Thursday, February 23, 2012

Caisse Posts 4% Gain in 2011

Frederic Tomesco of Bloomberg reports, Caisse De Depot Posts 4% Gain in 2011 on Bonds, Real Estate:

Caisse de Depot et Placement du Quebec, Canada’s biggest pension fund manager, posted a 4 percent investment return last year, fueled by gains in fixed income and real estate.

Net investment income fell to C$5.7 billion ($5.71 billion) from C$17.7 billion a year earlier when the returns were 14 percent, the Montreal-based manager said today in a statement. The Caisse’s assets as of Dec. 31 increased to C$159 billion from C$157.9 billion at the end of June.

The Caisse beat the 0.5 percent return of Canadian pension funds last year, as estimated in a Jan. 23 report by RBC Dexia Investor Services Ltd. Chief Executive Officer Michael Sabia said in August the Caisse wasn’t immune to market turmoil in a “highly uncertain” global economy after disclosing a first- half return of 3.6 percent.

“The Caisse delivered a solid performance in 2011 -- a year of many challenges in the markets,” Sabia, 58, said in the statement. “We are very well positioned to seize very attractive investment opportunities created by this climate of uncertainty and by the growth of emerging markets.”

Fixed-income investments returned 10 percent last year, fueled by a 19 percent gain in long-term bonds, according to the statement. Real estate gained 11 percent in 2011, while stocks, the Caisse’s largest asset class at C$72.8 billion, declined 4.2 percent, the pension said.

Caisse de Depot oversees pensions for retirees in the French-speaking province. The Canada Pension Plan Investment Board, which had C$152.8 billion in assets as of Dec. 31, covers every Canadian province except Quebec.

Nicolas van Praet of the Financial Post reports, Caisse climbs back from crippling loss:

Canada’s largest pension fund manager has clawed its way back from a crippling loss in 2008, restoring pensioner faith in an institution whose reputation has been badly bruised beyond recognition.

On the strength of an overall 4% return last year driven by double-digit gains on infrastructure investments, real return bonds, and real estate, the Caisse de dépôt et placement du Québec finished 2011 with $159-billion in net assets. That’s $3.6-billion more than it had before its embarassing $40-billion loss four years ago. Deposits over the last three years represented $3.6-billion, meaning the majority of its gains – $35.2-billion – were realized from investment results.

That year was the worst in Caisse history. The Caisse, which manages the nest eggs for thousands of retirees including Quebec civil servants, saw 25% of its assets vanish, including billions worth of asset-backed commercial paper investments.

The loss triggered a political crisis in Quebec City and the Liberal government named former Canadian National Railway executive Michael Sabia to fix the mess after the Caisse’s interim chief executive went on medical leave.

Mr. Sabia has tried to change how the pension fund operates, by simplifying investments to things it understands and reducing leverage. Almost the entire executive management committee has been replaced.

“We are now able to focus on the future – a future certainly ripe with challenges, but also business opportunities,” Mr. Sabia said in a statement. “For the first time in a long time at the Caisse, we have the financial flexibility to take advantage of such opportunities, both here in Quebec and elsewhere in the world.”

The Caisse’s performance hinged on reducing its exposure to equity during the summer to about 30% of assets and maintaining a high level of cash as stock markets tanked. Major equity indexes fell anywhere between 7% and 16% during the third quarter as the Europe sovereign debt crisis deepened and the credit rating of the United States was cut.

The pension fund’s 4% return beats the estimated 0.5% earned by other major Canadian pensions last year, according to a Jan.23 survey by RBC Dexia Investor Services. “Most pensions will be pleased” 2011 is over, said Don McDougall, director of advisory services for the company.

Canadian equity was the hardest hit class for all pension funds and the Caisse was no exception. The pension fund lost $2.1-billion on Canadian stock investments, representing a negative return of 10.6%.

Still, 13 of the Caisse’s 17 specialized portfolios posted positive results. The four fixed income portfolios generated a 10.4% return equalling $5.7-billion while inflation-sensitive investments like real return bonds (18% return), infrastructure (23.3% return) and real estate (11% return) generated $3.1-billion.

