Wednesday, July 5, 2017

AIMCo Gains 5.8% in 2016

A couple of weeks ago, Barry Critchley of the National Post reported, AIMCo joins list of pension funds issuing debt:
For the second time in a week, Canadian pension funds have demonstrated that their debt offerings are more than welcome anywhere — even in markets where they haven’t been before.

Wednesday, AIMCo Realty Investors LP, a unit of AIMCo, an Alberta Crown corporation with almost $100 billion in assets, launched its initial debt offering in Canada. The unit hoped to raise $400 million by way of an offering of seven-year senior unsecured notes.

Before noon, the $400-million target was reached — and word is that because of strong demand, the issuer could have raised more — and AIMCo was required to pay 2.266 per cent. The notes, which could only be sold in Canada, were rated AA low by DBRS.

In an email, AIMCo said the “debt issuance is a highly cost-effective financing strategy that will provide a new source of funds and liquidity, as well as, enhance returns for AIMCo’s clients.”

It plans to use the proceeds to repay a revolving credit facility and for general corporate proceeds.

One week back, it was CPP Investment Board’s turn to branch into new markets. CPPIB Capital, a unit of CPPIB, launched its initial offering of euros and raised 2 billion euros over a seven-year term at a coupon of 0.375 per cent. Given that the senior unsecured notes — rated AAA by four rating agencies — were priced at a slight discount, the yield to maturity, at issue, was 0.465 per cent.

And as further proof that things go in threes, last Friday, Montreal-based PSP Capital Inc. priced a $1.75-billion five-year offering of senior unsecured notes. For that privilege, the borrower was required to pay 1.73 per cent. TD, BMO and CIBC were joint leads on the private placement.

These three recent offerings, two of which were in new markets, continue a trend that started in late 2001 when Ontrea Inc. a real estate, non-taxable company owned by Ontario Teachers Pension Plan Board, became the first pension fund to issue debt. It raised $600 million of AAA-rated debt at 5.7 per cent with the interest payments and repayment of capital unconditionally and irrevocably guaranteed by the fund. Such a guarantee was possible because of provincial legislation.

One year later, OMERS, through OMERS Realty, entered the debt issuing game with its initial offering. In 2003, CDP Financial Inc., the funding arm for subsidiaries of the Caisse de depot, raised $750 million for five years in what was its inaugural issue. Those offerings were rated AAA.

All those entities have continued to borrow — some in different form. Last March, Cadillac Fairview Properties Trust, a unit of Ontario Teachers, raised US$1 billion in its initial offering. The AAA-rated issuer was established to hold all of the shares and inter-corporate debt of Cadillac Fairview Corp. and Ontrea (In effect, the ownership, valued at $22.4 billion, was transferred to the trust from Teachers.)

bcIMC Realty Corp. OPB Finance Trust, and PSP Capital have also issued debt, not all of which was rated AAA. But of all the pension funds, the CPPIB has been the most active borrower.

According to its latest annual report, for the 12 months ended March 31, it raises external debt under a global medium term note program. It does that by selling unsecured senior notes by way of private placements. In all, when its Canadian borrowings are included, it has $8.8 billion of debt outstanding. It also has issued $11.1 billion of commercial paper via its Canadian and US programs.
So, large Canadian pension funds borrow to invest and have been doing so because rates are ultra-low and they can make more returns by borrowing than it costs to carry the loan. It also helps that unlike many US pension funds who are now being targeted by rating agencies, Canada's large pensions enjoy a AAA credit rating and have the balance sheet to emit bonds investors love.

AIMCo is actually a bit late to this trend, mostly owing to previous investment policies that didn't allow it to leverage up its balance sheet.

This article is my preamble to AIMCo's 2016 results which can be found here. Actually, let me begin with a pet peeve of mine, I don't like AIMCo's website and think it needs to be significantly improved to be more user friendly.

For example, in order to read the full PDF file, I had to go here and then scroll down to click on "PDF Builder" to take me here where I then was able to download the complete 2016 Annual Report which you can all read here (there should be a PDF link to this report right when we open the main site).

Another pet peeve of mine is there was no official  press release going over the results in the News & Views section here. AIMCo cites transparency as one of its core values but properly communicating the annual results is the biggest part of transparency (there should be an official press release going over the results just like CPPIB and PSP Investments and others do).

Not surprisingly, the media didn't cover AIMCo's results as I couldn't find any articles in a quick Google search except for the article above. Again, this a problem of communication which can be easily fixed as its part of pension governance 101.

As you will see below, in other key areas, AIMCo is very transparent, so I am a bit surprised that they couldn't communicate the results in a much better way, including video clips from the CEO and senior officers going over the results (like HOOPP and OTPP do).

Prior to writing this comment, I communicated via email with AIMCo's President & CEO, Kevin Uebelein, who I met in Montreal a couple of years ago and enjoyed meeting, but he is off this week so he referred me to Dénes Németh, AIMCo's Director, Corporate Communication.

This morning I asked Dénes and Kevin if Dale MacMaster, AIMCo's CIO, was available to discuss the results and he was kind enough to take the time to chat with me (great guy, very nice and very knowledgeable).

Alright, let me delve right into AIMCo's 2016 results. AIMCo's fiscal year use to end at the end of March (like PSP and CPPIB) but it now ends on calendar year to make comparisons with other large Canadian pensions easier.

I would urge all of you to take the time to read AIMCo's 2016 Annual Report. Unlike its website, I consider this annual report excellent for a lot of reasons, chief among them is that it is very well written, all the information I was looking for is available and easy to find.

