Study on Nonprofit Investing Survey Analysis Produced: May 2015 By Dennis Gogarty, AIF, CFP Mark Murphy, CFA Chase Deters, CFP, ChFC A Peer Benchmarking Study on Nonprofit Investment Policies and ROI Foundation Analysis Transparency, Accountability, Impact www.npinvesting.org This report summarizes the results of an informal, non-scientific study compiled by analyzing the results of 467 surveys completed by nonprofit finance executives. This presentation is for information purposes only. Participant responses have not been verified. Data analysis was performed by Raffa Wealth Management. When stating nonprofit responses it should be noted that all responses are limited to the nonprofits that participated in the survey. No broader indications should be assumed. Copyright 2015 Raffa Wealth Management, LLC all rights reserved
ABOUT THE AUTHORS The Study on Nonprofit Investing (SONI) is an independent, joint research project of Raffa Wealth Management, LLC and Raffa, PC. SONI was developed to answer the question what are other nonprofits doing with their reserves. SONI s mission is to empower nonprofits with actionable data that will lead to better decisions about their investments. Raffa, PC is recognized as one of the 100 largest and best-managed accounting firms in the U.S. serving as advisors and back office solution providers to nonprofit organizations. Raffa Wealth Management, LLC is an independent investment advisory firm offering both portfolio management and investment policy consulting services to nonprofits of all size and type. In 2014, CNBC identified Raffa Wealth Management as the 75th ranked fee-only wealth management firm in the country. Data has been analyzed and aggregated by the following members of Raffa Wealth Management: Dennis P. Gogarty, CFP, AIF - President Dennis Gogarty is the President of Raffa Wealth Management. He has been a consultant to the nonprofit sector since 1994. He joined Raffa in 2002 specifically to provide investment advice and qualified retirement services to a select group of nonprofits. He has been active in promoting the need for increased investment education in the nonprofit sector ever since. Mark P. Murphy, CFA - Senior Portfolio Manager Mark is Raffa Wealth Management s Senior Portfolio Manager. Mark s career in financial services begin in 2004 and he now supports all areas of the firm s analytical and due diligence processes, and coordinates research efforts with the firm s external investment committee. Chase Deters, CFP, ChFC - Director of Operations, Portfolio Manager Chase Deters is a Portfolio Manager with Raffa Wealth Management. Chase s career in financial services began in 2005 and he now directs all areas of the firm s internal operations and supports the firm s portfolio management functions. Visit www.raffawealth.com or www.raffa.com for more information. You may also reach out directly to Raffa Wealth Management at dennis@raffawealth.com If considering working with Raffa Wealth Management please review our disclosure brochure (Download RWM's Disclosure Brochure). This is the document that we file annually with the SEC. It outlines our business practices and material arrangements and is intended, in part, to make you aware of any potential conflicts of interest. While CNBC has categorized Raffa Wealth Management as a Fee Only Wealth Management firm, CNBC s use of the term Fee Only does not match the CFP Board s definition of the term. Raffa Wealth Management s owners and affiliates include CFP professionals that are licensed insurance agents receiving insurance commissions and are not deemed Fee Only by the CFP Board.
TABLE OF CONTENTS Purpose of the Study PAGE 4 Executive Summary PAGE 5 Foundation Analysis PAGE 8 Disclosure PAGE 14
PURPOSE OF THE STUDY The Study on Nonprofit Investing (SONI) creates a community where nonprofits of various sizes and types can learn from each other about how to best manage their nonprofits investments. In 2015, approximately 500 nonprofit finance executives participated in a survey about their investment polices and portfolio management practices. The results are segmented into several cohorts separated by size and/or nonprofit type. This report details the findings unique to each cohort. Our goal was to obtain best practices in several key areas that will help nonprofits fulfill their oversight responsibilities and hold accountable all those involved in the management of their organization s investments. Who Participated in SONI A variety of nonprofit organizations were included in this study, including Trade Associations, Professional Associations, Public Charities, Foundations, and other types of organizations. The study indicates results for all organizations combined and segmented by type and size. Excluding Raffa Wealth Management s nonprofit clients 393 nonprofit finance executives participated in the 2015 SONI survey. The following chart is a breakdown of the 393 participants who fully completed the survey by budget type and size: Budget Of: Association Public Charity Private/Community Foundation Overall $0 5M 43 97 24 164 $5 25M 63 93 10 166 $25+M 23 36 4 63 Total 129 226 38 393 Format of the Report The Foundation report is segmented by size of reserve portfolio. Depending on your foundation s portfolio size, you can quickly and easily identify which cohort your foundation falls into and make the relevant comparisons. For each of the cohorts in the study, the following core areas are examined: Segmentation of total cash assets Level of reserves by budget size Decision making authority Long term portfolio asset allocation policy Portfolio rebalancing policies Investment fees and benchmarking 2014 long term portfolio investment performance Use of alternative investments Additional best practices are sited at the overall level. They include guidelines and restrictions contained in investment policies, maintaining asset allocation targets, and the potential impact of not having a formal portfolio benchmark.