“The past year was a real roller-coaster ride and market conditions considerably deteriorated in the second half of the year,” said Caisse chief investment officer Roland Lescure. He said the pension fund was able to rebuild positions in equities as systemic risk decreased.

With the risk of contagion in Europe diminishing, the Caisse now intends to put its money to work. It sees numerous opportunities to buy assets in Europe in coming months as cash-starved governments divest assets to restore their balance sheets. And it expects to boost its real estate presence in Brazil.

The Caisse controls Ivanhoe Cambridge, one of the world’s 10 largest real estate owners.

You can consult highlights of the Caisse's results here, where you will find detailed fact sheets on Overall Portfolio Management, Fixed Income, Inflation-Sensitive Investments, Equity, and Valuation of Investments.

Take the time to carefully read all facts sheets, especially the Overall Portfolio Management where you will find a good summary of the difficult market conditions of 2011:
The year started off with the Arab spring and the Tsunami in Japan. However, although these were major events, they ultimately had only a marginal impact on equity markets. Buoyed by a good outlook for growth and continuing expansionist monetary policies, in addition to major increases in profits recorded by publicly listed companies, western equity markets saw growth of approximately 1% to 3% in the first half of the year. Most importantly, this growth was achieved in an environment marked by little volatility, showing that investors were starting to regain their confidence in the markets.

There was a completely different story in the second half of the year. The downgrade of the U.S. credit rating and, especially, a deepening crisis in Europe had an impact on equity markets around the world. In the third quarter, markets tumbled by between -7% (U.S.) and -16% (Europe and emerging countries). Canadian markets declined by 12%. In addition to these equity market declines, there was a substantial increase in volatility which also remained in the fourth quarter. This illustrates the extent of the systemic risk at the height of the European economic crisis.
Click on image below, it's priceless:

That is what every investor faced in the second half of 2011, and why the bulk of mutual funds and hedge funds underperformed in 2011.

To illustrate further, the Caisse provides this chart below on quarterly returns on major market indexes (in CA $). Click on image to enlarge:
Details of the specialized portfolios are available in each factsheet. Below, read the highlights for Equity, Fixed Income and Inflation-Sensitive Assets taken from the facts sheets ( click on images to enlarge; added emphasis is mine):


The Equity category consists of seven portfolios: Canadian Equity, Global Equity, Québec International, U.S. Equity, EAFE (Europe, Australasia, Far East) Equity, Emerging Markets Equity and Private Equity.

The Canadian Equity, Global Equity, Québec International and Private Equity portfolios, which have $49.7 billion in net assets, are actively managed. The U.S. Equity, EAFE Equity and Emerging Markets Equity portfolios, which have $23.1 billion in net assets, are index managed.

The overall return for the Equity category is therefore -4.2%, which is 0.8% less than the benchmark index.


The Canadian Equity portfolio generated a return of -10.6%, for net investment results of
-$2.1 billion. This return is 2.4% below the benchmark index.
  • This return is well below the 4.6% return for U.S. equity and confirms that Canadian equity markets are closely tied to emerging markets (return of -16.4%). The sector mix for the Canadian equity market represents a heavy exposure to the financial (29%) and materials (21%) sectors. Fear of a financial crisis and concerns regarding global economic growth, in particular in emerging economies, had an especially hard impact on the returns of companies in these sectors, which also explains the negative return posted by the Canadian market.
  • The portfolio return is nonetheless below that of the index, mainly as a result of: (1) Certain long-term portfolio positions relating to urbanization in emerging countries and strong demand for basic materials underperformed in 2011. However, these positions paid off well in the long term and should continue to do so in the future. (2) The portfolio’s under-exposure to companies paying high dividends, which resisted pressures very well in 2011 due to the major drop in interest rates.
  • In early 2011, the Morningstar National Bank Québec Index, reserved exclusively for Québec companies, was incorporated into the Canadian Equity portfolio benchmark index in order to better represent the reality of the Québec economy in this portfolio. The value of investments in Québec grew by $589 million during the year and has increased by $1.2 billion since the end of 2009. Québec securities account for 21% of the Canadian portfolio at year end, up 4.2% in the past 12 months.
  • The Global Equity portfolio generated a return of -5.7%, which is 0.6% below the benchmark index.
  • The variance with this index is mainly attributable to positions in the healthcare, industrial products and natural resources sectors.
  • In 2011, the management team completed the implementation of its new external management strategy, targeting specialized managers in countries such as China, India or Brazil, or exposure to specific economic sectors.
  • The Québec International portfolio generated a return of 1.6 %, which is close to the benchmark index.
  • This return is better than the return for the Global Equity portfolio, mainly due to the high rate of return for the portfolio’s bond component. The absence of emerging countries in the portfolio was also a favourable factor in 2011.
  • These portfolios, which are index managed, generated returns of between -16.4% and 4.6% during the year, which is in line with their benchmark index.
  • Equity markets in emerging countries, Japan and the euro zone had an especially difficult year, with returns of between -12.2% and -16.4%.

