The CPP Fund ended its fiscal year on March 31, 2011 with net assets of $148.2 billion, compared to $127.6 billion at the end of fiscal 2010. The $20.6 billion increase in assets after operating expenses marks a new all-time high for the Fund. The Fund increase resulted from $15.5 billion in investment income and $5.4 billion in net CPP contributions. The portfolio returned 11.9% for fiscal 2011, compared to 14.9% in the prior fiscal year.
“Fiscal 2011 was an excellent performance year, with the Fund benefiting from strong results across all asset categories and geographies,” said David Denison, President and CEO, CPP Investment Board. “By adhering to our long-term strategy during and following the recent financial crisis, the Fund has benefited from the recovery in the global public equity markets and has generated total investment income of $31.7 billion over the past two fiscal years.
“During fiscal 2011 we were able to take advantage of the deep expertise of our investment teams to make some notable additions to our private equity, infrastructure, real estate and private debt holdings.”
- Partnering alongside Onex Corporation, we completed the largest global private equity transaction during calendar 2010: the acquisition of Tomkins plc with an equity investment of $1.1 billion. This was the second consecutive year that we were involved in the largest global private equity transaction.
- On the real estate front, we successfully acquired interests in two prime Manhattan office buildings whose combined value is $1.6 billion, representing an equity investment of $700 million. In London, we acquired a 25% interest for $468 million in Westfield Stratford City, a new 1.9 million square foot retail and entertainment development next to the 2012 London Olympics site. In Australia, we purchased a 42.5% stake for $604 million in the ING Industrial Fund, a portfolio of prime industrial properties.
- We also completed our largest infrastructure investment to date with two concurrent transactions involving the acquisition of a 40% interest in the 407 Express Toll Route outside Toronto as well as an interest in a toll road in Sydney, Australia. Our total initial investment amounted to $4.1 billion, a portion of which we then syndicated to a group of other institutional investors for a combined interest of approximately 29%.
- Our Private Debt group has now grown to 22 professionals. Last year we established a team in our London office and have made great strides in expanding the European reach of the program. Since its inception less than three years ago, our Private Debt Group has completed 41 transactions totaling $4.4 billion.
Five and 10-year Returns
Although CPPIB reports on a quarterly and annual basis, longer-term results are more relevant given the multi-generational nature of the CPP itself. For the five-year period ending March 31, 2011, the CPP Fund generated an annualized rate of return of 3.3%, or $20.9 billion of cumulative investment income. For the 10-year period, the Fund had an annualized rate of return of 5.9%, or $51.8 billion of cumulative investment income.
“Our 10-year annualized rate of return has recovered to a level that is consistent with the 4.0% prospective real rate of return that the Chief Actuary has incorporated in his latest report confirming the sustainability of the CPP, even though the sharp equity markets decline experienced in 2008 and 2009 continues to weigh down the five- and 10-year returns ,” said Mr. Denison. “We remain confident that we have designed the mix of assets within the CPP Fund so that it is well positioned to achieve the 4.0% real rate of return required over the longer term.”
Performance Against Benchmarks
CPPIB measures its performance against a market-based benchmark, the CPP Reference Portfolio, representing a passive portfolio of public market investments that can reasonably be expected to generate the long-term returns needed to help sustain the CPP at the current contribution rate. CPPIB’s strategy is to invest actively with a view to outperform the passive benchmark.
In fiscal 2011, total portfolio returns outperformed the CPP Reference Portfolio by 2.07 % or $2.7 billion. For the five-year period since the inception of the CPP Reference Portfolio, the cumulative outperformance was 1.80% or $1.7 billion.
“Many of our investment programs such as real estate and infrastructure are very long-term in nature, and we are pleased that the benefits of those programs are materializing as private market valuations start to reflect the economic recovery of the past two years,” Mr. Denison said. “The full range of CPPIB’s investment programs contributed to the Fund’s strong absolute and value-added returns in fiscal 2011 showing the benefit of the broad diversification we have achieved.”
Portfolio performance by asset class is included in the table below (click on image to enlarge). A more detailed breakdown of performance by investment department is included in the CPPIB Annual Report for Fiscal 2011, which is available on www.cppib.ca.
Long-term Sustainability Reaffirmed
The Chief Actuary of Canada conducts a financial review of the Canada Pension Plan every three years. In his latest triennial review completed in November 2010, the Chief Actuary reaffirmed that the CPP remains sustainable at the current contribution rate of 9.9% throughout the 75-year period of his report. The report also indicates that CPP contributions are expected to exceed annual benefits paid until 2021, providing a 10-year period before a portion of the investment income from the CPPIB will be needed to help pay pensions.
