(FORTUNE Magazine) – ONCE UPON A TIME, late in the dizzy bull-market party of the Roaring Twenties, the chairman of Princeton University's investment committee, a banker named Dean Mathey, decided that the level of stock market prices was unsustainable. He quietly moved the university's endowment out of stocks and into bonds. For one full year his decision proved dead wrong. The market waltzed to new highs. Then the Crash hit, and the Depression. Mathey's switch to bonds, a shrewd deflation hedge, was vindicated. Fourteen years after the Crash, with the stock market languishing midway in World War II, Mathey acted again, selling 80% of the university's bonds and replacing them with common stocks. The chairman of the trustees' finance committee denounced Mathey as reckless and irresponsible, pointing out that the great lesson of the Depression was that bonds were the only prudent and conservative investment for a college endowment fund. Forced to defend what would again prove to be an exquisitely timed maneuver, Mathey wrote in reply: ''The only true test of conservatism is to be right in the future.''

One happy consequence of the bull market of the past five years is that the vast majority of colleges and universities have been ''right in the future.'' Heavily invested in equities, endowments achieved a median return of 16.6% a year for the five years through June 1986, the most recent year that the National Association of College and University Business Officers (Nacubo) has data for. That fell short of the 19.1% annual rate for Standard & Poor's 500- stock index over the same period, but it came respectably close to the 17.9% median return for institutional investors and professional investment advisers reported by SEI Corp. of Wayne, Pennsylvania. The leader among a 25- college group tracked by Cambridge Associates, an educational consulting firm: Amherst, with a 23% return on average for the past five years. At the end of fiscal 1986 seven universities could point to endowments totaling over $1 billion. The list was headed by that granddaddy of the Ivies, Harvard, with $3.4 billion. Following, in order, were the University of Texas system, Princeton, Yale, Stanford, Columbia, and the Texas A&M system. By now Harvard has passed the $4-billion mark, and several other well-known colleges have probably joined the billionaires list. Not bad for pools of capital that had their modest origins in land grants or, as in Yale's case, a box of books, a portrait of George I, and a 1718 shipment of goods from the East Indies. Unhappily for these otherwise fortunate few institutions, faculty, administrators, and parents alike have already put the squeeze on their seemingly lavish financial resources. Besieged by rising costs for salaries and research, loss of federal support, exorbitant tuitions, and a continual need for expensive capital improvements, universities must scramble for ever better returns. While the top schools informally compete to achieve the best performance, the true race is against time and inflation. IN THIS ARTICLE FORTUNE reports how some of the country's brightest investment professionals go about managing money for some of the country's best colleges, how well they have succeeded, and what lessons they have learned. Both individual investors and trustees of other endowed institutions can profit from their experience, and from examining how they balance the pressing need for income today against the responsibility to husband precious capital for the future. FORTUNE deciphered performance data, reported here for the first time, from coded information in last year's Nacubo endowment study. Historically, the universities with the most money have led the way in developing methods of portfolio management, in many cases getting into new investment vehicles before other money managers did. Stanford made its first venture capital investments 20 years ago and became a pioneer in high tech. In the late 1970s Harvard took up security lending -- loaning securities to brokers who need to cover short sales -- and a riskless form of arbitrage. Yale discovered foreign equities early and, 13 years ago, got into LBOs. Says Rodney H. Adams, treasurer of Stanford and dean of the field: ''University endowments, as an investing entity, are at the cutting edge of how one might manage one's money.'' Even so, there have been more than a few semesters when endowments flunked the course. In the 25 years following Princeton's prescient move back into equities, colleges shook off the memory of the Depression and graduated to a strategy that balanced their money cautiously between stocks and bonds. That approach persisted until 1966, when McGeorge Bundy, from his pulpit as president of the Ford Foundation, began to urge a more aggressive investment method for college endowments that focused on total return, defined as the change in market value plus dividends and interest. His recommendations -- that endowments take