The Private Equity portfolio posted a return of 7.1%, which exceeds the return for equity market indexes but is 0.3% less than the return for the portfolio benchmark index.
  • A total of 80% of the portfolio’s performance is attributable to leveraged buyout financing activities and, especially, investments in funds.
  • There were two phases in the Private Equity market in 2011. The first six months were marked by a high level of activity characterized by many refinancings, mergers and acquisitions and initial public offerings. There was a complete turnaround of the situation in the latter half of the year. The financing market had completely dried up. There was a considerable slowdown in activity for mergers and acquisitions and initial public offerings. However, the market conditions favoured development capital transactions since companies sought solid partners to realize and ensure their future growth.
  • Holding companies were very active on financial markets, carrying out refinancings while making the most of low rates and reviewing their loan maturities. The management team also took advantage of favourable market conditions to re-position the funds portfolio due to transactions on the secondary market, generating net inflows in excess of $1 billion.
  • These two factors contributed to improving the portfolio quality and therefore reducing risk. New portfolio investments totaled $2.5 billion: $1.3 billion in direct investments, including $649 million in Québec and $1.2 billion in funds.

The Fixed Income category consists of four portfolios: Short Term Investments, Bonds, Long Term Bonds and Real Estate Debt. It reduces the level of overall portfolio risk and matches the assets and liabilities of depositors.

The Bond and Real Estate Debt portfolios, with net assets totaling $48.3 billion, are actively managed, while the Short Term Investments and Long Term Bond portfolios, with net assets totaling $10.5 billion, are index-managed.

The overall return on the Fixed Income category was 10.4 %,
0.9% above the benchmark index.

The portfolios in this category responded positively to a generalized decline in interest rates following on previous rate decreases in 2009 and 2010.

  • The portfolio returned 1.1%, outperforming its benchmark index by 0.1%. This performance reflects an environment of very low short-term rates.
  • The largest share of assets held at the Caisse is invested in this portfolio: 26.2% or $41.6 billion as at December 31, 2011. The portfolio returned 10.1%, generating $4.0 billion in net investment results.
  • The return was 0.3% above its benchmark index. The decline in medium- and long-term rates over the year drove up portfolio returns. Two thirds of the total return are value increases resulting from this decline.
  • The return on the portfolio was identical to the benchmark index at 18.6%.
  • Almost 80% of the return was generated by value increases from lower long-term interest rates on government securities in the portfolio, which fell from 4% to 3%, a 1% decrease. This had an especially positive impact on the performance of this long-horizon portfolio.
  • This portfolio returned 15.0%, or $1.0 billion in net investment results, outperforming its benchmark index by 5.4%. Lower mortgage rates in Canada largely explain this strong performance in 2011. The last foreign assets were sold as part of the portfolio refocusing strategy. This took place in favourable conditions, which also helped deliver higher returns on these assets.


The Inflation-Sensitive Investments category consists of three portfolios: Real Return Bonds, Infrastructure and Real Estate. These portfolios provide exposure to markets, including inflation-indexed, income-generating investments. This can partly hedge against the inflation risk associated with the liabilities of many Caisse depositors.

The Infrastructure and Real Estate portfolios, which have $24.0 billion in net assets, are actively managed. The Real Return Bonds portfolio, which has $1.3 billion in net assets, is index managed.

The overall return of the Inflation-Sensitive Investments category was 13.9%
, 1.4% below the benchmark index, generating $3.1 billion in net investment results.


