Universal Principles of Managing Institutional Funds

I recently had the pleasure of reading a memo from the legendary Oaktree Capital founder Howard Marks. In his piece titled “A Look Under the Hood,” Marks shares insights from a recent meeting with the investment committee of an unnamed U.S. state employee pension fund. He also reflects on some of his experience as investment chair of the University of Pennsylvania’s endowment from back in the mid-2000s.

It’s interesting to see how what Marks calls his “most important things” in institutional fund management translate across organizations and time. The situation he describes could have taken place in almost any investment meeting I’ve sat in over the past few years. While the over 100 nonprofit clients Alesco serves vary in size, scope, and purpose, I’m reminded that many principles of investment management for institutional funds are simply universal.

The memo inspired me to share some of my own reflections regarding a few universal principles Marks touches on and how they apply to the way we help institutions manage investment funds to meet their important goals.

Setting the Objective

The primary objective of any institutional investment committee is clear—ensure the funds they oversee can sustain the institution’s spending needs, both today and into the future. This is the raison d'être for pools of institutional funds like endowments and foundations. For most institutions, that means spending 4-5% of a portfolio’s average market value over a trailing period while preserving the purchasing power of the funds in perpetuity.

Acknowledging this primary goal also establishes the most important risk for institutional investment committees—the potential inability to fulfill those spending needs. Decisions regarding other items related to the portfolio such as market risk, investment approach, and performance assessment, are all derived from managing the singular risk associated with not meeting this paramount objective.

In our experience, committees that stay focused on this objective when markets are volatile or when new investment trends appear compelling tend to navigate difficult decisions with greater consistency.

Attitudes Toward Market Risk

Market risk—namely the potential for capital loss—is an inherent reality when pursuing investment returns to sustain spending needs. Some level of risk is unavoidable if an institution expects to earn the returns needed to support its mission. But beyond accepting a base level of market risk, the approach to risk management should depend on two important factors: the ability of an institution to accept market risk and the willingness of the investment committee to do so.

These factors are different but related. Ability is a reference to an institution’s financial capacity to accept risk, and willingness is a function of both the committee’s and the institution’s readiness to withstand periods of loss without abandoning a sound long-term strategy. Importantly, it’s the intersection of the two within the context of the primary return objective that should ultimately determine a committee’s approach to market risk. An institutional investment committee must know where its comfort zone lies and be honest about the tradeoffs that come with staying inside it.

Investment Approach and Process

Uncertainty in markets is the defining condition under which all investing takes place. This reality reinforces the merits of a durable approach based on strategic asset allocation and diversification. These fundamental tenets of long-term investing are an acknowledgement to the fact that no single environment will persist indefinitely and that the future is impossible to predict. Successful institutions accept the limits of forecasting and structure portfolios that are resilient across a wide range of environments.

However, the strength of this approach depends on the rigor of the underlying investment process. A disciplined process rooted in clearly articulated governance reduces the influence of behavioral biases, ensures consistency in decision-making, and anchors the institution to its long-term objectives. When committees adhere to a clear process—one that prioritizes long-term return requirements, spending needs, and risk tolerance over short-term noise—they enhance the likelihood of achieving their primary objective.

The Bottom Line

As Howard Marks’ reflections remind us, the effective stewardship of institutional funds rests on a simple but powerful alignment: portfolios designed for a purpose, processes established for discipline, and people capable of executing the decisions those entail. We believe that institutional investment committees who understand these universal principles and apply them consistently have the best chance at ensuring the long-term success of the institutions they serve.

Committees that consistently consider their return objectives, spending needs, and risk posture more effectively navigate market uncertainty. These are the actions that turn universal principles into long-term investment success.

This material is provided for informational purposes only and should not be construed as personalized investment advice. Investing involves risk, including the possible loss of principal.