EXECUTIVE SUMMARY US stock market returns in 2014 were better than historical expectations, but international equities detracted from performance with a 3.9% return. Bonds also saw substantial gains at almost 6% in 2014, but we believe interest rate concerns caused many nonprofits to hold much shorter term holdings that did not perform as well. Although the nonprofits participating in the survey lagged traditional benchmarks they still gained between 3% and 5.2% on average. Decision Making Authority The majority of large foundations (57%) gave discretion to their advisors to operate within the guidelines of the IPS, while smaller foundations allowed their board or Finance Committee final say on investment decisions. Advisors with discretion aren t required to seek trading approval so long as they adhere to policy guidelines, and in most cases a Finance Committee is charged with verifying that the portfolio stays invested in compliance with the policy. Discipline Prevails Most foundations have formal IPSs with asset allocation targets (>75%), and this increases as the portfolio size increases. While most of the investment policies call for specific asset allocation targets, such as 50% to US stocks or 50% to fixed income, more than 1 out of 4 smaller foundations allowed their investment advisors, Finance Committee, or board broad leeway in determining how the portfolio is invested. Average Asset Allocation Larger foundation portfolios () are invested more heavily in stock with over 70% invested in stock and alternative investments. As portfolio size decreased, participants reported holding nearly the same amount of stock investments, but a significantly reduced alternative investment allocation. Approximately 74% of foundations reported that their stock allocations were between 55% - 75% of their long term portfolios. It is often difficult to balance competing desires for reduced risk and higher returns, knowing where your peer group has landed on this decision can aid in your own portfolio construction. Portfolio Rebalancing Procedures Rebalancing a portfolio to ensure that target asset allocations are preserved is an important part of maintaining an investment portfolio. We found that a slight majority of foundations elected to allow their internal Finance Committee or financial advisor discretion on when and how to rebalance their portfolio, with only 19% including formal rebalancing guidelines in their policies. Those foundations who elected to not to have formal rebalancing guidelines in their policy performed slightly better than those who used either a formal process or an ad-hoc decision making process. Fees Matter Foundations reported that the larger their portfolio balance, they had lower advisory fees and significantly higher fund expenses. This is likely due to a large increase in alternative investment Page 5
holdings for larger foundations, which tend to be more expensive holdings. The percentage of those foundations who did not know how much they were paying for investment advice fell to approximately 20% of responses (down from >50% in 2014). Investment fees detract directly from bottom line results. But managers with proven track records or various alternative investment options may be worth paying a higher fee to gain access to. It may be difficult to know how much emphasis to place on investment fees. Our experience leads us to believe that managers with better past returns rarely persist in performing better going forward. Perhaps because they can and do charge higher fees thus making it more difficult to sustain superior results. We found that for the second year in a row, those foundations who paid less in advisory and fund level fees generally performed better. Portfolio Benchmarking Maintaining a portfolio benchmark is critical to holding investment advisors and fund managers accountable for their bottom line results. The majority of foundations included a formal benchmark in their investment policy, and those who did saw a larger return in 2014 (4.55% vs. 2.37%) Relative Performance Problems In relation to traditional broad market stock and bond benchmarks, foundations and nonprofits on an overall level reported returns that trailed these traditional benchmarks by a significant margin. The most meaningful way to compare investment returns is to first segment respondents based on their investment strategy (conservative, moderate, aggressive, etc.). The next step to a meaningful comparison is to develop portfolio benchmarks using different mixes of broad market indexes (US stock, Intl stock, Bond, and Cash) that reflect these different strategies. Traditional Market Benchmarks