on a heavier equity weighting, emphasize growth stocks over blue chips, and spend principal, if necessary -- proved ill-timed. No sooner had colleges loaded up on stocks than the Dow Jones industrial average crashed from 985 in 1968 to 631 in 1970. Endowment administrators would prefer to forget some other trying times: 1973 and 1974, when stocks dropped again, and the late 1970s and early 1980s, when few endowments kept pace with double-digit inflation and many had to dip deep into principal. Despite these setbacks, the equity-biased total return orientation won out. Norman N. Mintz, a former economics professor who is executive vice president for academic affairs at Columbia, states the prevailing wisdom: ''The historical data suggest that equities outperform fixed-income securities over the long term, but equities do that only because there are those moments when equities go through the roof. You may have to sit for long periods of time waiting for that to happen.'' Such a Rip van Winkle approach is entirely appropriate for endowments, which have the longest time-horizon of all pools of capital. Unlike pension funds, which have claimants who ultimately must be paid their benefits, endowment funds have no end point at which they must pay out principal. Says Mintz: ''The endowment of an institution like this should grow continuously and forever.'' To carry out their responsibility for overseeing the endowment, the trustees of a college have two key decisions to make: how to allocate the assets among the available investments and what portion of the total return to spend. The first decision hinges on the types of return desired and the trustees' comfort with risk. The trick with the second is to balance the institution's near-term and long-term needs. Ideally the trustees aim to earn at least 11% a year long term, paying out 6% to help fund operations and reinvesting the remaining 5% to ensure that the endowment grows faster than inflation. Income from the endowment usually covers anywhere from 5% to 20% of a university's operating expenses. Naturally, everyone wants more. ''Colleges just eat up money,'' says Theodore L. Cross, a New York publisher, editor, and money manager who chairs the investment committee at Amherst. Some 80% of a college's costs are labor related (primarily faculty salaries), and colleges are handcuffed when it comes to improving productivity. Fire faculty and you lower the student-to- faculty ratio, a closely watched measure of the quality of education. Nor can you cut faculty salaries, already embarrassingly low. As Mintz of Columbia ruefully observes, ''We are trying to attract the best minds in the country, and we are paying them peanuts.'' For trustees, investing assets often means walking the social responsibility tightrope. Should the college own stocks of companies with operations in South Africa? Some 20% of the S&P 500 companies do some form of business in South Africa, and trustees worry that excluding those stocks from a portfolio will hurt returns. Campus protests are losing some of their punch as more and more colleges divest and a rising number of U.S. companies leave South Africa. Once the trustees have set endowment policy, the job of carrying it out falls to the investment manager or the treasurer. He either runs the endowment through an internal staff or distributes it among a group of external managers -- banks or, more commonly, private money managers. University investment managers form a loose clique in the endowment world, and frequently share investment opportunities. For example, last spring Yale, Duke, Wellesley, and the University of North Carolina teamed up with Harvard in a gas-drilling partnership in the Gulf of Mexico. (The first two drilling attempts came up dry.)

A favorite device for collaborative efforts is the Common Fund in Fairfield, Connecticut, formed in 1971 with a Ford Foundation grant. The fund gives colleges and schools of all sizes the chance to invest collectively with top money managers they otherwise could not afford, such as Fidelity Management and Capital Guardian Trust. The $2.5-billion fund's results are remarkable. For the ten years ended last June, Common Fund stocks grew an average of 20% a year (vs. 17.1% for the S&P 500) and bonds 10.7% (vs. 10.1% for the Salomon high-grade bond index). Few institutions can point to better returns. Amherst, with a $314-million endowment supervised by trustee Cross, has achieved its remarkable results largely because of its principal money manager, Grantham Mayo Van Otterloo of Boston. The firm takes a traditional value-oriented approach, hunting for stocks with low ratios of price to earnings and price to book value. Some of the billionaires also deserve honorary degrees in finance. Over the ten years ended in June 1986, Princeton led the seven with a 16.5% average annual gross total return (S&P 500: 14.5%). Yale, second at 14.8% for the decade, nonetheless outperformed Princeton