Howard Berner is the chief investment officer for Principia’s $645 million endowment. Principia consists of a small liberal arts college located in Elsah, Illinois, and a pre-K through 12th grade school in St. Louis, Missouri. Berner is a graduate of the United States Military Academy at West Point and holds an MBA from Harvard Business School. Prior to joining Principia, Berner spent 22 years in the military, including a period gathering intelligence in Cold War-era East Germany. After graduating from Harvard, Berner returned to West Point to teach economics and later served as deputy comptroller before eventually joining Principia, first as chief financial officer, and more recently as Principia’s first chief investment officer.
Mr. Berner was named to Trusted Insight’s list of the Top 30 Ivy League Graduate Chief Investment Officers - Part 1. He graciously spoke with Trusted Insight on October 16. The following interview has been edited and condensed.
Trusted Insight: Coming from a military intelligence background, how did you end up in finance?
Howard Berner: When I returned from East Germany I was offered the opportunity to attend graduate school. As much as I enjoyed my adventures behind the Iron Curtain, I realized that wasn’t what I wanted to do with my life, and I wasn’t sure what to study if I wasn’t going to be a spy. My dad said, “Get a Harvard MBA – it’s the West Point of capitalism.”
Once I got to Harvard, I felt so well prepared from West Point that I was really able to focus on the educational opportunity and not become overwhelmed by the pressure.
TI: You said your West Point education was a strong foundation for your life. Surely, your time in the service only sharpened your analytical and decision making processes. To what degree did your Harvard education contribute to your success?
HB: I am certainly grateful for both experiences. However, those who know me know that I consider West Point the education that made me who I am, teaching the mental toughness, the analytical rigor, the confidence that whatever the challenge, it can be met with energy and decisiveness. I’ve been grateful for that my whole life.
It prepared me to better take advantage of what Harvard had to offer. The Harvard experience provided a great opportunity through the case study program to gain insights in a variety of fields that I hadn’t personally experienced. It helped me learn how to identify the key facts in a new situation and then apply them to whatever I was trying to do.
TI: How have West Point and Harvard experiences factored into how you analyze the markets and the endowment portfolio?
HB: I served on the Joint Staff when General Colin Powell was Chairman, and somewhere along the way I heard him talk about what he called his 40/70 rule. It’s always stuck with me. He was referring to military situations, but it’s applicable to everything that requires timely decision making in life.
If you try to make a decision before you have 40% of the relevant information, you’re probably shooting from the hip, and you may regret it. You haven’t gathered enough to make a good decision.
If you wait until you’ve got more than 70% of the relevant information, then you’re probably getting too hung up on the analysis and looking for details that might just not be available in a timely enough manner to make a good decision. That will just slow you down, and you’ll regret that.
The numbers 40 and 70 aren’t important; the idea is simply that you gather the information that is readily available until there is enough to make a reasonable decision. You have to let go of the fact that you’ll never have all of the relevant details. If you try and wait until you find them, you’ll have missed the boat. That’s really a useful idea in approaching any time-sensitive decision that has a measure of uncertainty to it.
TI: Tell me about the endowment portfolio.
HB: Principia has a risk profile that is very different from most schools. In addition to our four-year liberal arts college, the endowment also supports a pre-K-12 school on another campus. We’re a small school, with fewer than 500 students on each of our two campuses. Our fixed costs per student are therefore high, and the endowment typically pays as much as two-thirds of our expenses.
Our spend rate is often 7%. With a high spending rate from the endowment, we have to have a high allocation to equity and other risk assets – public and to a lesser degree private – in our portfolio because interest rates have fallen since the early 2000s. When I first arrived at Principia, interest rates on fixed income were higher than the endowment spending rate.
We manage liquidity carefully and try to maintain only as much liquidity as we expect to need. Our liquidity reserve is 15%, comprised of high-quality fixed income and cash.
TI: If you have a 7% spend rate and a high degree of equity in order to achieve returns greater than your spend, then is it fair to say you are more concerned with near-term returns, as opposed to many endowments which focus on long-term growth?
HB: It’s an interesting thing to understand. Our approach to spending comes to a certain degree from our faith. Principia is a Christian Science-based school, and we trust that if we are doing what is required to fulfill our educational mission, we’ll find the resources necessary to meet the need. The bottom line is that we don’t like to turn away anyone for lack of funds.
