PSP Investments Gains 18.4% in Fiscal 2021
Focus on strategic asset allocation, active asset management, diversification and long-term returns safeguards pensions of contributors and beneficiaries who dedicate their professional lives to public service
Highlights:
10-year net annualized return of 8.9% led to $11.3 billion in cumulative net investment gains above Reference Portfolio
Five-year net annualized return of 9.3% led to $4 billion in cumulative net investment gains above Reference Portfolio
One-year return of 18.4% marks best net return of the past 10 years
Net assets under management increased by 20.4% to $204.5 billion in fiscal year 2021
Continued focus on responsible investment activities enhances approach to ESG factors, climate change and data integration
Prompt response to COVID-19 pandemic includes a shift to an increasingly hybrid workplace
Montréal, Canada, June 16, 2021 - The Public Sector Pension Investment Board (PSP Investments) ended its fiscal year on March 31, 2021, with $204.5 billion of net assets under management (AUM) and an 18.4% one-year net portfolio return. Net assets under management grew by nearly $34.7 billion, up 20.4% from $169.8 billion at the end of the previous fiscal year. $31.6 billion came from net income that was impacted by negative currency movement of $13.4 billion, while $3.0 billion came from net contributions received by PSP Investments.
PSP Investments’ investment approach is designed to achieve the mandate set by the Government of Canada without exceeding its tolerance for funding risk, as expressed by the Reference Portfolio. Fully focused on long-term success, PSP Investments measures success based on the following performance objectives:
Achieve a return net of expenses greater than the return of the Reference Portfolio over 10-year periods. As of March 31, 2021, PSP Investments’ 10-year performance generated an annualized return of 8.9% that exceeded the performance of the Reference Portfolio by $11.3 billion, or 0.7% annually. This represents the value added by PSP Investments’ strategic asset allocation decisions and active asset management activities.
Achieve a return net of expenses, exceeding the Total Fund benchmark return over 10-year and five-year periods. As of March 31, 2021, PSP Investments’ 10-year annualized return of 8.9% exceeded the Total Fund benchmark by 1.1% per year, while the five-year annualized return of 9.3% exceeded the Total Fund benchmark by 1.0% per year. This represents the value added by PSP Investments’ active asset management activities.
“Our fiscal year began and ended in the midst of an active global pandemic, with all PSP Investments employees working from home,” said Neil Cunningham, President and Chief Executive Officer at PSP Investments. “I am exceptionally proud of our resilient and talented team that delivered PSP’s strongest absolute return in over 10 years through exceptionally turbulent times.”
“This investment performance demonstrates the strength of our portfolio and the inspired strategic actions taken to protect and enhance the long-term value of our holdings, and to create high-quality, long-term returns for our contributors and beneficiaries,” he added. “One of the long-term trends that has accelerated during the pandemic is the investor focus on ESG, including climate change. ESG risks and opportunities have long been integrated into our decision-making process for every active investment.”
“A key measure of PSP’s success is our long-term performance compared to the Reference Portfolio,” said Eduard van Gelderen, Senior Vice President and Chief Investment Officer and Interim Global Head of Capital Markets at PSP Investments. “This margin demonstrates the long-term value PSP Investments adds through portfolio construction and active investment activities. Over the past year, we continued to enhance our investment decision-making, remaining competitive, agile and ready to spot opportunities in today’s fast-changing investment environment.”
ASSET CLASS (at March 31, 2021) NET ASSETS UNDER MANAGEMENT (billion $)1 ONE-YEAR RETURN FIVE-YEAR RETURN % OF TOTAL NET ASSETS Capital Markets $97.5B 26.6% 10.0% 47.6% Private Equity $31.7B 28.4% 11.3% 15.5% Credit Investments $14.5B 10.5% 11.7% 7.1% Real Estate $26.8B 3.8% 6.1% 13.1% Infrastructure $18.4B 4.5% 10.5% 9.0% Natural Resources $9.7B 10.6% 9.0% 4.7% Complementary Portfolio $0.2B 0.2% 11.2%2 0.1%
As at March 31, 2021:
Capital Markets, which is comprised of two groups, Public Market Equities and Fixed Income, ended the fiscal year with $97.5 billion of net assets under management, an increase of $16.4 billion from the end of fiscal year 2020. The group generated portfolio income of $20.5 billion, for a one-year return of 26.6% versus the benchmark of 23.0%. The five-year annualized return was 10.0%, compared to the 9.3% benchmark. Public Market Equities, with a year-end AUM of $60.2 billion ($48.4 billion in 2020) and a five-year return of 13.1% (versus 12.1% for the benchmark), was able to outperform as global equity markets recovered from their initial March 2020 lows. Internal and external hedge funds largely contributed to the performance, which benefited from the surge in mergers, public offering activities and event-driven situations. Fixed Income ended the fiscal year with a net AUM of $37.3 billion, up from $32.7 billion at the end of fiscal year 2020, and outperformed its benchmark by 0.25%.