over the past three years, 19.7% to 17.7%. No. 3 for the ten-year period is Stanford, with 14%. With a ten-year return of 13.7%, Columbia nosed out Harvard for fourth place. Until 1985 Columbia had half its money tied up in the land under Rockefeller Center. The university sold the property to the Rockefeller Group for $400 million, the highest price ever paid for a piece of land. Harvard, despite its reputation for nearly mythical investment prowess, has performed right around the average of the 88 universities that have investment pools of $100 million or more: 13.2% for the ten-year period. By state law, the endowments of the University of Texas and Texas A&M are lumped together in a single fund, and both depend heavily on the state's oil and gas resources. They have been hurt badly by the slump in energy prices. Nonetheless, their combined endowment returned an average of 16.4% annually over the past three years; comparable ten-year returns are not available. Another sad story in the endowment world is New York University, the largest U.S. private university, with 45,975 students. The trustees, led by CBS chief Laurence Tisch, put the endowment into domestic bonds in 1981 and sat out the greatest stock market rally of the century (see box). EACH OF THE BILLIONAIRE universities takes a different approach to running its money. A few, like Harvard, keep all or a portion of the endowment fund in their own custody; others, like Princeton, farm it all out. Money manager John C. Beck of the New York firm of Beck Mack & Oliver chairs Princeton's investment board. A big, rough-hewn man, he has an MBA from Harvard and a passion for racket sports. Although he describes himself as a value investor, Beck looks for outside managers who represent a variety of strategies. ''Theories don't make money,'' he says. ''People make money.'' Princeton credits its success to astute selection of outside money managers -- 11 of them -- and an aggressive policy of putting around 80% of the endowment in equities. Not all the equity investments have been simple stock picks. In 1961 the Princeton endowment lent Ray Kroc $1 million to buy his first hamburger stands from the McDonald brothers. The loan included an equity ''kicker'' based on gross receipts. For ten years, every time McDonald's sold a hamburger Princeton got a fraction of a penny. The kicker delivered a field goal, adding $5.4 million to the endowment. Yale's aggressive equity orientation matches Princeton's, but in New Haven the investment staff manages the bonds in-house -- and with considerable success. Last year Yale's bond portfolio returned 5%, beating the Shearson Lehman government-grade bond index by nearly a percentage point. Investment manager David F. Swensen, who has a Ph.D. in economics, favors a quantitative approach: To help make asset allocation decisions, he uses a capital asset pricing model, a sophisticated formula that shows him how juggling the percentages allocated to five different kinds of investments affects expected long-term risk and return. Stanford relies on outside money managers to run the endowment day to day, but it handles in-house about $600 million in nonendowment operating funds that are invested primarily in short-term instruments. Rod Adams, treasurer and chief investment officer, has a 25-member staff, a number of them self- taught. They include traders, real estate professionals, and one administrator and assistant devoted to managing the university's $50 million of oil, gas, and gold and silver mineral rights in 19 states. Says Adams: ''We probably do more strategic planning, long-range forecasting, and capital facility budgeting than any other institution of higher education in the world.'' He has made some smart diversifying moves -- for example into foreign bonds in January 1985, about a month before the dollar peaked against foreign currencies. Foreign interest rates and the dollar both fell, pushing up bond prices and handing back a total return to date of 120% -- staggering for bonds. Unlike the other billionaires, Harvard runs over 85% of its endowment internally, and finds it cheaper that way. The university spends 0.2% a year on management, vs. a median of twice that for its peers. The president of the Harvard Management Co., the subsidiary of the Harvard Corporation that runs the endowment, is Walter M. Cabot, a scion of the old Boston merchant family. Cabot, a Harvard B.A. and MBA, is a blunt, saturnine man who drawls his a's in the Kennedy fashion and twists a strand of graying hair around his finger as he talks. He presides over a staff of 115 that occupies three floors at 70 Federal Street in Boston's financial district. The Harvard Management Co., one of the most sophisticated in the business, engages in everything from processing and monitoring gifts to arbitrage and direct placement investments of venture capital. Cabot takes an entrepreneurial approach. ''If you've got to find ten different ways to skin a