Creating a sustainable spending policy
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Creating a Sustainable Spending Policy. 2014 AGB Foundation Leadership Forum. Presented By: Laura Block, CPA, CFP Chief Financial Officer University of North Dakota Foundation Mary Jane (MJ) Bobyock, CFA SEI Director of Institutional Nonprofit Advice. January 27, 2014.

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Creating a Sustainable Spending Policy

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Creating a sustainable spending policy

Creating a Sustainable Spending Policy

  • 2014 AGB Foundation Leadership Forum

  • Presented By:

  • Laura Block, CPA, CFP

  • Chief Financial Officer

  • University of North Dakota Foundation

  • Mary Jane (MJ) Bobyock, CFA

  • SEI Director of Institutional Nonprofit Advice

  • January 27, 2014


Numerous variables impact an endowment s spending policy

Numerous variables impact an endowment’s spending policy

Donor expectations

Inflation

Liquidity needs

Strategic initiatives

Support operating budget

Administrative costs

Enrollment

UPMIFA

Inflation

Public vs. private

Spending Policy

Capital campaigns

Capital market impact

Scholarships

Calculation methodology

Fundraising

Drawdown risk

Financial aid

Purchasing power

Restricted vs. unrestricted

Underwater endowments

Budget

Government support


Volatile investment environment leads organizations to make spending policy changes

Volatile investment environment leads organizations to make spending policy changes

  • Combining diligent spending analysis with asset allocation decisions can help to balance short-term cash needs with long term portfolio growth goals

  • Increased focus on finding the right level of spending as a result of:

    • Lower expected returns from investment markets

    • Higher demands for the use of endowment assets

  • In light of a recent volatile investment environment, 61% of poll respondents said their organizations have made a change to their spending policies since 2008

FOR INSTITUTIONAL INVESTOR USE ONLY. NOT FOR PUBLIC DISTRIBUTION.


An organization s hurdle rate drives future strategic asset allocation

An organization’s hurdle rate drives future strategic asset allocation

  • Once a hurdle rate is determined, it drives the strategic asset allocation, balanced by the risk objectives of the organization

  • The example below shows a sample of what client portfolio allocations might look like based on unique hurdle rates and risk metrics associated with each allocation

  • Client Hurdle-Rate Objective is the long-term return needed by the client to cover its spending rate + inflation expectations + any related fees.

FOR INSTITUTIONAL INVESTOR USE ONLY. NOT FOR PUBLIC DISTRIBUTION.


Spending policies by organization type

Spending policies by organization type

SEI’s Nonprofit Management Research Panel Survey (Spring 2013)


Colleges and universities spending policy effective rates

Colleges and universities spending policy & effective rates

  • SEI’s Nonprofit Management Research Panel Survey (Spring 2013)

    • Average spending policy based on size

      • <$100M = 4.19%

      • $100-300M = 4.61%

      • >$300M = 4.54%

    • Average spending policy based on type

      • Private = 4.71

      • Public = 4.47

  • NACUBO-Commonfund Study of Endowments 2014

  • Effective spending rates (vs. policies)


Strategies for calculating the annual spending rate

Strategies for calculating the annual spending rate


Case study university of north dakota foundation

Case Study:University of North Dakota Foundation

  • A process for analyzing potential changes and risks


Case study public university endowment

Case study: Public University Endowment


University of north dakota foundation observations and assumptions used in analysis sept 2012

University of North Dakota FoundationObservations and assumptions used in analysis: Sept 2012

  • Current market value of Foundation is $195 Million

  • Spending policy is 4%

    • Review based on 4 quarter and 12 quarter methodologies

  • Administrative fee is currently 2% which covers the administrative and operational costs of running the Foundation and affiliated fundraising

    • Review impact of reducing fee percentage over time as asset values increase

  • Long term inflation assumption is 2%

  • Total return or “Hurdle” rate is 8% -- in line with NACUBO research

  • Year by year cash flow detail from the Pledge Cash Flow report was included

  • Additional inflows of $1 million each from both the Irrevocable Planned Detail Report and Revocable Planned Detail report were included


How we create probability distributions and what they mean

How we create probability distributions and what they mean

  • The probability distribution graphs and / or tables that follow are meant to provide an overview of the range of possible outcomes for a given variable (e.g., returns, pension contributions, expense) for a given asset allocation.

  • The probability distributions are generated using SEI’s proprietary modeling tool and simulated capital market behavior.

