Hotchkiss Your Money Goodbye, Groton

For some prep schools, the potential reward from hedge fund investing evidently far outweighs the risk.

Last week, the Boston Business Journal ran a story on the investments by endowments at the Groton School in Groton, Mass., and Phillips Academy in Andover, Mass. The paper dug up financial statements from the Massachusetts attorney general's office showing that Groton invested $5 million of its $294 million endowment in the fund from Sowood Capital Management that collapsed last year. The endowment realized a loss of $2.6 million.

It's not so surprising that the elite school (notable graduates include Franklin, Teddy, and the rest of the Roosevelt gang) in Sowood's backyard would have been exposed to its downfall. Harvard University, also down the street, lost some $350 million in the fund, which was managed by a former money manager for its own endowment.

No, the surprising parts of the report were details from Phillips Academy, which manages $800 million (notable grads include those with last names of Bush and Kennedy). That sizable sum makes it the third largest prep school endowment, according to a report in the New York Times earlier this year.

Stephen Carter, the school's financial officer, told the Journal that it invests a full 34 percent in hedge funds. And he doesn't think that's aggressive.

Not aggressive? Some portfolio managers consider Yale's investment officer, David Swensen, to be aggressive in hedge funds with a 23 percent exposure. Harvard, which still managed to post a 23 percent return for fiscal 2007 even with its Sowood loss, has about 18 percent of its money invested in hedge funds.

The average endowment, according to Yale's annual report, invests 19.5 percent in hedge funds.

Pension funds look downright stodgy next to their endowment counterparts when it comes to alternative assets. Calpers, the giant California pension, targets 10 percent to the alternative asset class, which includes investments in private equity and other funds. The manager of the $100 billion New Jersey public funds socks away 6 percent in hedge funds.

Taking the events of the past few weeks into consideration--several more funds have met Sowood's fate--a 34 percent allocation into hedge funds seems more than aggressive. Moreover, Phillips' Carter seems to contradict himself in the Boston Business Journal article.

"I don't think we feel it's aggressive," he says of his hedge fund allocation. "We're more interested in dampening volatility and not using highly leveraged (hedge funds) like Sowood."

Then he goes on to say that he passed on Sowood because the endowment already had exposure to a fund with a similar strategy, adding that he thought Sowood "looked great."

To be fair to Phillips, the aggressive strategy appears to be paying off. According to Standard & Poors, its endowment has grown by 75 percent since 2002, and it returned 21.2 percent in fiscal 2007.

Its endowment per student, meanwhile, is about $742,000, which S&P notes rivals the country's wealthiest colleges and universities. With that kind of money, maybe the risk of losing a few mil on a hefty 34 percent hedge fund stake isn't so crazy after all.

by Megan Barnett