For endowments, the school’s alumni network often plays a crucial role in the university’s search for private equity managers.
According to a recent paper, “Investing in Your Alumni: Endowments’ Investment Choices in Private Equity,” university endowments in the U.S. are 70 percent more likely to invest in private equity funds run by alumni than they are in similar funds without alumni ties. The paper also found that less prominent and lower-ranked institutions are even more likely to invest in alumni-linked funds. Alumni ties are defined as social ties between endowments and fund managers who hold undergraduate, graduate, or post-graduate degrees from the institution.
The authors examined whether university endowments are more likely to invest in alumni-managed funds by comparing the investment rates in funds managed by alumni with the rates in funds with similar strategies, vintage years, and size. They found that about 15 percent of private equity commitments made by U.S. endowments are invested in funds managed by alumni, while only 8 percent are invested in similar funds without alumni connections.
According to the paper, which was written by three scholars at the University of St. Gallen in Switzerland, university alumni offer endowments a unique way to gain entry into the private markets. “[Because] universities educate students who may eventually work as fund managers within the private markets asset class, their endowments can have exclusive access to a specific network within the PE industry,” the paper said.
Endowments benefit from alumni ties in two ways. First, these social connections can provide the endowments with exposure to the best-performing PE firms, which have become increasingly exclusive as allocators seek alternative return streams. Second, alumni who work in the PE industry may also be able to provide information that can help endowments better gauge the quality of a potential investment.
“The first channel would result in a higher probability to invest, while the second one would correlate with a superior investment performance,” the authors wrote.
However, the paper found no further consistent evidence correlating overperformance with alumni ties, except for MBA ties. Private equity commitments by endowments into funds managed by MBA alumni have an average internal rate of return of 8.4 percent, which is significantly higher than those managed by undergraduate alumni (-3.3 percent) and other post-graduate alumni (5 percent).
According to the paper, however, the benefits of alumni ties may also be reflected in ways that go beyond investment performance. For example, investing in alumni funds may help lower costs in the search and due-diligence processes.
“Our empirical results confirm a higher incidence of alumni ties in PE fund commitments made by university endowments,” the paper concluded. “The strongest evidence is found for endowments from lower-ranked universities and for less experienced endowments, [which demonstrates] that the relevance of such ties is not restricted to a certain segment of prestigious universities but applicable to a broad range of university endowments. This main finding [can] be seen as an indication that universities benefit from facilitated access to funds managed by their own alumni.”
