Private Assets Drove Endowment and Pension Returns Last Year. Now They Are a Drag.

Exposure to private equity and venture capital is causing public pension funds and endowments to fall short of their benchmarks, according to Markov Processes International.

Illustration by II

Illustration by II

Asset classes that were once the darlings of public pension fund and college endowment investment portfolios are now hampering returns, according to projections from Markov Processes International, a provider of software and services to analyze investment performance and risk.

Public markets have rebounded in 2023 — the S&P 500 index is up 9.9 percent and the Nasdaq Composite index has returned 22.6 percent — and helped college endowments and public pensions post gains over the first three quarters of the 2023 fiscal year.

But those gains still aren’t enough to overcome markdowns on private assets. The growing allocations to private equity and venture capital that boosted returns in previous years is now pushing the median pension and endowment performance below the allocators’ benchmarks, MPI says. (Some investors are already seeing more sober private asset valuations and others are also changing how they assess private asset managers.)

And “from returns you can glean a lot of information: risk, the skill, the trend, the style drift, you name it,” MPI chief exectuive Michael Markov said. Strategies change sometimes. When things don’t add up, there is a red flag.” Among MPI’s customers are U.S. regulators, who use its tools to surveil funds, he said.

MPI estimated the median Ivy League endowment return so far for the 2023 fiscal year is 1.9 percent. Meanwhile, a global 70-30 benchmark, the standard used for endowment performance, is up 6.1 percent during the same period. To estimate performance, MPI used the recently released Cambridge Associates’ Private Benchmarks preliminary estimates for the fourth quarter of 2022. The Cambridge Associates Venture Capital index was down 7.31 percent and Cambridge Associates Private Equity Index was up 0.62 percent during the fourth quarter of 2022. The Cambridge Associates Real Estate index return is down 0.56 percent during the same period.

U.S. public pensions are in a similar situation to endowments. Pensions had a median return of 5.2 percent for the first three quarters of the 2023 fiscal year, MPI estimated. But a global 60-40 benchmark, one commonly used by pensions, returned 5.8 percent.

Like endowments, pensions’ investments in private assets made the difference in performance. According to MPI, the pensions with the lowest full-year 2023 estimated performance — the Public Employees Retirement System of Oregon (0.6 percent estimated return), the Pennsylvania State Employees’ Retirement System (1.2 percent estimated return), and Washington State Department of Retirement Systems (1.8 percent estimated return) — all reported the highest performance last fiscal year, largely because of their outsized allocations to private assets.

MPI also explained that its estimates are conservative. Returns for private assets could get even worse in 2023.

“Even though private benchmark data is not available for the first quarter of 2023, we expect them to slide further given rising interest rates, depressed valuations, and increased bankruptcy rates in early 2023,” Markov said.

“However, we decided to use conservative estimates of zero return for private equity and venture capital for the most recent quarter. Private markets propped up endowment returns last fiscal year, but our estimates show that those funds more exposed to public equities are outperforming their peers currently, and the gap might widen even further during this quarter,” Markov added.

The real story behind the investment returns of the biggest allocators can be unclear or essentially left untold, according to Markov. Many public institutions publish quarterly reports but some only release data annually, and how or what they report is not standardized.

“With most pensions and endowments reporting their results only once a year, outsiders rarely have an appreciation of their intra-year volatility,” Markov added in a statement.

“This is unfortunate. As our estimates show, tracking performance on a quarterly or more frequent basis allows us to assess where they stand in relation to their benchmarks and why. This is important to so many constituencies.”