Wednesday, January 20, 2021Canada's Leading Online Business Magazine

Canada: leading the global pension climate


Mark Wiseman, executive Vice-President of investments at the Canadian Pension Plan Investment Board, sat down for an interview with representatives from Harvard Business School in 2009.  He told them one of his goals was to invest in new asset types including intellectual property and forestry.

The VP stayed true to his word.

On Dec. 6, 2011, the group closed its first IP deal. Valued at $125 million, the CPPIB acquired the intellectual property rights to Victrelis, a Merck Hepatitis C drug, from Dendreon Corporation.

Since 2005, it has been Wiseman’s mandate to take an active investing approach to the CPPIB’s portfolio. The fund’s assets, most recently valued at $152.3 billion, represent the contributions of 17 million members of the Canadian workforce and their employers. Wiseman was hired as the CPPIB overhauled its investment strategy and took on a value-added perspective, choosing to accept more risk through actively investing across an increasingly diversified range of asset classes.

These classes include infrastructure and real estate alongside Canadian and foreign equities, emerging market securities, bonds and money market securities and other debt.

The strategy is directed by firm adherence to a reference portfolio that dictates a percentage asset mix for the fund and establishes a benchmark rate of return that is revisited every two years. 

The reference portfolio includes 65 per cent equities (both Canadian and international) and 35 per cent debt (25 per cent Canadian nominal debt and 10 per cent Canadian real return bonds). It provides a low-cost, simplified guideline that the performance of the CPPIB can be measured against.

The initial establishment of the CPPIB in 1997 was spurred by very real concerns about the increase in members of retirement age that would come as baby boomers left the workforce. Instead of significantly increasing contributions or drastically cutting benefits the government created the CPPIB as a separate entity, not under its influence, driven by investment returns rather than politics and with a long term goal of sustaining the pensions of retirement age Canadians and those who would retire in the generations to come.

The board of directors of the CPPIB was chosen by the federal and provincial governments (except Quebec) based on financial savvy rather than political heft.

The board’s results are held accountable to assessment by Canada’s Chief Actuary but they are not subject to Freedom of Information obligations nor are executives held to the pay scale limitations normally reserved for government employees. It now has offices in Toronto, London and Hong Kong and at the end of fiscal year 2011 employed 656 staff. Many are younger or less experienced but they are taken on with a view to nurturing the next generation of CPPIB executives and decision makers.

It was also concern about an influx of baby boomer generation retirement that was a catalyst for the change in investment strategy in 2005. Until that point, the fund’s approach was largely passive, providing low-interest loans to provinces and investing in Canadian sovereign bonds.  This route was safe, but didn’t provide the returns that the fund would need to address worries about increased drawing from it in the future.

Around the same time as the board was considering strategy changes, the government eliminated its foreign property rule which restricted pensions to investing 70 per cent of their assets in the Canadian market.

As that law was cut, the door was opened for the expansion of the pension plan’s investment capabilities. In 2005, the CPPIB had $81.3 billion in total assets to take advantage of and it only needed to deliver four year annualized returns of over 4.2 per cent, as outlined by the Chief Actuary, if it wanted to maintain the minimum standard. But the minimum was not what the board was striving for.

Enter David Denison, the newly appointed CEO, and Wiseman, his choice to run the principal investments division. Together, and with the help of their private and public investment and real estate departments, they continue to maximize the contributions of the Canadian workforce using the Total Portfolio Approach with long-term returns in mind.

In the CPPIB’s own words:

“This approach focuses on the risk/return characteristics of the investments rather than traditional asset labels. By seeking diversification by risk and return streams rather than asset classes, we believe we can better manage portfolio risk and achieve potentially superior investment returns.”

Using this method the board has expanded the fund’s assets from $44.5 billion in 2000 to the current total asset valuation of $153.2 billion.

In September 2011, the OECD released a survey on investment by pension funds in infrastructure and held the Canadian Pension Plan up as an example to others around the world as one of the most active investors in the space.

The report noted that over the past decade Canadian funds have acquired the knowledge, skill and resources to take leading roles in infrastructure investment, producing their own risk assessments and developing projects without the need for external advisers.

It also suggested that Canadian pension plans are further along the learning curve, treating infrastructure as a separate asset class, hedged in line with inflation affected assets, rather than a subset of real estate investment.

The OECD also acknowledged that the CPP is well placed compared to funds in the U.K. and elsewhere due to the certainty of its asset base and the fact that there is no need to pay benefits from investment income until 2021.

The report further pointed to the plan’s ability to invest in infrastructure abroad based on fewer domestic needs and opportunities with the added benefit of diversifying the plan’s portfolio.

It goes on to recognize, however, that the demands are changing and that backlogs in development and changing demographics have resulted in a current infrastructure deficit of up to $125 billion. This is already presenting the pension plan with opportunities in its home market.

In fiscal year 2011 the CPPIB complete its largest infrastructure investment to date in the form of two concurrent deals—the acquisition of a 40 per cent stake in the 407 Express Toll Route outside of Toronto and a further toll road stake in Sydney, Australia. Together the deals amounted to $4.1 billion in investment and earned the board the title of Global Infrastructure Investor of the Year for 2010.

In addition to infrastructure the CPPIB has been taking advantage of real estate opportunities in the U.S. of late. In Q2 2010 alone, the board invested in four major office properties, two shopping centres and multi-family housing assets in a number of major urban areas.

The board has also launched a 50/50 joint venture project with Oxford Properties to build and develop the Class AAA LEED Gold standard head offices of Royal Bank of Canada on Toronto’s waterfront. The 930,000-square-foot tower further expands the CPPIB real estate portfolio and also represents the board’s commitment to environmentally sustainable projects.

CPPIB has four outlined environmental, social and governance (ESG) engagement focus areas these include investment in resource related concerns, both oil and gas and mining, climate change, management compensation and water.

Regarding climate change the board notes that the issue is one with a long time frame that represents significant economic opportunities from a risk-management standpoint in an increasingly regulatory environment.

It further outlined its perspective on climate change in a letter to the Sierra Club following its $250 million investment in the Canadian tar sands. The environmental protection group asked the CPPIB to account for “fueling catastrophic climate change”.

The board responded saying that it recognizes the rising risks associated with climate change and the potential consequences for shareholder value. It noted that the energy and utilities sectors face high regulatory costs and that it engages in discussions with its portfolio companies regarding these risks and improving policies and execution regarding ESG issues, while maximizing future pensions and complying with United Nations principles for responsible investing.

Not only is the climate change and responsible investing becoming a more significant priority for the CPPIB but we are now facing a new economic crisis.  Concerns about Europe, sovereign debt exposure, the international banking system and slowing growth in China are bringing back headlines that echo the credit crisis of 2008-09.

So where does this leave the CPPIB?

Its long term strategy has again saved the day. The CPP has no physical holdings of European sovereign bonds (though this is due to the normal rebalancing of its portfolio rather than the current crisis) and its long term investment outlook means that the board views these concerns as a short term event—of interest but not worthy of an adjustment in either its portfolio or its strategy.

This is the same with any worries about slowing growth in China. China is one of the key markets being considered by the CPPIB for future investment. The board will continue to look for long term opportunities there but is unfazed by any short term concerns in the market.

With all of the recent focus on macro, the volatility and uncertainty in the market it certainly is refreshing to hear that none of it really matters, that the retirement of 17 million Canadians is safe…in the long run.