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Harvard was formed in 1636 by vote of the Great and General Court of the Massachusetts Bay Colony.

It was initially
called "New College" or "the college at New Towne"In 1639, the college was renamed Harvard College after deceased
clergyman John Harvard, who was an alumnus of the University of Cambridge. He had left the school 779 pounds
sterling (sic) and his library of some 400 books. The charter creating the Harvard Corporation was granted in 1650.
For the fiscal year ended June 30, 2013 the return on the Harvard endowment was 11.3% and the endowment was valued
at $32.7 billionOver the last three years the average annual return on the Harvard endowment has been 10.5%,
compared with the average annual return on the Policy Portfolio of 9.1%. Longer term, the Harvard endowment under
HMCs management has returned 9.4% over the last ten years and 12.0% over the last twenty years.Harvard
Management Company Endowment Report, September 2013.
The Harvard endowment is, by virtually any measure, the gold standard of the institutional investment
world, compounding at above-average rates of return for decades despite its well-above-average size. As
a result, Harvard has tremendous financial flexibility that most institutions can barely imagine.
And yet. If one digs a little deeper into the numbers, it becomes apparent that Harvard, despite its recent
success, has a remarkably poor track record over the very long term. Consider the mismanagement of
John Harvards original gift, which had it grown at a mere 5% (in nominal terms) would now be worth
more than 68 billion, or just a shade under $113 billion at current exchange rates.
This, of course, is simplisticwhat about spending and gifts? Well yes, such things must be accounted
for, and it is well known that Harvard spends an enormous amount each year (more than $1 billion in
recent years). Still, remember that our original number was based on nominal returnsclearly an
institution as august and sophisticated as Harvard should be able to do better than that? Indeed, the 20-
year return of 12% a year is more in line with what we would expect. Thus, no matter how you look at it,
Harvards endowment returns since its founding have been pretty miserable. One wonders why they
didnt just stick it all in 400-year Treasuries
Yes, yes, were jokingor are we? Obviously the idea of computing a 376-year return is silly, but why is
that? After all, as Harvard states in its report, The perpetual nature of the University creates an unusually
long-term horizon for us as investors of the endowment portfolio. (Emphasis added.)
Still, something about this exercise feels wrong. While we have few compunctions about measuring
investors over reasonable long timeframes (e.g. 20 years), we rarely do so over centuries. To some degree
this is due to lack of data, but it is also because humanity has the annoying habit of periodically
destroying large amounts of wealth, often over short periods of time. Further (and related), while
institutions call themselves perpetual, most of us understand at some level that organizations as long-
lived as Harvard are the exception rather than the rule.
But there is another point worth making about those abysmal long-term returnsthey could not have been
otherwise. For despite the legions of stockbrokers, wealth management firms, and, yes, consultants telling
investors that a 5% real rate of return is not only attainable but reasonable, this is mathematically impossible
for investors in aggregate.
To see why this is so, consider the source of investment returns. Put simply, someone must figure out
how to do something better, faster, or cheaper than current methods, thus creating wealth. This new
wealth is then distributed to customers, employees, and corporate owners (assuming a corporation). As a
result, such individuals have a greater claim on the (now expanded) pool of resources in existence.
Thats it. Innovation leads to wealth creation, which boosts certain individuals claims on resources.
Everything elsegrowth vs. value, absolute return hedge funds, credit default swaps, etcis still seeking
to capture a slice of this underlying wealth creation.
Thus, investors as a group can only achieve returns at some level somewhat below the growth in
economic activity as a whole, as employees and customers also benefit. Of course, investors can get
greater returns for periods of time due to other factorse.g. expansion of the share of profits going to
shareholdersbut over the long term it is simply not mathematically possible for investment returns to
grow faster than economic activity.