First answer: the board is confident that it could raise funds through donor contribution
Second answer: the recent investment returns of the endowment have been above the return objective, providing a cushion for lower future return
Third answer: long time horizon of endowment allows for short term fluctuations"
in the Kaplan book, they list the four factors below impacting the risk tolerance of the endowment.
dependence on the distribution
1. The second answer is point 3 in Kaplan, how about the first answer? Do you think that is related to point 4?
2. Time horizon is part of the answer. But Kaplan does not list it as part of the factors for endowment just like DB plan. So, do we assume time horizon is always a factor for risk tolerance for all institutions?
I always list Time Horizon as a factor that increases the ability to take risk for Endowments and Foundations, given their usual goal of operating in perpetuity. That one is a slam dunk in my opinion. Of course, we’ll always want to read the case carefully for facts that might contradict the norm.
I would say it’s more related to Kaplan point 3, performance. If the portfolio under-performs or experiences losses, it is less likely that positions would need to be sold at lower values to fund spending requirements if the board is confident that it can raise funds via donations if it needs to. This is where liquidity needs and risk tolerance intertwine. The strength of the views of future cash contributions actually contributes to a lot of factors, all of which are positives. It lengthens the potential time horizon of investments under consideration, increases risk tolerance and reduces liquidity constraints. A lot of these factors are related to each other and often and overlap.
Totally makes sense! I see now why they dont list the time horizon in as a factor. Many factors are related to each other and like this question. The first and second answers are all point 3 in Kaplan with performance but could be connected to other factors as well. It is subjective just like in real world.
First answer is related to dependence on the distribution. They are less dependent because if all else failed they are confident they could raise money through donor contributions, thus contributing to the endowment having a higher risk tolerance.
If you think about liquidity that may be helpful as well. Ongoing contributions (or potential to raise more) can mitigate liquidity in the short-run (covering distributions/spending requirements) and therefore increase the ability to take risk