Protecting endowments in bear markets 

In a “bear market” environment (i.e., when markets are down at least 20% from recent high levels),1 market volatility and protracted declines are common. This can be unsettling for any investor, but is especially true for stewards of nonprofit endowments, which are often the critical resource supporting organizational missions.

Many decades of history illustrate that bear market periods are a natural part of the market cycle, and we should expect them to occur. The good news is that all bear markets eventually end. How we prepare for and act during these periods are typically important determinants of how well an endowment performs and recovers from such negative events.

Ways to prepare for a bear market

A well-designed and well-implemented endowment Investment Policy Statement (IPS) and Spending Policy are, in our view, the first lines of defense to protect your organization’s endowment and ability to spend from it during an inevitable bear market. We believe these are two of the most important governance policies a nonprofit can have, and they should be designed to be integrated and work together.

During challenging times, such policies can provide valuable guardrails and the discipline to keep natural emotional responses in check. Since it’s the nature of nonprofit boards and committees to have an evolving cast of members, these reference documents also provide important institutional memory for policy decisions.

Investment Policy Statement

The IPS sets forth an investment strategy designed to achieve targeted return goals within an acceptable range of potential risk outcomes that, over time, will meet the needs of the organization. The document generally details the allowable asset categories to be included and the targeted allocations for each.

In our view, there should be a balance of asset types that provide for portfolio diversification and help smooth out returns through market cycles. While stocks are often the drivers of growth, they also create volatility that can be uncomfortable at times. Bonds are able to provide steady income streams and may serve as a cushion during periods when stock prices are falling. Alternative and private investments come in a variety of strategies, and are generally less correlated with stocks and bonds (i.e., under certain market and economic conditions, their performance tends to differ from other asset types). As a result, alternative and private investments can dampen the ups and downs of the public markets.

Understanding how various allocations of these asset types have performed through cycles in the past may help guide an organization to the most appropriate mix to meet particular return goals, and prepare for what to expect in the downturns.

Recognizing that the organization will be using the endowment to support mission-related programs, we think the IPS should outline targeted levels of liquidity and the means by which to supply it. This way, programs may have the funding they need and the endowment can avoid selling investments at distressed prices, which would inhibit the ability to participate in the eventual market recovery. In our view, there should also be guidelines around a disciplined approach to rebalancing the investment allocation, so as to seek to take advantage of market peaks and valleys, providing opportunities to “buy low and sell high.” Endowments and foundations have the benefit of a perpetual time horizon, which may allow them to take on a higher level of near-term volatility to try and earn higher returns over time.

Spending Policy

The Spending Policy determines how much of the endowment will be used each year and how that is  calculated. This document aims to unite the endowment with the organizational mission and long-term strategic plan by outlining what funds will be made available and for what purposes.

There are a variety of methods to calculate a Spending Policy, although we expect good ones will balance the need to support current operations and the long-term mission generations to come, while reducing volatility of cash flows for budgeting purposes. For instance, you may wish to consider applying a lower percentage payout rate to a smoothed portfolio valuation, using a multi-period moving average. An example would be setting the spend rate at 4% of the average value over the trailing 20 quarters. This approach may help smooth out the ups and downs of the endowment value and, in turn, the amount available to spend, while allowing the portfolio an opportunity to grow in excess of the cost of living. In time, the cash being distributed from the endowment may well exceed that of a higher percent Spending Policy because of this growth in value.

However such a policy may be calculated, it’s imperative that the percentage spend rate is well supported by the investment strategy and expected rates of return over time. We believe this can help to create a sustainable method of organizational support for intergenerational equity. For endowed nonprofit organizations, this should be one of the top priorities for the board and investment committee.

There is no silver bullet to keep endowment portfolios from losing value in a bear market. We believe the best protection comes from having sound policies in place that guide a prudently managed investment portfolio and how a nonprofit may spend from it. As mentioned earlier, bear markets eventually end. How an endowment will weather the storm depends greatly on the actions taken during it. Having these two key policies in place to guide your actions may keep you on the right track and help position your portfolio well for the eventual market recovery.




James Sonneborn, CFP, CFA, MBA

James Sonneborn, CFP, CFA, MBA

Partner, Wealth Advisor

Jim has over 35 years of experience managing investment portfolios and providing financial advice to individuals, families and charitable organizations in the New York metropolitan region.

As a Wealth Advisor and Co-Chair of the Firm's Neighborhood Nonprofits Group, Jim works with a wide range of clients and has a particular specialty in philanthropic strategies. For donors, Jim works to construct strategies that align with the client's philanthropic goals. In the nonprofit sector, Jim focuses on helping organizations strengthen their financial position through endowment management and planned giving consulting. Jim currently serves on the boards of The Rippel Foundation and the Environmental Endowment of NJ.

Jim holds a BA in Business from Western Colorado University and an MBA in Finance from Drexel University, as well as the CERTIFIED FINANCIAL PLANNER, Chartered Financial Analyst and Certified Divorce Financial Analyst certifications.


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