We continued to diversify the portfolio by risk/return characteristics and geography during fiscal 2011. At the end of fiscal 2011, the Fund’s assets were valued at $148.2 billion, a year-over-year increase of $20.6 billion net of operating expenses of $328 million or 24 basis points.
Canadian assets represented 48.3% of the investment portfolio, and totaled $71.7 billion. Foreign assets represented 51.7% of the investment portfolio, and totaled $76.6 billion.
- Equities represented 53.5% of the investment portfolio or $79.4 billion. That amount consisted of 38.2% public equities valued at $56.7 billion and 15.3% private equities valued at $22.7 billion.
- Fixed income, which included bonds, other debt, money market securities and debt financing liabilities represented 30.1% or $44.6 billion.
- Inflation-sensitive assets represented 16.4% or $24.3 billion. Of those assets:
- 7.3% consisted of real estate valued at $10.9 billion;
- 6.4% was infrastructure valued at $9.5 billion; and
- 2.7% was inflation-linked bonds valued at $3.9 billion.
More details on CPPIB's FY 2011 results are provided in their Annual Report 2011. I urge my institutional investors to read this and other annual reports very carefully as a lot of time and effort is put into them. CPPIB's President & CEO, David Denison, delivers his message starting on page 5. Below, I focus on a few passages:
As we implemented our active management strategy over the past five years, we began building internal capabilities for investment areas in which we have comparative advantages. These advantages include our very long investment horizon, the relative certainty of both our asset base and the amount and timing of future cash inflows to the CPP Fund, and the large scale of our investment portfolio. We also forged relationships with external managers who have proven skills and capabilities that complement those we create internally.I like David Denison. Whenever I email him, he always responds in a timely and polite manner (same goes for Mark Wiseman, CPPIB's CIO). I also like what I'm reading above. A lot of critics take shots at CPPIB without understanding the benefits of how these investments are managed. It's easy for some stupid traders to piss all over CPPIB because they're not managing hundreds of billions. Myopic traders do not understand the problem of scalability these large funds face.
A key strategy goal for the past five years was to increase the proportion of the CPP Fund’s holdings in private market investments. In particular, private equity, real estate, infrastructure and private debt. Our comparative advantages are especially valuable in these areas. Achieving scale in private market investing is challenging. Success requires experienced and skillful teams able to originate and complete what are often very complex transactions. Over the past five years we have increased our private asset holdings from $7.8 billion to $46.8 billion, and from 8.8% to 31.6% of total Fund assets. This is a testament to the many talented and dedicated professionals we now have within the CPP Investment Board.
Having internal teams focused on private market investing not only plays to our comparative advantages, we also believe it to be a very cost effective approach for the CPP Fund. As an example, we estimate that it would cost between $200 million and $250 million per year to have an infrastructure portfolio comparable in size and composition to our own managed externally, compared to the total costs of approximately $24 million we incurred in fiscal 2011 to manage this internally.
Since the start of our active strategy, we have also diligently increased the scalability of our public market investing programs. There are now six distinct investment units within our public markets area, all executing active programs that capitalize on our comparative advantages. Two indicators of growing scalability are: we increased the number of fundamental research analysts in our Global Corporate Securities unit from six to 26 over the last two years and the notional size of our long/short investment program has grown to $17.4 billion from $4.3 billion.
Building human capital is equally important in building organizational capabilities which is why we continue to focus on the ongoing work we do to ingrain our culture based upon our Guiding Principles of Integrity, Partnership and High Performance and to develop our people. This year we significantly increased the time and attention devoted to talent assessment, development and succession planning. These efforts are critical to our long-term success and remain a priority for fiscal 2012.
We also made very good progress in improving operational capabilities which represent another important aspect of organizational scalability. In planning for this decade’s doubling of the CPP Fund, we know we have to build very strong operational, technology and data management infrastructure. The aim is to handle much greater volume and diversity of activities without requiring a proportionate increase in staff and other resources. To achieve this, we need very well-designed and integrated processes for research, transactions, risk management, valuation, analysis and operational requirements across the organization. This is no simple task. In fiscal 2011, we made great strides in capitalizing on the new portfolio record keeping and performance measurement systems we implemented April 1, 2010. We also greatly improved our management of the vast quantities of data that are essential to our investment, research and risk management activities.
While I could cite numerous other areas of progress in fiscal 2011, I would also say that there is still much for us to do in order to achieve the kind of operational scalability that is our goal and this will remain an area of focus for fiscal 2012.
