78 Optimizing Optimization
results, we propose a loss aversion coefficient φ of 3.5. This allows a few cases
of exceeding the drawdown limit of 2.5%; however, the vast majority is just
below this limit.
3.7 Practical applications: charities and endowments
3.7.1 Introduction
Endowments present interesting challenges, both to the determination of an
appropriate investment policy and its implementation. These challenges dif-
fer from those generally encountered by private investors and pension funds
because of the unusual characteristic of the majority of endowments, which is
their perpetual constitution or effectively infinite investment horizon. The prac-
tical expression of this characteristic is the balancing of intergenerational inter-
est in the endowment, or, put another way, sustaining both annual income and
long-term real residual capital value.
In this section, we will explore these issues using the concept of the Utility
of the Endowment. This concept will be defined and developed later. We will
begin with an overview of UK endowments and those aspects of their opera-
tion that differentiate them from other investment funds. Although we will not
discuss the principles of total return investment in this section, we will assume
that income may be a combination of dividends and interest (conventional
income) and realized capital.
3.7.2 Why endowments matter
By endowment we mean the investment funds and property bequeathed to
charitable organizations that we shall call Foundations, which function in large
part or entirely on the returns generated from those assets. Such organizations
vary greatly in character and include religious orders, schools, universities and
colleges, research bodies, hospital trusts, and grant-making charities that in
turn support the work of other charities and good causes.
In the UK, charities exercise a significant influence across a wide range of
social, scientific, educational, religious, sporting, cultural, and environmen-
tal enterprises. The UK Voluntary Almanac 2009 5 identifies an annual income
of £ 33.2 billion, total assets of £ 91.3 billion, and a paid workforce of at least
634,000 under the control of General Charities. 6 Significantly, NCVO estimates
in its 2008 Almanac that two-thirds of the income is generated by just 2%
(3,200) of the total number of organizations in the universe, demonstrating the
disproportionate influence of the largest. The income attributable to General
Charities is derived from a combination of investment income, donations,
grants from government or other charities, and from fees for services provided.
5 Published by the National Council for Voluntary Organisations (NCVO).
6 General Charities as defined by NCVO do not include housing associations, independent schools,
and government-controlled charities such as NHS charities or religious organizations.