Inflation Fear Pushes U.S. Endowments Deeper Into Commodities

By Gillian Wee

Sept. 9 (Bloomberg) -- George Washington University is increasing holdings of commodities such as oil and natural gas out of concern that a return to inflation rates last seen in the 1970s may ravage the value of its $1 billion endowment.

U.S. consumer prices may rise 8 percent annually within three to five years because of unprecedented government spending and deficits, said Donald Lindsey, the Washington school’s chief investment officer. Growth in the consumer price index averaged 7.4 percent from 1970 through 1979, a period remembered for economic stagnation and eroding values of fixed-income investments, compared with 0.1 percent in 2008.

“Inflation, once it starts, could get very difficult to stop,” Lindsey, 50, said in a telephone interview. “We could see a stagflation environment that’s similar to the 1970s.”

The specter of inflation has emerged as schools across the country cope with the fallout from record investment losses that forced them to cut spending and jobs. Pepperdine University’s endowment is considering buying more assets that hold their value or rise when prices get out of control. The University of Notre Dame built up inflation hedges over the past few years to more than 20 percent of the fund.

Gold, used by some investors as a hedge against rising prices, rose to the highest price yesterday since March 2008, passing $1,000 an ounce, while silver climbed to a 13-month high. Bullion advanced $3.10 an ounce to $999.80 on the New York Mercantile Exchange’s Comex division, after surging as high as $1,009.70.

Impossible to Time

George Washington, which was created by Congress in 1821, may increase its stakes in natural resources to as much as 30 percent of assets in the next three to five years from about 13 percent, Lindsey said. It’s doing so through stocks and private- equity funds.

Lindsey, who estimates George Washington’s endowment dropped 18 percent this past year, said he plans to sell fixed- income holdings and stocks to expand the fund’s natural-resource stakes.

“You have to think about it now even though it appears we’re still in a deflationary environment,” Lindsey said. “It’s impossible to time it. When it comes, nobody is really going to be expecting it.”

In the year ended June 30, endowments probably recorded their biggest losses in 35 years, according to Commonfund Institute in Wilton, Connecticut, an affiliate of Commonfund, a manager of $25 billion for nonprofit groups.

1970s Nightmare

Endowments lost an average of 50 percent to 60 percent of their value in the 1970s, said Bill Spitz, who ran Vanderbilt University’s fund for 23 years. Funds were allocated mostly to stocks and bonds, without the protection of real estate and other hard assets that hedge against inflation, Spitz said.

The Reuters/Jefferies CRB Index of commodity prices more than doubled during the decade.

Schools have since followed Yale University Chief Investment Officer David Swensen into hard assets, along with private-equity and hedge funds, while cutting back on stocks and bonds to try to improve returns.

“They’re much, much equipped better today than they were in the ‘70s, but whether they’re sufficient if we do have a round of inflation isn’t clear,” said Spitz, now a principal at Diversified Trust in Nashville, Tennessee, which manages more than $3 billion for wealthy clients and small endowments. “There’s a hot debate about whether we’re going to see inflation or not.”

Stimulus Spending

The price measure that tracks consumer spending and excludes food and fuel costs, the Federal Reserve’s favorite, rose 1.4 percent in July from the same month last year, the smallest gain since 2003, a Commerce Department report showed last month. The last time it exceeded 3 percent was in 1992.

President Barack Obama has pushed U.S. public debt to $6.78 trillion in an effort to spur economic growth, support the financial system and service record deficits.

The Fed won’t be able to prevent the trillions of dollars in government stimulus funds pumped into the U.S. economy from stoking inflation over the next decade, according to an Aug. 31 survey of business economists.

The price gauge tracked by the central bank will rise 3 percent a year on average from 2014 through 2018, according to the median estimate in a poll taken by the National Association for Business Economics. That exceeds the 2 percent pace that respondents said was the Fed’s unofficial target.

Scott Malpass, chief investment officer at Notre Dame in South Bend, Indiana, expects higher inflation in the next two to five years and said it’s “entirely reasonable” to see a return to the late 1970s, early 1980s levels of 5 percent to 10 percent.

Short-Term Deflation

“Short term, there is a lot of deflationary pressure on prices as people liquidate assets, cut prices at retailers to draw traffic, default on loans,” Malpass, whose fund held $7.1 billion as of June 30, 2008, said in an interview. “Eventually the massive stimulus packages by both the U.S. and other governments around the world will work into the system and bring higher inflation.”

Endowment managers at Pepperdine, in Malibu, California, may increase real-estate and commodity holdings, which make up about 12 percent of the $590 million fund, said Jeff Pippin, the school’s chief investment officer.

“It will be very difficult to avoid a significant inflation given the massive government stimulus,” Pippin said. “Given the direction of deficits, government debt and spending, one has to wonder about the political will to rein in future inflation, given the impacts such actions might have on a very fragile economy.”

To contact the reporter on this story: Gillian Wee in New York at gwee3@bloomberg.net;

Last Updated: September 9, 2009 00:01 EDT