Common Sense: How Cooper Union’s Endowment Failed in Its Mission

So why does Cooper Union now find itself forced to charge tuition of an estimated $20,000 a year, abandoning what many consider its most important legacy?

This week, angry students were occupying the president’s office in protest. They might be even angrier to learn that some of their future tuition dollars could be going to support wealthy hedge fund managers who oversee some of the school’s $666.7 million endowment.

Cooper Union may be an extreme example, but it’s hardly the only college suffering from a combination of decades of bad decisions and recent treacherous markets. Its endowment was typical of the many endowments and pension funds that took the plunge into so-called alternative investments like hedge funds, which have lured investors with the promise of generous and steady returns in both good times and bad. And compared with many universities, Cooper Union did a good job managing its endowment through the recent financial crisis. As recently as 2009, the school maintains, it ranked first among all American universities for endowment performance.

Even so, hedge funds couldn’t solve the college’s dire financial problems, and many hedge funds have been far more successful at lining the pockets of their managers than beating market averages. (The typical hedge fund manager charges a fee of 2 percent of assets plus 20 percent of any gains.) In fiscal year 2009, which ended June 30, 2009, Cooper Union’s hedge funds and other managed assets lost 14 percent, and the returns since then have lagged the stock market’s recovery. Today, Cooper Union’s endowment is lower than it was at the end of fiscal year 2008, even as the Standard & Poor’s 500-stock index has hit new highs. From 2009 to 2012, a simple, low-fee mix of 60 percent stocks and 40 percent bonds far outperformed hedge fund indexes.

Weak hedge fund performance is hardly Cooper Union’s only financial problem. Today’s crisis has been brewing for decades if not longer, and comes after years of what looks like bad management decisions with little accountability or supervision by New York’s attorney general, who oversees nonprofit institutions. Over the decades, Cooper Union has sold off assets piecemeal, failed to diversify its endowment, taken on debt and built a lavish new building. After the 2000-1 stock market plunge, the managed endowment, excluding the Chrysler Building, lost half its value. The school never cultivated its potential donor base, leaving most graduates with the impression that it was wealthy and didn’t need alumni contributions.

In some ways, it’s surprising that the school’s trustees managed to stave off charging tuition as long as they did. “We’ve only been one step ahead of the bailiff for decades,” said John C. Michaelson, a trustee who runs an investment firm and has been chairman of the investment committee since 2012, as well as from 2005 to 2008. “We were pulling rabbits out of hats.”

The simplest rule of asset management, one familiar to even novice investors, is diversification. Yet Cooper Union’s endowment is highly unusual in that it’s concentrated in a single asset — the land under the Chrysler Building — which accounts for nearly 84 percent of its assets, according to its most recent financial statement.

By contrast, Emory University in Atlanta, which as recently as 2001 had 60 percent of its main endowment in Coca-Cola stock, has since sold all of it and diversified into other assets.

Having so much of the endowment in a single asset “is against everything I stand for,” Mr. Michaelson said. He and other trustees said they considered selling it in 2006, when the college was facing mounting financial deficits, but concluded that would be impractical. Cooper Union receives annual lease payments of $9 million from the owner of the Chrysler Building, Tishman Speyer Properties, and $18.2 million in so-called tax equivalency payments that would otherwise go to New York City. The right to the tax revenue couldn’t be transferred to a buyer.

Endowment Fund, Run by Mark Yusko, Limits Withdrawals

But now investors in the fund, the nine-year-old, $3.3 billion Endowment Fund, are finding it was much easier to get in than it is to get out.

The fund, run by Mark Yusko, the charismatic former chief of the endowment for the University of North Carolina at Chapel Hill, sent letters on Friday to investors saying it was limiting the amount of money that could be taken out each quarter. Investors withdrew more than $1 billion, or about a quarter of the fund’s assets, this year through September, according to a filing with the Securities and Exchange Commission.

Investors generally have been disappointed with hedge fund returns for the last couple of years because many have lagged the gains made in the stock market. Investors have pulled about $13.2 billion, or 2 percent of total assets, from hedge funds for the year through August, according to estimates by BarclayHedge and TrimTabs Investment Research. The firms estimate that in the 3,000 hedge funds that they track, assets have fallen 28.7 percent from their peak of $2.4 trillion in 2008 through a combination of weak performance and withdrawals.

But hedge fund investors and lawyers said the move by the Endowment Fund was one of the first forms of gating, or reducing the ability of investors to take out their money, since the financial crisis. Then, several large hedge funds gated, angering their investors who could not get access to their money.

The troubles at the Endowment Fund are a black eye for Mr. Yusko, a frequent speaker at investment conferences who, after leaving the University of North Carolina in 2004, built a substantial hedge fund empire that at its peak in 2008 controlled $22 billion in assets. Today, he oversees $14 billion.

Mr. Yusko declined to comment on Monday.

He started the Endowment Fund in 2003 with Salient Partners, a Houston firm that managed money for wealthy individuals. It is a fund that invests in dozens of other funds, including some run by prominent managers who have stumbled in recent years, like John A. Paulson, Philip A. Falcone and Eric Mindich.

Several experts were quick to say they saw the gating at the Endowment Fund as a reflection of what that fund had invested in, not as a general trend among funds. About 35 percent of the fund’s assets are invested in real estate, energy and private equity assets — investments that the fund simply could not exit quickly if investors were to demand their cash.

The substantial redemptions in the Endowment Fund follow several years of weak returns. For the 12 months ending late August, the fund was down 2.5 percent, compared with an 18 percent gain in the Standard & Poor’s 500-stock index and a 0.9 percent decline in the average hedge fund. Over the last five years, the Endowment Fund returned 5.7 percent annually, lagging the 7.7 percent gain by the S.&. P. 500 and the 7.3 percent annual gain by the average hedge fund.

“Hedge funds, as an asset class, have underperformed the stock market and there are definitely some investors out there who feel like they haven’t been invited to the party,” said Stewart Massey, a partner at Massey Quick in Morristown, N.J., which invests money for individuals and institutions.

But the fees investors have paid the Endowment Fund for its lukewarm performance have been considerable, up to about 3.5 percent a year. Additionally, the underlying funds can receive as much as 25 percent of any profits they make.

On top of that, some of the fund’s investors who came in through Merrill Lynch financial advisers may have paid as much as a 2.5 percent upfront fee, similar to what is charged for other funds, according to internal Merrill Lynch documents.

A spokesman for Bank of America, which acquired Merrill Lynch in 2009, declined to answer specific questions about the Endowment Fund. But he did confirm that the wealth management arm of Bank of America on Friday changed the Endowment Fund’s status from “open,” to “on hold,” meaning that wealthy investors could not put any new or additional money into the fund.