cat, you do it,'' he says. ''Because if you don't, you are going to be left behind.'' Yet Harvard's endowment growth has not kept up with its Ivy League rivals'. The disparity results partly from an equity allocation less aggressive than Princeton's or Yale's, and partly perhaps from the endowment's cumbersome size. To compound Harvard's problems, the equity side of the portfolio was whipsawed in the early 1980s and then further hurt by the collapse of oil stocks. Columbia may have better luck at investing than it does at football, but last year was a year of rebuilding in both fields. Norman Mintz took over the investment team a year after the Rockefeller Center deal, when the university found itself with $400 million to invest and nowhere to put it. He hired Cambridge Associates to help him pick outside money managers. He has divided a $300-million equity core between a value-style manager and one who takes a quantitative approach, using computer programs to help make investment decisions. Another $100 million is in S&P futures, indexed to track the S&P 500. Columbia also puts money into Kohlberg Kravis Roberts leveraged buyouts, most recently Beatrice. Small wonder: Until September Jerome Kohlberg Jr., LL.B. '50, a former partner in KKR, headed the investment committee. Michael E. Patrick, executive vice chancellor for asset management at the Austin campus of the University of Texas system, oversees the combined UT- Texas A&M Permanent University Fund. Its chief asset is 2.1 million acres of West Texas land that provides oil, gas, and water royalties, grazing fees, and so-called surface income from vineyards and leases for pipelines, power lines, and hunting. Last year the fund's receipts amounted to a record $289 million, surpassing the $263-million high in 1981 when oil prices hit their peak. Forbidden by law to invest fund income in real estate, UT sticks to domestic stocks and bonds. Patrick, too, has distributed a growing portion of the endowment to outside money managers. COLLEGES LOOK TO outside managers for expertise -- say in foreign equities -- that they can't develop in-house, and for diversification. The universities with the best investment records have been those that avoid subscribing to a single theory of investing -- for example, growth or value -- and instead seek out experience and good judgment wherever they can find it. Much of the move toward diversification reflects the difficulty of trying to pick the market's major turning points. Says Mintz of Columbia: ''I know of very few great market timers. You always hear about the guy who got out in September of 1929, but there weren't a lot of them.''

Diversity not only improves protection against market fluctuations, but also in many cases provides a shot at higher returns. Harvard's arbitrage group, which can make millions on a single transaction, looks for annual returns of 15% to 30%. Yale's leveraged buyout investments averaged an eye-popping 46.3% a year over the past 13 years. Its venture capital operations returned 33.2% annually from 1977 through 1986. George F. Keane, president of the Common Fund, strongly advocates diversification into real estate for its better-than-bond returns and as an inflation hedge. He hopes to put together $1 billion over the next two years to launch a Common Fund REIT. Some universities already get gorgeous returns from real estate. Yale bought half the Corning Glass building on Manhattan's Fifth Avenue in 1978 for $15 million; today the investment is valued at over $100 million. Stanford spent $6 million to build a shopping center on the edge of its campus in 1953, and has sunk $30 million more into it. The center wins design awards, brings in sales of $300 per square foot, and returns Stanford 22.3% a year on its investment. It has a book value, minus the land, of $74 million. Seven years ago Harvard leaped at the chance to buy two Washington, D.C., office buildings for $35 million; they have quadrupled in value. Real estate is only one way to diversify. By tinkering with its state-of- the-art asset allocation model, Yale will be shifting more into foreign equities and venture capital as well. Among its many special-situation investments, Stanford is backing Steve Jobs in Next Inc., the Apple founder's attempt to develop a computer workstation for the higher education market. Princeton capitalized on the insurance background of one trustee to help launch a small reinsurance company called Tiger Partners. A few universities have tried to circumvent the markets in favor of unorthodox investments. Wesleyan acquired American Education Publications -- best known for My Weekly Reader -- for $8 million in 1949; it held on to the cash cow for 16 years before selling it to Xerox for $64 million in stock. Grinnell, a small college in Iowa, snagged legendary investor Warren E. & Buffett as a trustee. In 1976, at Buffett's suggestion, the trustees bought a Dayton TV station for $12.9 million. Three