  • Capital market behavior is simulated for 1,000 possible scenarios based on expected performance of each asset class and reflecting current economic conditions. Capital market assumptions such as return, standard deviation and covariances are inputs into this process, combining with model parameters to create market scenarios.

  • We use these 1,000 capital market scenarios to create 1,000 output scenarios for each variable being considered.  

  • A 90% confidence interval should be interpreted as 90% of the projected output variables, falling between the 5% and 95% results, based on SEI Capital Market Assumptions.

  • This projection is hypothetical in nature, does not reflect actual investment results and is not a guarantee of future results.

Distribution of Probable Outcomes

  • 95th percentile: 95% of outcomes are less than or equal to this value

22

20

18

16

14

12

10

8

6

4

2

0

95th Percentile

  • 50th percentile: 50% of outcomes are greater than this amount, and 50% are less

75th Percentile

Median

(50th Percentile)

$ Millions

25th Percentile

  • 5th percentile: 5% of outcomes are less than or equal to this value

5th Percentile

About Capital Market Assumptions

  • SEI Investment Management Corporation develops forward-looking, long-term capital market assumptions for risk, return, and correlations for a variety of global asset classes, currencies, interest rates, and inflation.

  • These assumptions are created using a combination of historical analysis, future market environment expectations and by applying our own judgment. In certain cases, alpha and tracking error estimates for a particular asset class are also factored into the assumptions. 

  • We believe this approach is less biased than using pure historical data, which may be affected by unsustainable trends or permanent material shifts in market conditions.


University of north dakota

University of North Dakota

Expected Return Distribution(simulations)

Potential

outcomes

Good Scenarios

(95th Percentile)

75th Percentile

Median (50th Percentile)

25th Percentile

Poor Scenarios(5th Percentile)

  • *Net of Fees


10 year distribution of fund values analyzing different administrative fees

10 year distribution of fund values: Analyzing different administrative fees

4% Spending Policy Over a 3 Year Moving Average of Market Values + Administrative Fee + 2% Inflation Assumption + Inv Management Fee

No Contributions assumed in this analysis

Potential

outcomes

Good Scenarios

(95th Percentile)

75th Percentile

Median (50th Percentile)

25th Percentile

Poor Scenarios(5th Percentile)

Millions($)

Millions($)

  • *Net of Fees. Starting Market Value: $169mm

*Net of Fees. Starting Market Value: $169mm


Cumulative spending vs administrative f ees

Cumulative spending vs. administrative fees

4% Spending Policy Over a 3 Year Moving Average of Market Values + Administrative Fee + 2% Inflation Assumption + Inv Management Fee

No Contributions assumed in this analysis

  • *Net of Fees


10 year distribution of fund values analyzing different spending policies 4 vs 5

10 year distribution of fund valuesAnalyzing different spending policies: 4% vs. 5%

Spending Policy Over a 3 Year Moving Average of Market Values + 2% Administrative Fee + 2% Inflation Assumption + Inv Management Fee

No Contributions assumed in this analysis

Potential

outcomes

Good Scenarios

(95th Percentile)

75th Percentile

Median (50th Percentile)

25th Percentile

Poor Scenarios(5th Percentile)

Millions($)

Millions($)

  • *Net of Fees. Starting Market Value: $169mm


10 year spending on current p ortfolio

10 year spending on current portfolio

Spending Policy Over a 3 Year Moving Average of Market Values + 2% Administrative Fee + 2% Inflation Assumption + Inv Management Fee

No Contributions assumed in this analysis

  • *Net of Fees


15 market shock on current portfolio in 2016

15% market shock on current portfolio in 2016

Spending Policy Over a 3 Year Moving Average of Market Values + 2% Administrative Fee + 2% Inflation Assumption + Inv Management Fee

No Contributions assumed in this analysis

  • *Net of Fees


Impact of fundraising

Impact of fundraising


10 year distribution of fund values analyzing different spending policies

10 year distribution of fund values: Analyzing different spending policies

Spending Policy Over a 3 Year Moving Average of Market Values + 2% Administrative Fee + 2% Inflation Assumption + Inv Management Fee

+ $15 Million a year in Gifts and 2% in Market Growth

Potential

outcomes

Good Scenarios

(95th Percentile)

75th Percentile

Median (50th Percentile)

25th Percentile

Poor Scenarios(5th Percentile)

Millions($)

Millions($)

  • *Net of Fees. Starting Market Value: $169mm


10 year distribution of cumulative spending

10 year distribution of cumulative spending

Spending Policy Over a 3 Year Moving Average of Market Values + 2% Administrative Fee + 2% Inflation Assumption + Inv Management Fee

+ $15 Million a year in Gifts and 2% in Market Growth

Millions($)

  • *Net of Fees. Starting Market Value: $169mm

*Net of Fees. Starting Market Value: $169mm


Creating a sustainable spending policy

SEI Capital Market Assumptions - short term - July 2013

Please see important disclosures on prior slide and at the back of the presentation.