Russell 3000 MSCI AW ExUS BarCap Agg Bond 3 Month US T Bills HFRI Fund of Funds Blended Benchmark Return Blended Portfolio Sample Benchmarks 2014 Return 30/70 40/60 50/50 60/40 70/30 12.56% 20% 29% 38% 47% 56% 3.88% 10% 11% 12% 13% 14% 5.97% 65% 55% 45% 35% 25% 0.03% 5% 5% 5% 5% 5% 3.37% 0% 0% 0% 0% 0% 6.01% 6.50% 7.00% 7.49% 7.98% When comparing respondent s reported returns to the appropriate portfolio benchmark, the underperformance is meaningful regardless of target level of risk. (See important disclosures at the end of this report for construction of these benchmarks and their limitations) Likely contributors to underperformance in 2014 are use of alternatives, very short fixed income maturity, investment fees, and poor market-timing judgments. Use of Alternative Investments Although allocating to alternative assets typically detracted from performance results in 2014, with the HFRI fund of hedge fund composite index performing substantially below both the US stock market return (3.4% vs. 12.6%) and the aggregate bond market index (6.0%), many Page 6
foundations reported outperforming their peers who chose not to use alternatives in their portfolios. Investing in alternatives means different things to different organizations. To smaller nonprofits it meant investing in commodities or real estate. Larger nonprofits invest more heavily in hedge funds and private equity. While smaller foundations enjoyed a larger return in 2014 due to their emphasis on real estate holdings, larger foundations saw a decline in performance vs. a traditional balance between stock and bonds. Alternative investments may certainly prove to be helpful portfolio diversifiers eventually. But their high fees, opaque risks, and recent underperformance may legitimately cause nonprofits to question if alternatives play a productive role in nonprofit investing. Ongoing Expectations This is the third edition of the annual Study On Nonprofit Investing. We trust you will find the results helpful in your organization s decision making going forward and we thank you for participating. Over time the survey will become more concise and the results will become even more meaningful. In order to make this happen we need your ongoing participation so please don t hesitate to make recommendations and share feedback to improve the experience of all those involved in this important study. For more information and to register to participate in next year s SONI survey, visit www.npinvesting.org and be sure to follow us on Twitter @SONIstudy DISCLOSURES SONI is an informal, non-scientific survey for information purposes only. This information was gathered from reliable sources but we cannot guarantee accuracy. Any performance related information is based on participant responses and has not been verified. Past performance is not an indication of future results and any investment can lose value. Performance results have been compared to balanced benchmark portfolios comprised of broad market indexes. The benchmarks were selected because we feel they are the most broadly diversified and/or most well known in each broad category. They may or may not be suitable benchmarks for comparison to any particular investor s portfolio or for the average results reflected in this study. Indexes do not reflect the fees associated with actual investments and such fees would reduce the performance. Page 7
FOUNDATIONS The foundations segment of the survey is comprised of 38 organizations with a median budget size of $8.24 million and investable assets of $26.19 million. The number of respondents and average long term reserve portfolio performance for 2014 segmented by foundation size cohort follows: 40 35 30 25 20 34 Foundation Responses 4.5% 4.0% 3.5% Foundation Performance By Portfolio Size 3.97% 3.95% 15 10 19 19 3.0% 5 0 <$25M Budget Size 4 Portfolio Size 2.5% 2.0% $5 25M Foundations - Portfolios of less than $25 Million This cohort is comprised of 19 organizations with a median budget size of $3.75 million and investable assets of $2.90 million. Foundations - Portfolios of more than $25 Million This cohort is comprised of 19 organizations with a median budget size of $3.50 million and investable assets of $82.15 million. The following key areas for each of the foundation segment are examined in the following pages: Segmentation of total cash assets Level of reserves relative to budget size Decision making authority Long term portfolio asset allocation policy Portfolio rebalancing policies Investment fees Portfolio benchmarking 2014 long term portfolio investment performance Alternative Asset Allocation and Performance Page 8