In the CEO message, Kevin Uebelein notes the following:
For the calendar year ending 2016, AIMCo earned a net return of 5.8%, outperforming our benchmark by 0.3% and earning our clients more than $225 million in excess value-add return above the passive benchmark. For the five-year period ending on December 31, 2016, AIMCo has earned an annualized net return of 9.5%, outperforming our benchmark for the same period by 0.9%. Given the uncertainty that exists in investment markets during even the calmest periods, I am particularly proud of our team for staying disciplined and maintaining conviction in our strategies.
So, the value-add in calendar year 2016 wasn't as high as in 2015 but over the last five years, it was decent (almost 100 basis points over the benchmark). And remember, what counts at large pensions is long-term performance.

Below, I embedded the asset class performance (from page 33 of the AR) over the last five years (click on image):


The first thing I noticed was the lower value-add in 2016 relative to other years. Dale shared this with me:
The lower “total return” is partly due to the specialty government funds who are invested in fixed income. Of course fixed income returns have been low compared to say infrastructure. The relative return versus the benchmark in all fixed income funds was very good. The reasons for the relative value add being only .3% at the total fund level was the drag from underperformance in real estate and private equity.
Dale told me that AIMCo takes less active risk than its large Canadian peer group and consistently ranks high in the CEM survey adding value at low cost.

The second thing I noticed, and really wanted to focus on, was the relatively poor performance in Private Equity and Real Estate.

On Real Estate, Dale told me that AIMCo is overweight Alberta and Calgary relative to its peers and has a larger Canadian exposure. Being overweight Alberta commercial real estate worked well for many years but not in 2016.

He also told me out of the $12.7 billion in real estate assets, $2 billion are in foreign real estate and they plan on diversifying more internationally in this asset class.

In Private Equity, which significantly underperformed its benchmark in 2016 and over the last five years, Dale told me there were three regimes at AIMCo:
  1.  Pure fund investments which didn't work very well 
  2.  A shift to direct investments (under Leo de Bever) which cut costs but was still not optimal
  3.  The current regime which is a mix of fund investments and co-investments to lower fees (basically the CPPIB/ PSP approach)
He also told me the foray into relationship investing and venture capital didn't prove to be profitable (click on image from page 45 of AR):


All this detracted from Private Equity's performance but going forward, this asset class will expand  significantly over the next few years (it is now only $3.2 billion out of $100 billion) as they choose the right partners to partner up with for fund investments and co-investments to reduce fees.

Infrastructure investments are doing well and will expand from $5 billion to $10 billion over the next few years.

In terms of benchmarks, AIMCo is very transparent (click on image from page 32 of AR):


I actually asked Dale about the shift away from the MSCI World as a benchmark for Private Equity to the one now which is CPI - lagged one month - plus 650 basis points (5-year rolling average).

Dale told me that using a Public Equity benchmark for Private Equity makes sense from an opportunity cost perspective but in practice that benchmark incentivized managers to take undue risks, especially since we've had an eight-year bull market and stocks have been roaring.

He also told me that they typically ask managers to add another 350 basis points above that benchmark and that from an efficient frontier perspective, this new benchmark is exactly where clients want the private equity program to be. Moreover, this benchmark offers  fund managers "more clarity and a better hurdle rate." He added: "The new benchmark was not chosen because it is easier to beat, in fact, it's not over a long period."

Dale MacMaster should have written a section in the Annual Report explaining these benchmarks, because when he was explaining it to me, it was very clear and made perfect sense.

Lastly, I asked him what risks he sees ahead, after all he is the CIO of a major pension fund. Dale told me they are "quite cautious tactically." He said it was quite remarkable to see this type of growth in the US and Canada not feed into inflation (not for a deflationista like me).

According to Dale, there might be something secular going on because of an aging demographics (Japan scenario) but it is widely accepted that we are in an era of low growth, low inflation for a lot longer.

More interestingly, he told me markets have done well for eight years but AIMCo makes serious money when there is a dislocation like 2008 where they invested big across public and private markets to capitalize on opportunities and reaped the benefits in subsequent years. "We are waiting for the fat pitch."

I really enjoyed my discussion with Dale MacMaster and thank him for taking the time to talk to me this morning. It also doesn't surprise me that he enjoyed the highest compensation at AIMCo last year (click on image, from page 68 of AR):


It's not typical for a CIO to make more than a CEO of a pension fund but you should keep in mind that Dale MacMaster has been around AIMCo a lot longer than Kevin Uebelein who became the CEO a couple of years ago. It's also important to note that compensation is primarily based on four-year cumulative returns, and in this regard, AIMCo has delivered solid results.

That is all from me. Once again, take the time to read AIMCo's 2016 Annual Report, it is excellent and very informative.

For some clips, Global News recently reported on how 4 downtown Edmonton office towers sold for $160M less than their value 7 years ago. Two of the buildings were purchased by AIMCo, which plans to use the space themselves. Longer term, this is an excellent move. Watch the clip here.

However, not everyone is happy with AIMCo. On May 4th, striking Parkdale tenants visited AIMCo's Toronto offices asking them to instruct the buildings’ management company, MetCap Living, to withdraw the rent hikes (see clip below). They subsequently received eviction notices from Metcap.

Unfortunately, and I say this to Parkdale Organize! and other social groups, AIMCo's mandate is the same as other large Canadian pensions, namely, to maximize returns without taking undue risk. Large Canadian pensions are not there to make sure every Canadian has affordable rent, they are there to make sure their contributors and beneficiaries can retire in dignity. It's that simple.

Update: A representative from AIMCo contacted me regarding the situation in Parkdale and told me they are in discussions with Parkdale tenants and hope to resolve this dispute very shortly.

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