Building a successful global venture capital portfolio is no easy task. As CIO of the University of Michigan endowment, Erik Lundberg has found a winning formula that includes investing in Michigan’s hometown of Ann Arbor. Lundberg, 55, who has long favored alternative investments, oversees a complex portfolio in which venture capital, private equity, hedge funds, natural resources and real estate make up 60 percent of the fund.
The discovery of oil in Lundberg’s native Norway in the late 1960s created great wealth that enabled him and others of his generation to attend college in the U.S., where he earned a bachelor’s degree in business administration from the University of Wisconsin and an MBA in international business and finance from Ohio State University. Having settled in the Midwest, he started his career in corporate finance at telecommunications company Wisconsin Bell before becoming an international equity analyst in the pension department at the Chicago headquarters of parent Ameritech Corp. When Michigan’s regents recruited him to start an investment office in 1999, he was an investment strategist leading Ameritech’s asset allocation and managing its U.S. and international equity program.
Lundberg has helped Michigan’s endowment fund earn an annualized 10 percent return for the decade ended June 30, 2014. Now approaching $10 billion in assets, the fund took ninth place in the 2014 NACUBO-Commonfund Study of Endowments; when he arrived it managed $2.5 billion and ranked 17th. Senior Writer Frances Denmark recently caught up with the Big Ten CIO to get his latest thoughts on emerging markets, venture capital and building an investment team.
What does Michigan’s emerging-markets equity portfolio look like, and what is attractive now?
We have investments in emerging-markets equity in pretty much all asset classes. We also think of venture and private equity as equity. About half of private equity is not U.S. Even in venture capital, about a third is outside the U.S. We try to globalize wherever we can. You can go to places and be bold, like to Brazil or Russia or other emerging markets that seem very troubled but may be very good investments over time. How do you buy some of these countries that look terrible? If you go back five or six years, India looked like a terrible place to invest, but people who invested there got hugely rewarded over that period.
It takes a lot of time, and some of these places are really far away. One of the things we tried to do is learn about Africa. I think Africa has great promise. It’s a great unknown. It looks a little small on the map because everything else is scaled out of proportion, but it’s very large. Investment firms are located all over, and we couldn’t figure it out. For years we thought about going to Africa, but because it’s so far away we didn’t pay much attention. Over time we’ve learned that the best way to pay attention is to make an investment. You can’t just read about it; you have some money there, and you’re really focused.
So we found a way through a fund of funds that was going to invest on our behalf and be our eyes and ears. That’s worked pretty well, and we’ve gotten much smarter. So where we can’t go ourselves, we try to work with our managers a little more.
Michigan has been very successful in its venture capital investments, which are now 13 percent of the total portfolio. What’s your secret?
We started very early, in the 1990s, and were fortunate to get great help from a member of the investment advisory committee to get into the best funds when venture capital was still more like a cottage industry. The reality is only a handful of managers actually create most of the value in venture capital. If you’re not in the funds that end up in the top quartile, you make no money; it’s that dramatic. It’s not as important for a stock or bond manager to be top quartile, as they will still get some kind of return.
I’m not advocating going out and putting a lot of money into venture capital, but it’s a great place for value to be created. One of the reasons our allocation is so large is that it has grown as companies stay private longer. They do well, but they stay private, and they grow fairly rapidly. Companies that used to go public at $100 million or $200 million ten to 15 years ago are now waiting until they’re valued at $40 billion or maybe even $100 billion — who knows? Those returns used to accrue to public markets investors and now accrue to those who invest in venture capital.
Where do you find venture capital investments?
Start-ups are really spread out. They can be anywhere. New York is a hot place for venture investing, and even Michigan. We went to China about ten years ago. About a third of our venture portfolio is in China now; that took a little courage to get comfortable with. We went over there and met with a lot of people and found people we trusted. We also worked with our managers to figure out others. We took the view that this isn’t all going to work out, but it’s going to be good enough that we’re going to be very happy. And that’s how it turned out. You’ve got to be early because these strategies can be cash-constrained. By the time you realize who the good managers are, they’re not going to be able to take on new investors.
Michigan’s public universities have a reputation for robust technology transfer programs. Have you taken advantage of them in the investment office?
We have great innovation at the university; engineering, medical — all kinds of great ideas are created here. Lots of people wanted us to invest in these initiatives, but as an endowment we could not just do that to support local companies. That’s not what we use the endowment for. It is invested for returns.
We were fortunate enough some years ago to come across a database that tracked everything that had come out of the university in terms of new technologies that were commercialized. It turns out it’s actually a very good record. We looked at the data and found a way that would yield more than acceptable returns — venture returns of around 3.5 times. So we developed a program to invest in UM-based start-ups out of the endowment, with some big caveats: We’re not technology experts, so we don’t know how to value new technologies, and we don’t know which technology is going to succeed. We need a credible venture capital firm to come in and invest in these companies, and then we invest as a limited partner alongside the VC firm. Two and a half years into the program, we’ve made about 11 investments.
How do you attract and retain talent, and how do you structure your team?
That’s always been a challenge. I think everybody should be a generalist. That’s probably my own bias because I’m a generalist. But when you run an asset class, it’s hard to be a generalist and also know everything you need to know to be the best you can be in the asset class.
So what we’ve tried to do is create generalists very early on. We hire people at an entry level, and we have a rotational program for the analysts where they work in different asset classes every year. Over several years they develop a great base of knowledge that they can build on. Eventually, they’re going to discover which area they are attracted to. I think people who work in areas they like will do a better job.
Later they have that big foundation to draw from when we talk about other asset classes. I think we make better decisions as a team when everybody weighs in rather than making decisions in silos. It seems to be the natural tendency of how we are as people and how the industry is organized that we eventually end up in silos. So we try to build a broad base so we all have something we can relate to in other areas.
Visit Frances Denmark’s blog and follow her on Twitter at @francesdenmark.
