Thursday, February 11, 2010

CPPIB Catches Tail End of Monster Beta Wave

Boyd Erman reports that the CPP Fund posts 1.8 per cent return:

The Canada Pension Plan Fund posted a 1.8-per-cent return in the final three months of 2009, thanks mostly to rising stocks.

The gain boosted the fund's total assets to $123.9-billion, continuing its comeback from its recent low-water mark of $105.5-billion on March 31. Still, the rebound was at a much slower pace than in the preceding two quarters as equity market gains slowed and other assets, such as Canadian bonds, posted negative returns.

The CPP Investment Board generated $2.2-billion in investment income in the quarter, the board said in a release. The quarterly performance brings the fund's rate of return for the first nine months of its fiscal year to 14 per cent, which translates to $15.2-billion in investment income over that period.

The quarter posted “hardly the buoyant double-digit market returns we had seen in the previous two quarters but nicely positive over all,” said David Denison, CPPIB's chief executive officer, who suggested that similar returns in coming quarters would be a win.

“A couple of per cent a quarter on a sustainable basis is a good outcome going ahead,” he said.

Mr. Denison said the fund will continue to focus more on investments such as real estate, infrastructure, private equity and private debt, rather than on publicly traded stock.

“We just see the key valuation opportunities that investing in those areas represent.”

You can read all about CPPIB's fiscal third quarter results by clicking here. There are a few important things to remember when reading these quarterly results. First and foremost, these results are only based on public markets, not private markets. Private market results come at the end of the fiscal year when CPPIB evaluates its private market holdings.

Second, CPPIB and PSPIB have fiscal years that end at the end of March. The stock market took off in early March 2009 and hasn't stopped grinding higher. In fact, as I was reading this story above, I was on the phone with a buddy of mine and I asked him how much did the Canadian stock market rally from April 1st 2009 to December 31st 2009. It was up over 31%. So while these results sound impressive, my buddy is right "...pensions were late going long equities and most of them caught the tail end of the rally".

Third, notice how Mr. Denison is talking up private markets again, following the mantra of most Canadian pension fund managers. I got no problems with private equity, real estate or infrastructure. I helped the head of private equity and the head of infrastructure set up their units while I was working at PSP Investments. I did the research, helped write board papers and board presentations, conducted due diligence on external managers, and learned a lot on these interesting asset classes.

I want to make it crystal clear. I got no problems with private markets. None whatsoever. I got no problems with CPPIB or PSPIB. Couldn't care less about either one of them. Good luck, good riddance. But what pisses the hell out of me is when I see pension fund managers talking up private markets and totally ignoring the risks associated with these investments. And there is a gamut of risks that run from leverage, to illiquidity, credit risk, currency risk, to regulatory risk, valuation risk, to outright fraud - you name it, there are risks involved with private markets.

And then there is benchmark risk - the risk that stakeholders assume when they think the board of directors at these shops have properly set out the benchmarks on private markets. Both CPPIB and PSPIB have one thing in common: they do not publicly disclose benchmarks of their private market asset classes. CPPIB at least makes some vague reference to these benchmarks in their annual report while PSPIB's lame excuse during their annual meeting as to why they do not disclose them was laughable and pathetic.

Come on guys, we're not going to dole out millions in bonuses while you co-invest with the top private equity funds and game your private market benchmarks. The gig is up. I've exposed your charade and now every single politician and labor union representative in Ottawa knows all about gaming private market benchmarks.

For the rest of you, please refer back to Kip McDaniel's article on Canadian pension funds in the winter issue of ai5000. As you read the article, and the comments from Leo de Bever, President & CEO at AIMCo, and myself, you'll understand how one should properly think of private market benchmarks.

Importantly, the opportunity cost of tying up pension monies for several years is the rate of return that money could have generated in a comparable public market index, plus a spread to adjust for leverage and illiquidity. That's it, that's all. No more gaming your stupid private market benchmarks and stop telling us how hot & horny you are about private equity and venture capital. We all get it, come bonus time you get to cash in big time as you write up these assets or game your benchmarks.

