The Carnegie Corporation Investment Team. L-R: Li Tan, Investment Associate; Ariane Leung, Executive Assistant; Alexis A. Palmer, Investment Associate; K. Niles Bryant, Investment Associate; D. Ellen Shuman, Vice President and Chief Investment Officer (seated); Meredith Bradley Jenkins, Director of Private Equity

Since its founding in 1911, Carnegie Corporation of New York has dedicated itself to ongoing introspection and public discourse about what it means to be an effective, accountable and transparent steward of the public trust. This article about the foundation’s investment practices, and how they contribute to sustaining our grantmaking, continues that tradition.

The scene in Carnegie Corporation of New York’s conference room would have astonished the organization’s earliest financial stewards. Here were a pair of learned money managers explaining to the individuals responsible for the Corporation’s irreplaceable endowment that Africa—yes, Africa—was just the place to invest some of it.

Even more astonishingly, the presentation didn’t raise an eyebrow. Carnegie Corporation already invests in Africa—and India, and other parts of the developing world—in its never-ending search for the investment returns necessary not just to sustain its grantmaking, but to increase it—all the while paying for its overhead and increasing its principal enough to keep pace with inflation.

How far Carnegie Corporation money managers must go nowadays in search of these returns is a reflection of how far the Corporation has come since the days before World War I, when its initial funding of $135 million from Andrew Carnegie was invested overwhelmingly in the bonds of United States Steel Corp., once the primary source of Carnegie’s personal wealth. Investing in those days was a simple matter of “clipping the coupons”—collecting the interest in the era of paper bonds that came with actual coupons to be clipped.

In the early days of the Corporation, the foundation had no chief investment officer, and in fact this position did not exist until a 1998 pro bono study by McKinsey and Co.—commissioned by the Corporation’s Board of Trustees and its newly appointed President, Vartan Gregorian, in order to strengthen the organization—recommended that it be created. In 1999, D. Ellen Shuman was appointed Vice President and Chief Investment Officer, and assembled a four-person investment team. Their job is, first, to make sure that the corpus of Carnegie Corporation’s endowment does not run out, and second, to increase it in real terms. This tension between safety and growth—between risk and reward—is the central challenge facing private foundations that hope to continue doing good long after their founders are gone.

There is always plenty of interest in how foundations spend their money, but not much is written about why the financial well never seems to run dry. It is common knowledge, of course, that rich benefactors like Andrew Carnegie donated a bundle at some point, but forever is a long time, and no matter how large the initial sum, a finite amount of money cannot fund worthy causes on into infinity. Consider that since its inception Carnegie Corporation has spent roughly $2 billion in nominal terms, or fully 16 times its original endowment—much of this in the past decade. The vast bulk of that spending was for grants. As a private foundation (and not a university endowment), the Corporation engages in no fundraising and hasn’t received any significant gifts since those of Andrew Carnegie himself. Yet it is required by its founder to do good in perpetuity—and required by the United States Congress to spend 5 percent of its money every year or face a stiff tax penalty.

Earning 5 percent sounds straightforward enough; in good years, a simple certificate of deposit will do the job. The problem is that earning 5 percent year after year and spending the same amount would doom the Corporation to extinction. Merely earning 5 percent and giving the same amount would leave the Corporation with less money in “real”—or inflation-adjusted—terms every single year, until eventually there would be no money for funding grants at all. “The key question,” says Shuman, “is are we maintaining our purchasing power net of spending?”

Happily, the numbers show that the answer thus far for Carnegie Corporation has been a resounding yes. For the decade ended September 30, 2005, the Corporation’s endowment grew at an annualized rate of 11.6 percent, net of all fees and expenses. During this period, net of spending, the Corporation’s investment portfolio very nearly doubled. At the close of the latest fiscal year, the portfolio stood at roughly $2.2 billion. Since the Corporation’s policy is to spend every year 5.5 percent of the endowment’s average value over the preceding 12 quarters, a rising endowment has meant ever-more grantmaking. Geoffrey T. Boisi, who heads the Corporation’s trustee investment committee, makes no bones about his ambitions on this front. “We would not find it acceptable to be close to the line on what it would take just to cover 5 percent plus inflation. We also want to grow the endowment.”

Carnegie Corporation has managed to do just that thanks to the enterprise of its investment staff, the oversight of the Corporation’s financially savvy investment committee, and dozens of outside money managers who make investment choices within the sectors chosen by Shuman’s team. But Shuman herself, an energetic former art history major who cut her investment teeth at Yale University, is blunt about the odds of such returns continuing: “The Corporation is unlikely to ever experience a quarter-century as favorable as the period from 1980 to 2005, with a nominal annualized return of 13.4 percent net of spending.

But over the last 55 years, from 1950 through the present, the Corporation has achieved its objective as well, growing $183 million in 1950 into $2.2 billion in nominal terms and $276 million after adjusting for inflation. See Chart 1.

The most recent five fiscal years, in fact, have been tougher. Nevertheless, the Corporation’s annualized return of 8.3 percent during this difficult span for the financial markets significantly outpaced its policy benchmark¹ of 6.5% and ranked the Corporation in the top quartile of endowments and foundations valued over $1.0 billion, as measured by Cambridge Associates, a consulting firm that focuses on tax-exempt investors. This strong performance allowed the Corporation to keep up with inflation after spending, through a challenging five-year investment period when, for example, the S&P 500 Index delivered a –1.5% annualized return.

At the core of Shuman’s efforts to achieve this return is effective asset allocation—deciding how much of the Corporation’s money to put into public equities, fixed income, private equity, absolute return and private real estate—and of course where in the world that investing should occur, whether as far away as Africa or as close to home as New York. Many people think successful investing is about picking hot stocks or frequent trading, but academic studies show clearly that the asset allocation decision is responsible for most of the results any investor is likely to achieve. So while Shuman and her team leave it to their managers to choose specific securities, the Corporation’s overall asset allocation is determined in-house, with approval from the investment committee.

How is asset allocation decided? It starts with modern portfolio theory, which suggests that in the long run returns on various asset classes are related to risk. Thus, stocks should produce higher returns than a federally insured bank deposit, but with greater variability. The legendary banker J.P. Morgan, asked his opinion of the market, famously replied: “It will fluctuate.” Experience also shows that some types of assets do not move in tandem with others. This lack of correlation allows investment managers like Shuman and her team to construct a portfolio that, at least theoretically, can maximize returns at any given level of volatility, or risk.

Next page: Allocating assets is as much art as science, and Shuman describes the various computer modeling she and her colleagues perform as helpful but limited intellectual exercises.

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¹ The target policy benchmark provides a way to compare the performance of the Corporation’s portfolio with appropriate market indices. Each of the portfolio’s asset classes (equities, fixed income, real estate, etc.) has a benchmark; the policy benchmark is calculated by multiplying the actual return of an appropriate market index (such as the S & P 500) for each class of assets by the percentage of the Corporation’s portfolio that is allocated to that class. The total policy benchmark, the sum of these benchmark calculations, provides an overall measure of actual performance relative to market indices.

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