years later they sold it for $50 million. Financier Theodore Cross hoped to duplicate Buffett's feat when he recommended that Amherst buy two TV stations for its endowment three years ago. The trustees balked, concluding that station ownership was too risky and might be construed by the faculty as a less than benign activity. ''If we had made those deals the endowment would be double what it is today,'' says Cross. ''My theory is that it is going to be increasingly difficult to make the endowment grow in conventional ways. So I would support an effort to be bolder, to make an acquisition if it can be sold to the faculty and trustees.'' Cross will not be alone exploring special-situation investments and acquisitions. Among the billionaires, Princeton has hush-hush plans to buy depressed Iowa farmland. Harvard has high hopes for its new offshore drilling partnership and a once-troubled oil service company that Cabot and his staff have helped to resuscitate. The challenge, of course, will be to manage the risks in these speculative ventures. Says Cabot of Harvard's $4-billion endowment: ''We can't take this thing to the race track.'' But he feels that even under ''an overall conservative umbrella'' he will find attractive investment opportunities. Endowment managers as a class work under conservative umbrellas. A few of those interviewed for this article have used options as part of a hedging strategy, but never to speculate. And junk bonds, while not unheard of in endowment portfolios, remain a rarity. WHAT IS THE BEST investment strategy for building a billion-dollar endowment? John Beck of Princeton favors the individualistic approach. Says he: ''The secret is for institutions to have the guts, courage, wisdom, and luck to find a Dean Mathey or a Ted Cross, then to have people on the investment committee who are wise enough to understand these men and to judge them -- and to cut them off at the knees and roll them into the closet if they mess up.'' George Keane of the Common Fund sees it differently. ''The success of endowment investing,'' he says, ''depends very substantially on having a good investment committee on the board of trustees. Nevertheless, I feel trustees need to rely predominantly on professional investment management and not try to invest the money themselves.'' With Harvard's method in mind, he adds, ''We , wouldn't think of having a single manager for a billion dollars.'' When hiring outside managers, Ted Cross recalls, ''Our requirements were that the people we picked should be sharp, bright, fiercely competitive, with what is called a strong need for achievement.'' Rod Adams prefers small money management firms where the partners have a stake in the business. Trustees face the same plight as the boy in the D. H. Lawrence story ''The Rocking Horse Winner,'' who hears his house whisper, ''There must be more money! Oh-h-h; there must be more money.'' If investment committees can ignore the whispers from faculty and administrators and keep their focus long term, the odds improve that their irreplaceable endowments will win the race against inflation and survive into perpetuity. Joseph Rosenfield, a Grinnell trustee, cites a favorite example of a long-term investment that paid off. Twenty-two years ago, on reading that Warren Buffett was about to buy a run-down textile company called Berkshire Hathaway, Rosenfield bought 300 shares at $15 for the Grinnell endowment. ''I saw recently that Berkshire Hathaway shares are selling for around $4,000,'' says Rosenfield. ''If they get to $5,000 a share I might let the college sell one share -- but only to cover that initial investment. Then we would own the 299 other shares for free.'' Autumn has wrapped itself like a scarf around the campuses. At Yale, Swensen's investment staff quits early one afternoon to challenge the economics department to a game of softball. On the opposite coast Rod Adams at Stanford throws an impromptu ice cream sundae party to celebrate a birthday. The compensation may not compare, but the quality of life for these campus investment staffs is decidedly better than they would find on Wall Street -- which is not to suggest that they approach their work any less seriously. On the contrary, many speak of feeling like principals, as though the money they manage were actually their own. And they sport a bright streak of idealism. Says Ted Cross: ''Managing a fund of money for a nonprofit purpose is different from making money for your own account or for your children's account. To make money to fund education -- why, that is terribly exciting. After all, what could be more important?''

CHART: NOT AVAILABLE CREDIT: HAYES COHEN SOURCE: 1986 NACUBO ENDOWMENT STUDY HAYES COHEN CAPTION:The Big Seven: Going for the Longest Gains In return on investment for the three years ended in June 1986, Yale -- at nearly 20% -- outscored all others that have endowments over $1 billion. DESCRIPTION: Some college endowments and annual returns.