Endowment Fund – Spending Policy (effective April 1, 2012)
On March 20, 2012, the Board of Governors approved the new spending policy for the endowment fund, as recommended by the Trust Investment Committee. The new policy will be based on a hybrid method for calculating annual distributions. The new spending rate is calculated as follows:
Annual spending amounts for each individual account are set at 75% based on the previous year’s actual spending amount adjusted for inflation PLUS 25% based on a 4% spending rate of the 60-month rolling average of market values of the endowment fund.
Inflation will be determined by the CPI rate for the most recent calendar year.
(The old spending policy was based on a 4.5% spending rate of the 36-month rolling average of market values of the endowment fund).
The Committee had been reviewing a change to the policy over the past year with two goals in mind: 1) to provide annual allocations with less volatility to help beneficiaries plan and budget better from year-to-year, and 2) to preserve the long-term capital of the fund.
Many universities in Canada and the U.S. have made policy changes, or they are in the process of reviewing policy changes, with respect to the annual spending distributions from their endowment funds. A wide variety of options exist and are now being used, which suggests there is no consensus as to the single best way to allocate endowment income, particularly in light of the challenges in the investment marketplace over the past decade, and the different requirements within universities. Despite this, hybrid policies have become increasingly more popular in recent years as they are less affected by the volatility of market returns, allowing beneficiaries to see stability in allocations.
After reviewing several different calculation methods (market-based, inflationary, and hybrid), and then several different hybrid options within the hybrid alternative, the Committee felt that the 75/25 calculation best suited the needs of both our beneficiaries and the fund itself. In determining that 75% of the calculation be based on last year’s nominal spending amount adjusted for the current year’s inflation, this protects the downside of the annual distribution and helps to negate volatility. Having 25% of the calculation tied to market values/investment performance links spending back to the value of the fund and allows beneficiaries to spend a little more in times when returns are stronger. Furthermore, having the period of returns stretched out to a 5-year period provides more stability to annual allocations, and setting the spending rate to 4% slightly reduces the payout and ties the rate more closely to the capital market assumptions and expected returns of the fund’s investments.
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