  • The Real Return Bonds portfolio obtained an 18.4% return. Of this performance, 2.9% is the result of inflation over the period.
  • The majority of the return is due to the decline in real interest rates over the year. They decreased from 1.1% to 0.26%, a 0.84% decline.
  • The effect on the return of such decreases in rates is particularly positive for this portfolio given its long term.
  • This year’s excellent performance is in addition to the particularly high return of the last two years. In 2009 and 2010, the return was 17.1% and 11.1%, respectively.
  • This specialized portfolio generated a return of 23.3%, $1.0 billion in net investment results. The return is 10.6% above its benchmark index.
  • This return, which is higher than the expected long-term return, stems from the sound operational performance of portfolio companies and from the decline in long-term interest rates. In particular, the return substantially owes to the performance of energy and airport service assets, including Trencap and BAA (British Airports Authority).
  • This year’s excellent performance builds on the particularly high return from the last two years. In 2009 and 2010, the return on this type of asset was 33.6% and 25.4%, respectively.
  • The return on this portfolio stood at 11.0% in 2011, $1.8 billion in net investment results. The return was 4.7% below its benchmark index.
  • This return is primarily attributable to increases in value of retail shopping centres and office buildings in Canada and the United States.
  • The underperformance of the portfolio against its index is mainly due to the dilutive effect of cash and to the low return of funds and equity held by the portfolio relative to that of shopping centre, office, and industrial and residential building sectors that make up the benchmark index.
  • This year’s high return builds on the high return of 13.4% posted in 2010. In 2009, the portfolio had plummeted 12.7% in the aftermath of the 2008 financial crisis.

My take on the Caisse's results: The overall results are decent, especially when compared to the 0.5% Canadian average, but that isn't a good benchmark. A better although imperfect benchmark will be to compare the Caisse's results relative to other large funds like Ontario Teachers, OMERS and HOOPP whose fiscal year ends in Deccember and who also invest heavily in infrastructure, private equity and real estate (CPPIB, PSPIB, AIMCo, and bcIMC are also good comparisons but their fiscal year ends at a different time).

Neil Petroff, CIO of Ontario Teachers, already told me he suspects the returns for Canada's large public pension funds will range from low to high single digits, with HOOPP outperforming everyone else this year due to their high exposure in bonds.

Having said this, the Caisse delivered good results, especially in Fixed Income and Infrastructure. One thing that raised my eyebrows is how they easily trounced their infrastructure benchmark once again, suggesting that their infrastructure benchmark doesn't reflect the risk of the underlying portfolio.

In that sense, I am much more impressed with the outperformance in Fixed Income than in Infrastructure because it's much harder to beat that benchmark which they've done two years in a row. Remember, when comparing performance of any asset manager, it's all about the benchmarks stupid!

Now, one area where the Caisse continues to struggle is in public equities. Admittedly, 2011 was a very tough year with insane volatility mincing returns, but this is an area that needs to be improved both internally and using external managers. In these markets, you can't keep underperforming in stocks and blame "market conditions" every time. Moreover, they need to hire more international and U.S. managers internally and externally (too much indexing!!!).

Also worth noting the Caisse reduced its exposure to stocks following the carnage in Q3:

During the first six months, and considering the improvement in the market environment, the asset allocation for the overall portfolio remained close to the benchmark. Equity market exposure therefore remained around 37%.

During the summer, the deteriorating economic outlook in the U.S., the downgrade of the U.S. credit rating, and Europe’s inability to find a credible solution to the crisis in Greece led the Caisse to put in place defensive measures to protect the overall portfolio.

In September, there was the risk that the crisis in Greece would spread to the rest of Europe, affecting the banking sector as well as peripheral countries. Due to the threat of a systemic crisis, the Caisse further reduced its equity market exposure, which stood at 30% in September.

The European Summit held in October made it possible to officially recognize the need to recapitalize European banks and to recognize major losses on Greek debt. This systemic risk then gradually diminished with changes of government in Greece and Italy, followed by the arrival on the scene of the European Central Bank in December. In this context, hedging positions were significantly reduced without being completely cancelled.

In addition to these equity market hedging positions, the Caisse ensured prudent cash management throughout the year. Cash varied between $5 billion and $9 billion during the second half of the year.