Breakdown of Total Cash Assets Smaller foundations kept a slight majority of their total reserve assets in short term investments with 56% held in cash (operating checking or other very short term investments), while large foundations kept very little in cash (4%). This segmentation of total cash assets is a great reference point for foundations seeking to gauge how much of their assets it might be prudent to invest for longer term objectives. Foundations can be pressured to make the best use of all of their assets yet they may be discouraged from putting cash at risk. Balancing these competing priorities is difficult, but knowing how you compare to your peers helps. <$25M 56% 44% 4% 96% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Checking & Operational Reserve Short/Interm & Long Decision Making Authority Smaller foundations were the least likely (29%) to give discretion to their financial advisors to autonomously make final investment management decisions within the guidelines of an investment policy. A majority of large foundations chose to give their financial advisor discretion. Granting discretion to investment professional when accompanied by other governance practices may limit Trustees liability related to investment decisions. Discretion Given To Advisor By Reserve Size <$25M 29% 57% Asset Allocation Policy Smaller foundations were slightly less likely to have formal asset allocation targets than their larger counterparts, but 71% of smaller foundations reported had them listed in their investment policy. Having and maintaining formal asset allocation targets can remove some guess work from decision making and reduce the risk of timing the market. When it comes to investing, anything that brings discipline to the decision making process is likely to improve bottom line results. 100% 75% 50% 25% 0% Asset Allocation Policy By Reserve Size 71% <$25M Ad hoc Allocations 82% Formal Allocation Targets Page 9
Average Long Term Portfolio Allocation The average portfolio breakdown for small foundation long term reserve portfolios was approximately balanced, with a 51% Stock, 44% Bond, and a 4% allocation to alternative investments. The larger sized foundations reported a very similar equity allocation, but a great deal more exposure to alternative investments (~20%). This figure is nearly double the 11% average that was reported last year. Portfolio Asset Allocation By Reserve Size <$25M 51.5% 4.0% 44.5% 51.1% 19.7% 29.1% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Stock Alternative Bond Looking at a frequency of responses when it comes to the level of foundation s stock allocation, we find that the majority of participants held somewhere between 55% and 75% in their long term portfolio. 8 6 4 2 0 Foundation Stock Portfolio Allocation >95 90 95 85 90 80 85 75 80 70 75 65 70 60 65 55 60 50 55 45 50 40 45 35 40 30 35 25 30 20 25 Portfolio Rebalancing Policy On average, the majority of foundations left rebalancing decisions up to either their Finance Committee or their advisor. Roughly 1 in 4 didn t have any formal rebalancing policy. Although this did not lead to a significantly higher return in 2014, maintaining a formal rebalancing strategy provides a greater level of discipline to investment making decisions. Portfolio Rebalancing Policy 6.00% Average Portfolio Returns 23.8% 19.0% 57.1% 23.8% 33.3% Rebalancing Guidelines in Policy No Formal Rebalancing Policy Ad Hoc Rebalance Finance Committee Ad Hoc Rebalance Financial Advisor 5.00% 4.00% 3.00% 2.00% 1.00% 0.00% 3.67% Rebalancing Guidelines in Policy 5.04% No Formal Rebalancing Policy 3.39% Ad Hoc Reb Finance Committee 4.70% Ad Hoc Reb Financial Advisor Page 10
Average Fees The average fees shown here reflect the total advisory and management fees. We find that advisory fees somewhat decrease as portfolio size increase, and fund fees tend to increase. This is likely due to an increased allocation to alternative investments in larger portfolios. Investment fees detract directly from bottom line results - but managers with proven track records may be worth paying a higher fee. For the second year, we found that the level of performance is impacted significantly when portfolio fees are not known. We found that the largest factor on performance was advisory fees, but knowing average mutual fund fees is also important. Fees by Portfolio Size Average Performance 1.50% 5.00% 1.25% 1.00% 0.75% 0.50% 0.79% 1.09% 0.99% 4.00% 3.00% 2.00% 3.63% 3.20% 4.41% 2.99% 0.25% 1.00% 0.00% <$25M Overall 0.00% Advisor Fees Fund Fees Fund Fees Advisor Fees Known Fees Unknown Fees Portfolio Benchmarking Only 50% of small to mid sized foundations maintained formal benchmarks to measure their portfolio s performance against, while the vast majority of larger foundations used formal benchmarks. Maintaining benchmarks is an important component in ensuring investment advisors and fund managers are continuing to provide value. We also found that those foundations who maintained a formal benchmark in their investment policy had a significantly higher rate of return (4.55% vs. 2.37%). Formal Benchmark By Reserve Size 86% <$25M 5.00% 4.00% 3.00% 2.00% 1.00% Average Performance 4.55% 2.37% 0.00% 50% Formal Portfolio Benchmark No Benchmark Page 11
