Why Public Higher Education Should Be Free: How to Decrease Cost and Increase Quality at American Universities

The University as Hedge Fund

74 In the winter of , some of the most prestigious private and public research universities in the United States announced that they would have to scale back class offerings, increase class sizes, limit the hiring of new faculty, and restructure academic programs. The main reason for these changes was that the schools had lost billions of dollars in their endowments due to the global financial meltdown. In other words, the wealthiest educational institutions in the world were now saying that they were poor, and the main reason for their poverty was that they had invested and lost a large part of their money in the stock market and other financial vehicles. According to the official story coming out of the media centers of these multibillion-dollar institutions, everybody including them lost money at the end of  and the start of , so all of their employees would have to tighten their belts and reduce their spending. However, just like major Wall Street firms, universities continued to give giant compensation packages to the people who had been personally responsible for losing billions of dollars. In fact, I know of no investment specialist or executive from any elite university who was punished or fired for losing sums of money that dwarfed the entire budget of most universities and colleges. This is not only a story of bad fiscal management; more profoundly, it is a story about the inverted priorities of many research universities. 6 the University as Hedge Fund tHE UnIvERSIty AS HEDgE FUnD 75 Losing Billions and No One Knows My interest in the way universities invest and spend their money was piqued in May , when I discovered that the University of California (UC) system had lost over $ billion dollars during a fifteen-month period. I knew that other schools had lost a lot of money, but I had no idea that one institution could lose so much, and I was concerned that no one was talking about these losses. All I heard was that the state of California was going to cut the UC budget by $ million, which is a giant number but hardly compares to $ billion. When I asked faculty and administrators why no one was talking about this larger number, they all said either that they did not know about these losses or that everyone was losing money. About the time that I discovered how much UC had lost in its pension fund and endowment investments, I came across a podcast by the head of Yale University’s investment group, David Swensen.1 In this short broadcast , one of the pioneers of new university investment strategies discussed how he changed the whole financial method of Yale’s investments and how his high-return method was virtually risk-free. Like a used car salesman, Swensen was laughing at the institutions that failed to follow his method and bring in unbelievable rates of return, and there was a certain amount of scorn in his voice for the stodgy old investors who did not move their money into real estate and several classes of exotic financial securities. It is true that the universities that did follow Swensen’s lead showed a very high rate of return for their investments for a few years, but once the markets turned sour, these schools were left holding billions of dollars in nonliquid assets and devalued real estate. In fact, like so many other financial investors, the wealthiest institutions did not know how to value much of their portfolios. However, the story goes much deeper and gets much worse. The Failure of the Well-Endowed One thing to keep in mind is that private universities and colleges often spend between  percent and  percent of their endowments each year in order to subsidize student tuition and to pay for their expenses. While public universities rely on the state to help support their undergraduate and 76 WHy PUBlIC HIgHER EDUCAtIon SHoUlD BE FREE graduate teaching and research missions, private institutions turn to their investments to supplement their spending. Both types of schools spend large amounts of money recruiting new donors and managing their money, and this system of funding appears to work until universities’ investments lose money. Then everything is turned upside down. After all, what do you do when you have become dependent on a certain source of money, and the funds from that source are reduced by – percent? It is also important to note...