How Do Rolling Average and Simple Market Value Spending Policies Compare?
Direct Answer
Simple market value spending policies apply the spending rate directly to current market value, creating fully market-responsive distributions with significant year-to-year volatility. Rolling average policies apply the rate to a trailing average of market values (typically 12 quarters per NACUBO standards), smoothing the year-to-year fluctuations at the cost of introducing a lag in recognizing sustained market moves. Research from Commonfund shows that rolling average rules reduce spending volatility substantially compared to simple market value rules, while hybrid policies — which blend a CPI-linked baseline with a market value component — can further reduce the frequency of spending cuts during market downturns. Despite these analytical findings, most foundations have adopted rolling average policies without quantitatively evaluating the alternatives.
The Four Main Spending Policies
Simple Market Value
Spending = Rate × Current Market Value. The most direct link between portfolio performance and annual distributions. Spending rises and falls in lockstep with the portfolio — fully responsive but maximally volatile.
Rolling Average
Spending = Rate × Average(MV over trailing 12 quarters). The dominant policy among NACUBO-reporting endowments. Smooths short-term market noise but introduces a recognition lag of 2-3 years for sustained market moves. Reduces spending volatility by approximately 40-60% versus simple market value.
Hybrid (CPI + Market Value)
Spending = w × (Prior Spend × (1+CPI)) + (1-w) × (Rate × Current MV). Blends an inflation-protected baseline with market responsiveness. Weighting (commonly 70/30 or 80/20) determines where the policy falls on the stability-vs-responsiveness spectrum. Further reduces spending cuts during downturns versus rolling average.
Banded Inflation
Spending = Prior Spend × (1+CPI), but constrained within floor and ceiling bands (e.g., not below 3.5% nor above 6.5% of current market value). Provides a stable CPI-linked growth path with guardrails that prevent spending from drifting too far from portfolio value.
Side-by-Side Comparison
| Dimension | Simple Market Value | Rolling Average | Hybrid | Banded Inflation |
|---|---|---|---|---|
| Spending Volatility | Very High | Moderate | Low-Moderate | Low |
| Negative Spend Years | Frequent in downturns | Infrequent | Rare | Very Rare |
| Mission Consistency | Low — grants fluctuate with markets | Moderate — lag buffers short-term moves | High — CPI anchor maintains baseline | Highest — CPI growth + guardrails |
| Endowment Preservation | Strong — spending falls with markets | Moderate — lag delays necessary cuts | Moderate-Strong — depends on weighting | Moderate — floors limit downside adjustment |
| IRS §4942 Compliance Complexity | High — spending and requirement fall together | Moderate — smoothing provides buffer during declines | Moderate — CPI floor helps in downturns | Low — floors constrain downside most |
| NACUBO Prevalence | Rare among endowments | Dominant (>60% of endowments) | Growing adoption | Limited adoption |
What the Research Shows
Commonfund and NACUBO research has produced several consistent findings about spending policy behavior across market cycles:
Rolling average rules reduce annual spending volatility by approximately 40-60% compared to simple market value rules under typical endowment portfolio assumptions.
The smoothing benefit of rolling average rules comes at the cost of a 2-3 year recognition lag — spending can remain elevated for years after a market decline begins, accelerating portfolio depletion.
Hybrid rules with a 70/30 CPI-to-market-value weighting further reduce spending cuts during bear markets versus rolling average rules, because the CPI-linked inflation component provides a more stable baseline.
Most endowments that use rolling average rules have not analytically compared their policy against alternatives using Monte Carlo simulation — they adopted the NACUBO convention based on peer practice rather than quantitative optimization for their specific portfolio and mission.
Most Foundations Default to Rolling Average Without Analysis
Despite the availability of alternative approaches, the majority of endowments and foundations have adopted rolling average spending rules based on peer convention rather than analytical evaluation. Monte Carlo simulation makes it practical to quantitatively compare spending policies using the institution's own portfolio, capital market assumptions, and mission constraints — rather than relying on what peers do.
Compare Spending Policies in EndowCast
EndowCast simulates and compares all four major spending policies side by side using the same portfolio, market assumptions, and 1,000,000-path Monte Carlo engine. Investment committees can review spending volatility, terminal value, negative spend years, and IRS compliance outcomes for each policy in a single report.