Investment Policy The most commonly included components of foundation nonprofit investment policy statements are regarding which investments are permitted, staff roles and responsibilities, and target asset allocations. Although few participants said that their investment policies included reporting and financial advisor selection/termination, these guidelines ensure your board or Finance Committee has the information necessary to perform their fiduciary oversight requirements and to standardize the process of terminating underperforming advisors and should be considered a best practice to include in your policy. Investment Policy Components Permitted Investments Internal Staff Roles/Responsibilities Target Asset Allocation Diversification Guidelines Benchmark and Evaluation Guidelines Financial Advisors Discretion Level Prohibited Investments Financial Advisor Selection Guidelines Reporting Requirements Selection of advisors or managers Financial Advisor Term Guidelines 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Overall Performance The most meaningful way to compare investment returns is to first segment respondents based on their investment strategy (conservative, moderate, aggressive, etc.). The next step to a meaningful comparison is to develop portfolio benchmarks using different mixes of broad market indexes (US stock, Intl stock, Bond, and Cash) that reflect these different strategies. When comparing respondent s reported returns to the appropriate portfolio benchmark, the underperformance is significant particularly among those with more growth oriented strategies. (See important disclosures at the end of this report for construction of these benchmarks and their limitations) Average Performance 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 3.0% 6.5% 5.2% 7.0% 4.7% 7.5% 4.2% 8.0% Mod Conservative (31 40% Stock) Balanced (41 50% Stock) Mod Growth (51 60% Stock) Growth (61 70% Stock) Foundation Benchmark Return Page 12
Alternative Investments Although larger foundations had a much larger allocation to alternative investments, foundations with smaller reserve portfolios have shown an increase in allocations to alternative investments over prior years. Alternative investments are often used as a tool to increase diversification or to hedge against certain market factors. Unlike other nonprofit groups, foundations who used alternative investments reported earning slightly higher returns in 2014 (although not by a significant margin, due to the limited number of responses received in each cohort). 100% 90% 80% 70% 60% Alternative Allocation By Reserve Size 25% 13% 20% 20% 6% 7.0% Average Performance By Reserve Size 50% 40% 25% 23% 6.0% 5.0% 5.9% 30% 4.0% 3.0% 2.0% 1.0% 3.8% 3.9% 4.2% 3.3% 20% 10% 38% 31% 0.0% <$25M Overall 0% <$25M No Alternative Allocation Alternative Allocation Real Estate Private Equity / VC Precious Metals Hedge Funds Commodities Page 13
DISCLOSURES SONI is an informal, non-scientific survey for information purposes only. This information was gathered from reliable sources but we cannot guarantee accuracy. Any performance related information is based on participant responses and has not been verified. Past performance is not an indication of future results and any investment can lose value. Performance results have been compared to balanced benchmark portfolios comprised of broad market indexes. The benchmarks were selected because we feel they are the most well known in each broad category. They may or may not be suitable benchmarks for comparison to any particular investor s portfolio or for the average results reflected in this study. Indexes do not reflect the fees associated with actual investments and such fees would reduce the performance. Traditional Market Benchmarks Russell 3000 MSCI AW ExUS BarCap Agg Bond 3 Month US T Bills HFRI Fund of Funds Blended Benchmark Return Blended Portfolio Sample Benchmarks 2014 Return 30/70 40/60 50/50 60/40 70/30 12.56% 20% 29% 38% 47% 56% 3.88% 10% 11% 12% 13% 14% 5.97% 65% 55% 45% 35% 25% 0.03% 5% 5% 5% 5% 5% 3.37% 0% 0% 0% 0% 0% 6.01% 6.50% 7.00% 7.49% 7.98% Page 14