We certainly don’t have a short term focus. It’s not as though we are saying let’s spend it now. It’s just that an aggressive spending rate and a high dependence are in tension with each other. The higher the dependence, the lower the volatility that you’d like to have; the higher the spending rate, the more higher-returning risk assets you’d like to have. You have to maintain enough liquidity to cover the eventualities you might face in the short run, recognizing that over the long run our strength is going to come from the excellence with which we carry out our mission.
TI: What is your investment philosophy?
HB: The starting point for investing is to consider the financial model for the organization whose funds are being invested. What are the objectives? What are the cash flows in? What are the cash flows out? How much predictability is there, and how much control do you have over those flows? That is fundamental to determining your risk tolerance.
TI: Do you have a way to think about what could happen and what you do you about it?
HB: Scenario analysis is an important component of risk management and helps determine how much investment risk we can take as an institution. Generally speaking, it’s the risk we can afford to take that influences our investment allocation. We’d love to be able to hedge out the down side, but over the long term that is typically too expensive.
Principia’s relatively high spending rate necessitates a significant amount of risk assets in the pool, but we also need to have an anchor to windward. In volatile markets, we need to be sure that we have assets that can be immediately liquidated without substantial loss in value to pay near-term bills. Currently we use cash and high-quality fixed income, with the rest of the portfolio invested more aggressively to seek the return we need in the long term.
TI: This is a tough time to be an investor, especially one with a high spend rate. What is your outlook for both public and private markets headed into 2016 and beyond?
HB: Wouldn’t we like to know! The starting point is that you never really know for sure. The level of government and central bank involvement in the global economy and the market volatility that stems from rapid 24/7 dissemination of information make it clear that trying to do a macro call on where the markets are going is a risky basis on which to build an investment strategy. While we are in an environment that is filled with plenty of potential perils, the fundamentals of the endowment model remain sound.
Diversify broadly to incorporate different sources of return, ideally as uncorrelated as possible. Stay alert to opportunities that may arise from under- or overvaluations. There will continue to be a premium over public markets for investing in some illiquid investments, but dispersion of results makes manager selection critical in those asset classes. Fees are important to consider, especially in a low return environment, but ultimately it is net risk-adjusted return that matters.
TI: What is the most exciting thing your endowment is helping to fund at the College right now?
HB: It may not sound exciting because everybody does it, but the impact of financial aid is inspiring to me. Principia doesn’t accept federal aid, as a matter of principle. We replace the aid students would otherwise receive from the federal government with endowment funded grants.
Our goal is to assure that students graduate without a debt burden so great that it would force them to pursue goals in life driven by the need to make the biggest salaries. We want our graduates to have an interest in making a difference in the world, whether that’s going to make them rich or not. That’s exciting to me. Enabling kids that otherwise couldn’t go to college to come to the school, that’s better than anything.
Obviously it helps to have donors who can afford to make financial gifts, and we are grateful for the remarkable support we have received over the years. It comes down to our trust that if we are really making a difference in the world, we’ll find the resources we need to continue. For nearly 120 years, Principia has proven time and again that financial needs are met when we keep our priorities straight.
TI: There seems to be a theme of duty and mission toward supporting the less fortunate.
HB: The focus is really on helping each person rise to his or her full potential. My experience in the military gave me the opportunity to study at great schools. The American taxpayer paid the bill to send me to West Point, and the Army sent me to Harvard. I really gained a deep sense of appreciation for the importance of service.
When I was ready to leave the army, I thought about pursuing some corporate or entrepreneurial activity. My wife, who has always been a musical “Johnny Appleseed,” creating children’s choirs and school music programs wherever we went, wanted to come to St. Louis, and it felt like it should be her turn after she had followed me around the world. I trusted that I could find something worthwhile to do in St. Louis. In looking for potential opportunities, along with contacting friends and classmates who had settled in St. Louis, I spoke with the administration at Principia, my wife’s alma mater. I learned that Principia’s treasurer had announced his retirement shortly before I started looking for a position in St. Louis.
My last job in the army was deputy comptroller at West Point, so I was already doing academic financial administration. When I read Education at the Principia, a collection of talks and writings by Principia’s founder, Mary Kimball Morgan, I was particularly inspired by her view of academics as a vehicle for character education and the idea that Principia accepted no belief in the limitations of any individual as final. Those ideas continue to inspire me today.