Sei capital market assumptions short term july 2013

SEI Capital Market Assumptions - short term - July 2013

  • Please see important disclosures on prior slide and at the back of the presentation.


Best practices

Best practices

  • Your hurdle rate has several levers you can adjust to impact asset allocation:

  • Test impact from multiple spending policies

    • Spending rate

    • Calculation methodology

    • Shock analysis

  • Examine use of immunization strategy

    • Would it benefit the long term assets to have you upcoming cash flow commitments in a separate short term pool?

    • Liquidity profile

  • Inflation erosion impact

    • Is it important to be spending the same in real terms in twenty years as you are currently? Are your asset values after adjusting for long -term inflation at least the same as they are today?

    • Cost of fees

    • Do you include administrative or investment fees in your hurdle rate?

    • What is the impact of reducing those fees on spending? Long term assets? Asset allocation?

  • Cash flow considerations

    • Incorporate projections of incoming and outgoing flows; what is the level of confidence on the predictability?

    • Fundraising and Capital Expenditure Initiatives

Level of confidence

Long term growth

Spending

Inflation

Liquidity/cash flow flexibility

Administrative/investment fees


Disclosures

Disclosures

  • This presentation is provided by SEI Investments Management Corporation (SIMC), a registered investment adviser and wholly owned subsidiary of SEI Investments Company. The material included herein is based on the views of SIMC. Statements that are not factual in nature, including opinions, projections and estimates, assume certain economic conditions and industry developments and constitute only current opinions that are subject to change without notice. Nothing herein is intended to be a forecast of future events, or a guarantee of future results. This presentation should not be relied upon by the reader as research or investment advice (unless SIMC has otherwise separately entered into a written agreement for the provision of investment advice).

  • There are risks involved with investing including loss of principal. There is no assurance that the objectives of any strategy or fund will be achieved or will be successful. No investment strategy, including diversification, can protect against market risk or loss. Current and future portfolio holdings are subject to risk. Past performance does not guarantee future results.

  • For those SEI funds which employ a “manager of managers” structure, SIMC is responsible for overseeing the sub-advisers and recommending their hiring, termination, and replacement. References to specific securities, if any, are provided solely to illustrate SIMC’s investment advisory services and do not constitute an offer or recommendation to buy, sell or hold such securities.


Disclosures1

Disclosures

  • IMPORTANT INFORMATION

  • SIMC develops forward-looking, long-term capital market assumptions for risk, return, and correlations for a variety of global asset classes, interest rates, and inflation. These assumptions are created using a combination of historical analysis, current market environment assessment and by applying our own judgment. We believe this approach is less biased than using pure historical data, which is often biased by a particular time period or event.

  • The asset class assumptions are aggregated into a diversified portfolio, so that each portfolio can then be simulated through time using a monte-carlo simulation approach. This approach enables us to develop scenarios across a wide variety of market environments so that we can educate our clients with regard to the potential impact of market variability over time. Ultimately, the value of these assumptions is not in their accuracy as point estimates, but in their ability to capture relevant relationships and changes in those relationships as a function of economic and market influences.

  • The projections or other scenarios in this presentation are purely hypothetical and do not represent all possible outcomes. They do not reflect actual investment results and are not guarantees of future results. All opinions and estimates provided herein, including forecast of returns, reflect our judgment on the date of this report and are subject to change without notice. These opinions and analyses involve a number of assumptions which may not prove valid. The performance numbers are not necessarily indicative of the results you would obtain as a client of SIMC.

  • We believe our approach enables our clients to make more informed decisions related to the selection of their investment strategies.

  • For more information on how SIMC develops capital market assumptions, please refer to the SEI paper entitled “Executive Summary: Developing Capital Market Assumptions for Asset Allocation Modeling.” If you would like further information on the actual assumptions utilized, you may request them from your SEI representative.


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