Looking ahead to fiscal 2012 and beyond, we continue to believe that CPP Investment Board’s strategy is sound and will enable us to create long-term value for the CPP Fund that we manage.
Successful execution of our strategy requires us to be increasingly global in our orientation. So, a key priority for us in fiscal 2012 will be to further expand the staffing and breadth of activities in London and Hong Kong. We will also assess other geographic locations where it may be important for us to establish a presence with a view to potentially opening additional offices in fiscal 2013.
Our key corporate objectives for fiscal 2012 are:
- Executing our investment programs strategies – continue to focus across all investment departments to refine and expand our investment programs and capabilities;
- Balancing scalability and complexity – focus on creating sustainable and scalable processes across the organization to effectively manage the growth of the CPP Fund;
- Building scale in emerging markets – strengthen our investment footprint in key emerging markets with a focus on Asia and Latin America; and
- Development and continuity of leadership and talent – introducing programs that focus on developing management talent and capabilities.
As reported by Bloomberg, the results beat the 11 percent average return of the country’s pension funds over 12 months as Canadian stocks surged, according to an April 20 report by RBC Dexia’s investment services unit. The Canadian benchmark Standard & Poor’s/TSX Composite Index rose 16 percent in the period.
Moreover, private-equity investments abroad were among the best assets in the year, with holdings in developed markets increasing more than 19 percent and those in emerging markets posting a 17 percent return. Both investments reversed declines from a year earlier.
CTV reports that another sign of the current deal-making environment occurred this month, after the end of CPPIB’s latest fiscal year, when Microsoft Corp. announced its $8.5-billion (U.S.) deal for Skype Technologies. CPPIB had been part of an investor group that bought a 65-per-cent stake in Skype from eBay in late 2009, and the pension fund has now more than tripled its money on its original $300-million investment. Skype was one of their best private equity deals ever.
When you have the deep pockets and long-term horizon of CPPIB, you have to take advantage, buying up assets that others are liquidating for all sorts of reasons, and then sit on them and wait for the recovery. It sounds deceptively easy but it isn't. The way you go about buying private market assets (though debt or equity) is very important when managing risk, and you have to be well diversified among sectors and geographical locations.
As far as public markets, the focus is on alpha but there is still way too much beta in the portfolio. Their size is the problem but they've made great strides addressing scalability. When you're the size of CPPIB or the Caisse for that matter, you're better off investing in global equities and not being too exposed to Canadian equities because you don't want to get caught long Canada when our fortune turns.
Yesterday I spoke with a Montreal hedge fund manger who manages roughly $260 million in an equity market neutral fund. Great fund and capacity will be reached at $700 million but the manager told me "we're too small for CPPIB because they don't want to represent more than 10% of any fund and they write big tickets." That's why if you look at CPPIB's investment partners in public markets, they're all large asset managers and many of them are overlay managers who can easily take on large mandates.
Finally, the Canadian Press reports that CPPIB is prepared for any expanded role, if that's what the Canadian government wants: "We're not advocating one way or another on reforms, but if it does translate into CPP expansion and we're asked to manage it — we can do it," Denison said.
You know where I stand on this issue. I'd much rather see expanded CPP run by CPPIB and other public sector pension plans than some half-baked private sector solution in the form of PRPPs. I have concerns about the size of CPPIB, including the size of their staff, operating expenses, and the benchmarks they use for compensation (need more clarification), but I'd much rather have CPPIB manage our pensions than handing over more gifts to banks and insurance companies who will end up screwing it up, costing us more over the long-term.
***Feedback from CPPIB***
Mark Wiseman, CIO at CPPIB was kind enough to share these thoughts on scalability:
On scalability, we do acknowledge that the fund is large and will get larger, but if used properly, scale can be a huge advantage to us. For example, very few institutions could have written the $4 billion cheque to acquire a 40% interest in the 407--- a great asset that will provide the fund with stable returns for the next 87 years. And, in terms of our size, we are still much smaller than then most of our international peers (i.e. Norway), at the same time that the capitalization of global private and public markets continues to expand substantially—much of that growth in emerging markets. Scale does make it tough to do things like Venture Capital, but other countries (Sweden and Australia for instance) are actually worried about their institutions being sub-scale and are thinking about consolidation. And, don’t forget about private assets managers like Blackrock, Pimco and others whose AUM is, in many cases, measured in trillions of dollars. Suffice it to say, I think that there is a very long way to go before our clear economies of scale become diseconomies.