When I left West Point I thought I would have a hard time replacing the sense of fulfillment that came from contributing to a great institution. I have been delighted to find in Principia the same satisfaction in service to such a worthwhile purpose.
To learn more about the top-tier institutional investors, check out Trusted Insight's list of Top 30 Ivy League Graduate Chief Investment Officers - Part 1.
Mr. Berner was named to Trusted Insight’s list of the Top 30 Ivy League Graduate Chief Investment Officers - Part 1. He graciously spoke with Trusted Insight on October 16. The following interview has been edited and condensed.
Trusted Insight: Coming from a military intelligence background, how did you end up in finance?
Howard Berner: When I returned from East Germany I was offered the opportunity to attend graduate school. As much as I enjoyed my adventures behind the Iron Curtain, I realized that wasn’t what I wanted to do with my life, and I wasn’t sure what to study if I wasn’t going to be a spy. My dad said, “Get a Harvard MBA – it’s the West Point of capitalism.”
Once I got to Harvard, I felt so well prepared from West Point that I was really able to focus on the educational opportunity and not become overwhelmed by the pressure.
TI: You said your West Point education was a strong foundation for your life. Surely, your time in the service only sharpened your analytical and decision making processes. To what degree did your Harvard education contribute to your success?
HB: I am certainly grateful for both experiences. However, those who know me know that I consider West Point the education that made me who I am, teaching the mental toughness, the analytical rigor, the confidence that whatever the challenge, it can be met with energy and decisiveness. I’ve been grateful for that my whole life.
It prepared me to better take advantage of what Harvard had to offer. The Harvard experience provided a great opportunity through the case study program to gain insights in a variety of fields that I hadn’t personally experienced. It helped me learn how to identify the key facts in a new situation and then apply them to whatever I was trying to do.
TI: How have West Point and Harvard experiences factored into how you analyze the markets and the endowment portfolio?
HB: I served on the Joint Staff when General Colin Powell was Chairman, and somewhere along the way I heard him talk about what he called his 40/70 rule. It’s always stuck with me. He was referring to military situations, but it’s applicable to everything that requires timely decision making in life.
If you try to make a decision before you have 40% of the relevant information, you’re probably shooting from the hip, and you may regret it. You haven’t gathered enough to make a good decision.
If you wait until you’ve got more than 70% of the relevant information, then you’re probably getting too hung up on the analysis and looking for details that might just not be available in a timely enough manner to make a good decision. That will just slow you down, and you’ll regret that.
The numbers 40 and 70 aren’t important; the idea is simply that you gather the information that is readily available until there is enough to make a reasonable decision. You have to let go of the fact that you’ll never have all of the relevant details. If you try and wait until you find them, you’ll have missed the boat. That’s really a useful idea in approaching any time-sensitive decision that has a measure of uncertainty to it.
TI: Tell me about the endowment portfolio.
HB: Principia has a risk profile that is very different from most schools. In addition to our four-year liberal arts college, the endowment also supports a pre-K-12 school on another campus. We’re a small school, with fewer than 500 students on each of our two campuses. Our fixed costs per student are therefore high, and the endowment typically pays as much as two-thirds of our expenses.
Our spend rate is often 7%. With a high spending rate from the endowment, we have to have a high allocation to equity and other risk assets – public and to a lesser degree private – in our portfolio because interest rates have fallen since the early 2000s. When I first arrived at Principia, interest rates on fixed income were higher than the endowment spending rate.
We manage liquidity carefully and try to maintain only as much liquidity as we expect to need. Our liquidity reserve is 15%, comprised of high-quality fixed income and cash.
TI: If you have a 7% spend rate and a high degree of equity in order to achieve returns greater than your spend, then is it fair to say you are more concerned with near-term returns, as opposed to many endowments which focus on long-term growth?
HB: It’s an interesting thing to understand. Our approach to spending comes to a certain degree from our faith. Principia is a Christian Science-based school, and we trust that if we are doing what is required to fulfill our educational mission, we’ll find the resources necessary to meet the need. The bottom line is that we don’t like to turn away anyone for lack of funds.
We certainly don’t have a short term focus. It’s not as though we are saying let’s spend it now. It’s just that an aggressive spending rate and a high dependence are in tension with each other. The higher the dependence, the lower the volatility that you’d like to have; the higher the spending rate, the more higher-returning risk assets you’d like to have. You have to maintain enough liquidity to cover the eventualities you might face in the short run, recognizing that over the long run our strength is going to come from the excellence with which we carry out our mission.