Indeed, the following chart presents changes in Caisse equity market exposure (click on image to enlarge):

While this asset allocation decision may have made sense from a risk management point of view at the time, it means the Caisse did not participate as much on the upside in public equities in Q4 and in January of this year. A good question to ask their senior management is whether they are too conservatively positioned in their exposure to public equities.

Also, there is no mention of the performance of external hedge funds which the Caisse invests in or the effects of currency moves on the overall portfolio returns. In particular, how did the euro's drop impact overall results? That's another important point to raise with senior management.

Finally, I was asked to appear on Radio Canada (RDI) tonight to comment on the Caisse's results. I decided to leave that up to Michael Sabia, the Caisse's President and CEO, and will embed interviews below.

Once more, given the turmoil in the second half of 2011, the overall results were decent and I didn't find any major problems. Will wait for the release of their annual report to comment further on the Caisse's 2011 results.

Update on Caisse Results:

I watched the RDI interview and can't say I was impressed. It was alright until Mr. Fillion of RDI brought up the Desmarais affair. I've already discussed Sabia's séjour chez Desmarais and think it's way overblown. The interview should have focused exclusively on results.

But what I did find interesting is that L'Association québécoise des retraité(e)s des secteurs public et parapublic (AQRP), came out to criticize the results, saying the Caisse missed the (actuarial) target and they denounced the Caisse for not using 5-year annualized returns to incorporate 2008 losses:

L'Association québécoise des retraité(e)s des secteurs public et parapublic (AQRP), la principale association indépendante de retraités de l'État au Québec, est très déçue des résultats financiers de l'année 2011 de la Caisse de dépôt et placement du Québec.

« Le rendement de 4 % obtenu par la Caisse en 2011 est insuffisant pour soutenir les régimes de retraite des secteurs public et parapublic, qui ont besoin d'un rendement à long terme de 7 % afin d'honorer les promesses de rentes faites aux travailleurs de l'État. Le rendement de 9,1 % sur trois ans est par ailleurs bien loin du rendement de 13,4 % exigé par le gouvernement et les syndicats pour verser l'indexation des rentes aux personnes retraitées. En plus de nous décevoir et de nous inquiéter, ces résultats confirment l'invraisemblance des engagements du gouvernement et des syndicats dans le dossier de l'indexation », a déclaré la présidente de l'AQRP, madame Madelaine Michaud.

L'AQRP déplore par ailleurs que la Caisse dissimule ses pertes de 2008 en omettant de présenter son rendement annualisé sur cinq ans dans le communiqué de presse diffusé aujourd'hui. « Nous demandons donc au président et chef de la direction de la Caisse, monsieur Michael Sabia, de nous rencontrer pour mettre les choses au clair », a conclu la présidente de l'AQRP.

Le projet de loi no 23 adopté l'an dernier, à la demande des syndicats, rend toute correction de la désindexation conditionnelle à l'atteinte d'un surplus d'au moins 20 %. Or, selon les actuaires de l'AQRP, pour atteindre ce niveau de surplus, il faudrait que la Caisse obtienne des rendements de 13,4 % pendant une période continue de 4 à 5 ans.

Rappelons qu'environ 55 % de l'actif net de 159 milliards de dollars géré par la Caisse appartient aux régimes de retraite des secteurs public et parapublic. En 2008, les principaux fonds destinés à ces régimes ont perdu environ 20 milliards de dollars.

Avec plus de 27 000 membres, l'AQRP est la principale association indépendante de tout lien syndical représentative de l'ensemble des retraités de l'État au Québec. Le Québec compte plus de 274 000 personnes retraitées des secteurs public et parapublic.

Somewhat harsh but everyone has their angle to play. Problem is to attain 7% or 8% is a pipe dream. As far as 'indexation' (contribution rates), the AQPR is worried that if the results aren't good enough, the Quebec government will increase the contribution rates or cut benefits.

Below, Bloomberg's Pimm Fox and Deborah Kostroun report on the performance of the U.S. equity market today. U.S. stocks rose, sending the Dow Jones Industrial Average to the highest level since May 2008, amid better-than-estimated housing and jobs market reports.

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