to copy, even at Yale.

> Swensen, who died from cancer in 2021, produced an annualized return of 13.1% during his 36-year run at the Ivy League school. Much of his gains came from so-called alternatives to stocks and bonds. Big institutional investors have since followed Yale into these less-liquid markets, particularly private equity.
But in recent years private equity has lagged behind the S&P 500. And much of what those funds earned for their investors in that time was on paper; endowments and other institutions were getting less and less cash that they could put to work in the booming stock market.

> Higher interest rates have turned the private-equity market on its head, crimping returns and making it hard for managers to get the prices they want for the companies in their portfolios. Meanwhile, institutions have struggled to find investments that hedge against stocks and private equity without further eroding returns—and the problem has gotten worse with the stock market’s latest rally.

> Swensen’s private-equity success was fueled in part by nearly 40 years of declining interest rates. The present-day stewards of endowments aren’t so lucky.

> “Just because something has worked for a particular set of institutions over some period of time, it’s not a guarantee of future success,” retired Yale private-equity manager Tim Sullivan said on the investing podcast Capital Allocators.

> Private-equity returns for endowments and foundations have trailed stocks for three years in a row, according to Wilshire Trust Universe Comparison Service. Ten-year annualized returns at many Ivy League schools last year fell to their lowest point since 2019, the first year that figure didn’t include financial-crisis losses. Several top schools, including Yale, are selling or contemplating selling private-equity assets early at a discount—something Swensen never did.

> Yale said in a statement that it remains committed to its private-markets strategy. “We trust that sophisticated investors, especially our partners who know us best, understand this,” the school said. Private-equity holdings in the broader nonprofit world have been shrinking, with the average allocation at large universities and foundations at 46% as of June 30, down from 58% two years ago, according to Wilshire TUCS. Among Ivy League schools, whose private-equity portfolios often outperform the broader group, only a few universities have cut their allocations.

> When Swensen started in 1985, universities held mainly stocks and bonds—ignoring private equity, real estate and other alternatives. But those “dark corners,” as Swensen described them in his 2000 book, were where he found rewarding investments. Swensen also had a knack for picking the right managers. And in the private markets, the gap in performance between the best and the also-rans was far wider than, say, the top stock- or bond-picker and the middling ones.

> Since then, private equity has grown from a dark corner into a $7 trillion market. Some of Swensen’s other principles, on diversification, have also gotten harder to follow.

> The Yale endowment chief said in a 2017 interview that one of his “most important metrics” was the share of the portfolio in cash, bonds and hedge funds. While private equity often moves in the same direction as stocks, “uncorrelated assets…would protect the endowment in the event of a market crisis,” Swensen said.

> Having about 30% of the portfolio in those assets, he said, helped Yale weather the 2008 crisis.

> As of last year, five of 10 elite universities analyzed by the Journal—including Yale—held less than 30% in cash, bonds and hedge funds. Yale’s bond allocation, fell from about 10% in 2020, Swensen’s final year, to 4% in 2024. (The Journal reviewed the schools’ total assets in cases where their endowments’ holdings weren’t reported separately.)

> “People haven’t been paying close attention to what Swensen was really saying,” said Charles Skorina, a recruiter in university investment management.

> In the short run, adding uncorrelated assets would likely mean lower returns. Cash and bonds are no match for a highflying stock market.

> What’s more, fewer hedge funds offer investors much of a hedge against potential losses on the stock market. A 2023 Goldman Sachs analysis found an increasing share of these funds’ holdings concentrated in seven tech stocks. Conceding this reality, Yale in 2021 reclassified about $3 billion worth of its hedge-fund holdings as equities.

> Some schools declined to comment. A Stanford spokesperson said the school takes care to choose hedge funds that protect against stock moves.

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