TI: What is your investment philosophy?
HB: The starting point for investing is to consider the financial model for the organization whose funds are being invested. What are the objectives? What are the cash flows in? What are the cash flows out? How much predictability is there, and how much control do you have over those flows? That is fundamental to determining your risk tolerance.
TI: Do you have a way to think about what could happen and what you do you about it?
HB: Scenario analysis is an important component of risk management and helps determine how much investment risk we can take as an institution. Generally speaking, it’s the risk we can afford to take that influences our investment allocation. We’d love to be able to hedge out the down side, but over the long term that is typically too expensive.
Principia’s relatively high spending rate necessitates a significant amount of risk assets in the pool, but we also need to have an anchor to windward. In volatile markets, we need to be sure that we have assets that can be immediately liquidated without substantial loss in value to pay near-term bills. Currently we use cash and high-quality fixed income, with the rest of the portfolio invested more aggressively to seek the return we need in the long term.
TI: This is a tough time to be an investor, especially one with a high spend rate. What is your outlook for both public and private markets headed into 2016 and beyond?
HB: Wouldn’t we like to know! The starting point is that you never really know for sure. The level of government and central bank involvement in the global economy and the market volatility that stems from rapid 24/7 dissemination of information make it clear that trying to do a macro call on where the markets are going is a risky basis on which to build an investment strategy. While we are in an environment that is filled with plenty of potential perils, the fundamentals of the endowment model remain sound.
Diversify broadly to incorporate different sources of return, ideally as uncorrelated as possible. Stay alert to opportunities that may arise from under- or overvaluations. There will continue to be a premium over public markets for investing in some illiquid investments, but dispersion of results makes manager selection critical in those asset classes. Fees are important to consider, especially in a low return environment, but ultimately it is net risk-adjusted return that matters.
TI: What is the most exciting thing your endowment is helping to fund at the College right now?
HB: It may not sound exciting because everybody does it, but the impact of financial aid is inspiring to me. Principia doesn’t accept federal aid, as a matter of principle. We replace the aid students would otherwise receive from the federal government with endowment funded grants.
Our goal is to assure that students graduate without a debt burden so great that it would force them to pursue goals in life driven by the need to make the biggest salaries. We want our graduates to have an interest in making a difference in the world, whether that’s going to make them rich or not. That’s exciting to me. Enabling kids that otherwise couldn’t go to college to come to the school, that’s better than anything.
Obviously it helps to have donors who can afford to make financial gifts, and we are grateful for the remarkable support we have received over the years. It comes down to our trust that if we are really making a difference in the world, we’ll find the resources we need to continue. For nearly 120 years, Principia has proven time and again that financial needs are met when we keep our priorities straight.
TI: There seems to be a theme of duty and mission toward supporting the less fortunate.
HB: The focus is really on helping each person rise to his or her full potential. My experience in the military gave me the opportunity to study at great schools. The American taxpayer paid the bill to send me to West Point, and the Army sent me to Harvard. I really gained a deep sense of appreciation for the importance of service.
When I was ready to leave the army, I thought about pursuing some corporate or entrepreneurial activity. My wife, who has always been a musical “Johnny Appleseed,” creating children’s choirs and school music programs wherever we went, wanted to come to St. Louis, and it felt like it should be her turn after she had followed me around the world. I trusted that I could find something worthwhile to do in St. Louis. In looking for potential opportunities, along with contacting friends and classmates who had settled in St. Louis, I spoke with the administration at Principia, my wife’s alma mater. I learned that Principia’s treasurer had announced his retirement shortly before I started looking for a position in St. Louis.
My last job in the army was deputy comptroller at West Point, so I was already doing academic financial administration. When I read Education at the Principia, a collection of talks and writings by Principia’s founder, Mary Kimball Morgan, I was particularly inspired by her view of academics as a vehicle for character education and the idea that Principia accepted no belief in the limitations of any individual as final. Those ideas continue to inspire me today.
When I left West Point I thought I would have a hard time replacing the sense of fulfillment that came from contributing to a great institution. I have been delighted to find in Principia the same satisfaction in service to such a worthwhile purpose.
To learn more about the top-tier institutional investors, check out Trusted Insight's list of Top 30 Ivy League Graduate Chief Investment Officers - Part 1.