How's about you start being up front with your stakeholders, including Canadian taxpayers? If you beat benchmarks that reflect the risks you're taking, go ahead, pay yourselves the big fat bonuses at the end of the fiscal year. If you earned it, I'll be the first to publicly commend you. But if you're gaming the system, then you should pay back all those bonuses you received over the last few years.

One more thing that really bugs me. CPPIB was incorporated as a federal Crown corporation by an Act of Parliament in December 1997 and made its first investment in March 1999. Can you please tell us how CPPIB's long-term performance stacks up to that of long-term Canadian government bonds since March 1999? Net of all costs, of course. Also, compare your performance to a 60/40 stock/bond portfolio at the end of each quarter.

Finally, since I'm in a feisty mood, let me also take on the C.D. Howe Institute who said Ottawa should move on pensions in budget:

Ottawa needs to break the deadlock in reforming the pension system by taking some first steps in next month's budget, says a new report.

Provinces, lobby groups and others all agree Canadians aren't saving enough for retirement but the debate over what to do has stalled, says the report from the C.D. Howe Institute.

Instead of focusing on how to prevent the erosion of defined benefit plans, Ottawa should start with easier reforms to make the existing system more efficient, says William Robson, president of the Toronto-based think-tank.

"In its 2010 budget, the federal government can take some straightforward steps to break the ... mental deadlock," Robson says in a paper released Thursday.

"The 2010 federal budget could contain some straightforward steps to promote more tax-deferred saving, make good retirement saving plans accessible to more Canadians, and liberalize the rules governing retirement income - all no-regret steps toward larger, better third-pillar pensions."

He suggests giving savers more room in their registered retirement savings plans, or RRSPs, and their defined-contribution plans.

Robson proposes raising the age when people need to stop contributing to tax-deferred savings to 73 from 71. He also suggests aligning the rules for Retirement Income Funds and Life Income Funds to rules for annuities from pension plans.

And he wants to see an end to the tax disadvantages of group RRSPs.

Federal and provincial governments have been discussing for months how best to proceed with pension reform. In December, the governments agreed to narrow their options by this May after national public consultations.

But plans for consultations are still up in the air. And many observers believe Ottawa may have lost its resolve to move forward, despite mounting pressure from seniors' groups, organized labour, provincial governments and federal opposition parties.

Most of those groups favour using the Canada Pension Plan as a base to increase retirement benefits for Canadians on either a mandatory or voluntary basis. Ottawa also wants to consider private-sector solutions that would be led by financial institutions.

But the changes Robson suggests wouldn't need to touch the CPP and could be done quickly and at almost no cost, he said in an interview.

Raising the limit on RRSP contributions would be controversial, he acknowledged, since it could be viewed as pandering to the rich. But the other suggestions would be easy to do.

"I'm quite optimistic that some of this is going to be in the budget."

One of the country's largest retirees' groups, CARP, hopes he's right. But it also calls the proposals mere "tinkering."

"It doesn't replace the essential need for there to be wholesale changes," said Susan Eng, CARP's vice-president of policy.

She wants to see Ottawa signal its resolve to bolster the pension system in the throne speech that comes just before the budget at the beginning of March.

Ms. Eng is absolutely right. Mr. Robson's proposals are akin to putting a band-aid over a metastasized tumor. Increasing RRSP contributions is great for people like my brother and close friends who are doctors earning an income of over $250,000 a year (self-employed, no government pensions and high incomes), as well as senior Canadian pension fund managers collecting millions (and they get pensions too!), but for most Canadians who are struggling to save and sock away funds into their RRSPs, these proposals do absolutely nothing in addressing the retirement savings shortfall. Let's hope those big private market bets CPPIB is taking pay off in the future.

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