The COVID-19 pandemic has had an unprecedented impact on all aspects of our lives—physically, mentally, and financially. The extraordinary decline in economic demand driven by the need to shelter-in-place has created levels of uncertainty not seen in over a decade. Forecasting financial and economic expectations is challenging under the most benign of circumstances. In this environment, we do not know the extent of the damage to the global economy, nor is there a consensus on what a potential recovery will look like once the rate of infections consistently declines and life begins to resume in a more normal fashion.
For nonprofits, this environment creates unique challenges, with many organizations not only contending with the health crisis but also the impact of portfolio returns on their organization’s ability to fund grants, provide scholarships, and support programs and operations essential to their constituents. At the same time, these organizations face a potential decline in philanthropic contributions as donors are affected by the economic turmoil. Even organizations with the financial wherewithal to weather this storm by tapping into long-term reserve funds or lines of credit have to weigh the impact of doing so on future sources of investment.
Higher Education: Reduced Revenue and Uncertain Fall Sessions
Colleges and universities were already grappling with decreased enrollment and declining tuition revenue, but now they face the reality of much-reduced revenue from spring and summer terms. The decision to open in the fall is still fraught with uncertainty as testing, contact tracing, and ability to isolate are being worked out. Universities have extended the commitment deadline for incoming freshmen, and accepted more applicants on the waitlist as they anticipate students may commit to multiple schools and make a final decision closer to August or September. Schools will not know their exact enrollment numbers until after the fall school year is under way. Any freshman not choosing to enroll is lost revenue for the following four to five years.
On top of that, international students, a key source of revenue for many, may have trouble even getting in to the country. They need an F-1 visa, but all routine visas issued by a U.S. embassy or consulate have been suspended due to the pandemic.
Key Issue: With revenue down and capital markets experiencing sharp near-term declines, to what extent can the endowment bridge the gap to help fund student financial assistance and provide operational support, and what impact will that have on future expected funding?
Foundations: Need Increases as Resources Dwindle
During times of economic hardship, dependence on particular foundations spikes. Demand at food banks has increased an average of 70 percent, according to Feeding America, which represents about 200 major food banks across the country. The group estimates that 40 percent of those served are new to the system. Many private and corporate foundations and giving programs are coping with how to quickly respond to those most in need in their community as the coronavirus pandemic spreads globally.
Key Issue: To what degree can organizations afford to fund the mission they were designed for while also accounting for future needs, particularly when some cannot rely on contributions?
Health Care: Despite New Demands, Revenue Losses Mount
Health care professionals are at the forefront of the pandemic, risking their lives to care for those affected. Unfortunately, hospitals and health systems are facing financial losses. Taking into account the net financial impact of COVID-19 hospitalizations, total revenue losses from canceled surgeries and other services, additional costs associated with purchasing needed personal protective equipment, and the costs of additional support some hospitals are providing, a study by the American Hospital Association estimates a total financial impact of $202.6 billion in losses for hospitals and health systems between March 1, 2020, and June 30, 2020. In March, Moody’s revised the 2020 outlook for hospitals from stable to negative. While the epidemiologic trajectory of the coronavirus remains unknown, it is reasonable to expect hospitals will face a prolonged period of operational reductions.
Key issue: How will health care providers get the support and resources they need to keep delivering essential care?
Charting a Path in an Uncertain Environment
Organizations that incorporate an enterprise risk management (ERM) framework may have prepared for a period of financial dislocation like this one by subjecting their portfolio to stress tests similar to the Global Financial Crisis, or even sharp and immediate declines in asset values like those in the first quarter of this year. These types of scenarios have become standard in testing organizational capacity for risk and illiquidity. What has generally not been contemplated is a global economic shutdown of these proportions resulting in the disruption of entire industries and a mass rise in unemployment.
The question becomes, under these circumstances, what to do right now?
Stay Disciplined: Remain true to your investment discipline and assess where you stand today relative to your long-term investment goals. While current circumstances may test investors’ risk tolerance, abiding by a sound investment policy is the best way to ensure you continue to invest soundly over the long term.
That being said, current market and economic conditions call for a review of organizational liquidity needs, taking into account spending requirements and, for those with a private investment program, potential capital calls. If operating cash flow demands are higher than usual in the near term, identifying where you can efficiently source cash for operations is the most important step to maintaining liquidity.
Reassess the Portfolio: Understanding your cash demands and liquidity needs will enable you to evaluate your rebalancing strategy. In a typical investment environment where markets are operating efficiently and liquidity is abundant, you should review where your portfolio may be out of range relative to policy targets and implement a strategy to harvest gains from overweight assets and re-invest proceeds into underweight assets. The current market environment is not so straightforward: volatility has spiked, markets are less efficient, and transaction costs are elevated. Combined with the potential need for short-term liquidity, rebalancing all the way back to targets is not a foregone conclusion. For further discussion on this topic, we suggest referring to Callan’s blog post, Rebalancing in a Volatile Market Environment.
Identify New Opportunities: For those investors with the ability to take on risk in their portfolio and become liquidity providers to the market, there are opportunities to take advantage of the asset dislocation. The simplest way to do so is through disciplined rebalancing, but investors should also assess options to introduce new assets into the portfolio at discounted prices with the potential for higher expected returns over the next several years.
For example, Callan sees interesting opportunities in distressed and dislocation strategies mainly focused in private credit, but also in private equity, opportunistic lending, TALF 2.0, and a number of multi-strategy funds that invest across sectors. Identifying and investing in experienced managers raising private funds today may enable investors to benefit from solid returns over the next several years, assuming the ability to lock up capital for a period of time.
For investors with a private markets program in place, the most efficient way to take advantage of these opportunities may be to partner with current managers that have already been vetted through a due diligence process and are raising funds in the market. Investors with the capacity to conduct due diligence quickly may consider expanding their search to include new managers raising funds in specific areas of the market. Whichever way you choose to implement, it is important to consider the impact of illiquidity on the portfolio before committing long-term capital.
Prepare for the Next Crisis: Moving forward, there will be an opportunity to re-assess portfolios by performing thorough scenario analysis and stress testing so that you can re-affirm or modify your long-term investment strategy. In the meantime, following a process of assessment, rebalancing, and identifying opportunities will allow you to come out of the crisis with a portfolio that reflects your investment philosophy and can support your long-term financial goals as well as your short-term financial needs.
