About the HMC: Separately Incorporated, Not-For-Profit entity owned by Harvard University.

. Total Asset of around $19 Billion, with $15.1 Billion coming from Endowment fund. Harvard University managed their portfolio themselves through HMC. With 180 employs, 68% fund managed internally.

 Over the last 10 years the HMC managed to give 11.3% real rate of return compared to 2.2% by U.S treasury and 5.2% by U.S treasury bonds. Jack Meyer, President & CEO of HMC wanted to bring major changes in the Harvard Policy Portfolio. Introduction of TIPS in the portfolio, which would represent 7% of total portfolio.

 Portfolio Policy: Long run allocation of funds to different asset classes. Bench mark to gauge the performance of HMC. 11 asset classes for investment.

Type of Asset Domestic Equity

Policy 32

Foreign Equity
Emerging Markets Private Equity

15
9 15

Absolute Return
High Yield Commodities Real Estate Domestic Bonds Foreign Bonds Cash

4
2 5 7 11 5 -5

 Characteristic considered for asset to be included in the portfolio. 1. Expected future real returns. 2. Volatility of real returns. 3. Correlation of real return on each asset class.

 Use of Mean-Variance Analysis. It determines the optimal allocation to different asset classes that minimizes portfolio return variance given the expected portfolio return. Output is the Efficient Frontier. The HMC use this Efficiency Frontier to chose the asset for investment.

The Policy Portfolio changed in response to.. 1. Changes in goal or risk tolerance. 2. Changes in capital market assumptions. 3. Introduction of a new asset class. Inflation Protected Bonds. Protection against inflation. TIPS structure requires the principle and coupon of the bond to change based on monthly CPI index.

How TIPS works? Suppose TIPS 10 yr note of Par value: $1000 Coupon rate of 3.5% semiannual. CPI @ 100. At the end of 6 months, CPI @ 101.49 (3% Annual Inflation rate) Inflation adjusted priciple:101.49/100*1000 =1014.90

Semiannual Int. payment= 1014.90*3.5%/2= 17.77 The Asset Allocation recommendation: Jack Meyer and HMC wanted to introduce TIPS in their portfolio. TIPS was relatively new in the market so evaluate the long term performance.

Type of Asset Domestic Equity Foreign Equity

Old Policy Portfolio 32 15

New Policy Portfolio 22 15

Emerging Markets
Private Equity Absolute Return High Yield Commodities Real Estate Domestic Bonds Foreign Bonds Inflation-Indexed Cash

9
15 4 2 5 7 11 5 0 -5

9
15 5 3 6 7 7 4 7 0

 Question: Was this right the time to move away from U.S equities to explore such unfamiliar territory?