Investment Return and Market Commentary
The PUF posted a net investment return of 14.7% for the year ended August 31, 2004. All asset categories of the PUF posted positive returns for the year, with the commodity (+24.2%), absolute return (+13.0%), and U.S. (+13.7%) and global (+19.5%) equity asset categories leading the strong relative and absolute returns across the overall portfolio.
Fiscal year 2004 could be well titled "Great Expectations." As September 2003 began, the world was still honeymooning over the economic relief provided by a liberated Iraq, an accommodating world banking system, and an only mildly challenging hurdle of earnings expectations based on depressed prior year results. Whether at home or abroad, such macroeconomic expectations proved uplifting to stocks of all kinds for the first half of the year with domestic and international stock indices rising impressively. April 2004, however, heralded a new environment, as strong U.S. payroll gains triggered concerns that the Federal Reserve would soon reverse their policy accommodation of low 1.0% interest rates. This caused a dramatic upward move in U.S. interest rate expectations and rates. These events caused several beneficiaries of the prior "easy money" policy - namely emerging markets, small cap global equities and REITs (Real Estate Investment Trusts) - to suffer considerable near term performance setbacks. Additionally, the surge of "hot" or short term money from speculative institutional and retail investors exacerbated this poor performance as those investors exited these assets "en masse" in April and May. During this period, the Russell 2000 equity index, the Morgan Stanley REIT index, and the MSCI Emerging Markets equity index all fell significantly.
In sum, the "great expectations" that began the year, closed on a less sanguine note, with concerns about the state of worldwide growth, rising inflation, interest rates, sky rocketing oil prices, and the uncertainty of the upcoming U.S. presidential election. While the S&P 500, Russell 2000, Developed International and Emerging Markets equity indices all closed with double digit gains, they were well off of their highs for the year and momentum remained to the downside as the year drew to a close.
Just as in fiscal year 2003, the disparate investment environments proved challenging from an investment management perspective. However, by maintaining a diversified asset exposure - including a meaningful allocation to REITs, commodity futures and hedge funds - along with strategic and timely rebalancing out of winning asset classes during the year, the PUF was able to effectively capitalize on the investment landscape of the fiscal year period.
For the year, UTIMCO's marketable endowment assets enjoyed a return of 15.0% - strongly ahead of the benchmark result of 12.4% - resulting in a net value-added to the PUF of more than $147.5 million. Non-marketable assets also posted a double digit return of 13.0% during the year, but trailed their benchmark of 17.6%.
Figure E reports the PUF's investment results by asset class compared to each individual benchmark for the year ended August 31, 2004.