Private Equity ended the fiscal year with net assets under management of $31.7 billion, up $7.7 billion from the end of the previous fiscal year, and generated portfolio income of $7.2 billion, resulting in a one-year return of 28.4% versus the benchmark of 31.7%. The five-year annualized return was 11.3% versus the benchmark of 15.1%, primarily due to the underperformance of certain legacy investments in the communications, consumer staples and industrials sectors. However, the most recent portion of the portfolio, invested over the past six years following a change in asset class strategy and representing now over 85% of the asset class AUM, has generated a five-year return in excess of the benchmark. The portfolio income was primarily attributable to direct and co-investments in the health care, consumer discretionary, technology and financials sectors, which benefited from continued growth, favourable market conditions and successful exits. Performance was driven by $5.1 billion in acquisitions and $8.3 billion in valuation gains. New co-investments totalling $2.3 billion were made primarily in the US financials and communications sectors including, among others, the acquisition of significant interests in SitusAMC, a leading provider of services and technology supporting the real estate finance industry, headquartered in the US; and Ziply Fiber, a US-based provider of communication services to residential and commercial customers in the Pacific Northwest region.
Credit Investments ended the fiscal year with net assets under management of $14.5 billion, up from $13.3 billion from the end of the previous fiscal year, and generated portfolio income of $1.4 billion, resulting in a 10.5% one-year return that exceeded the benchmark of 9.6%. The 11.7% five-year annualized return also beat the 5.1% benchmark. The net AUM increase was mainly driven by $5.8 billion in acquisitions and net valuation gains of $1.6 billion, offset by $5.0 billion in dispositions primarily due to opportunistic refinancing by borrowers as the market recovered. Credit Investments continues to benefit from strong credit selection, allowing for interest income that has exceeded the benchmark since inception.
Real Estate ended the fiscal year with $26.8 billion in net assets under management, up by $3.0 billion from the end of the previous fiscal year, and generated $1.0 billion in portfolio income, resulting in a 3.8% one-year return (versus -6.0% for the benchmark). The 6.1% five-year return exceeded the 3.7% return for the benchmark. Real Estate maintained its focus on building a world-class portfolio of assets in major international cities and deploying into high-conviction sectors. Key acquisitions included an investment in a U.S. residential single-family rental portfolio with Pretium, multiple acquisitions in PSP Investments’ U.S. life science partnership with Longfellow, the development of a second fully leased building to Amazon in the Boston Seaport district with WS Development and a large life science portfolio in leading U.S. and U.K. innovation markets through a Blackstone Fund.
Infrastructure ended the fiscal year with $18.4 billion in net assets under management, a $0.1 billion increase from the end of the previous fiscal year, and generated $0.8 billion of portfolio income, leading to a 4.5% one-year return that exceeded the benchmark of 3.5%. The five-year annualized return of 10.5% also exceeded the 4.3% benchmark. Portfolio income was primarily attributable to the communications sector for which the underlying investments benefited from sustained growth and favourable market conditions. Infrastructure deployment was mostly done across existing platforms and portfolio companies to provide necessary capital to support growth and acquisitions. Notable deployments include AirTrunk, one of the largest Asia-Pacific hyperscale data centre operators.
Natural Resources ended the fiscal year with net assets under management of
$9.7 billion, an increase of $2.1 billion from the end of the previous fiscal year, and generated portfolio income of $0.9 billion, for a one-year return of 10.6%, versus 7.7% for the benchmark. The 9.0% five-year annualized return also beat the benchmark of 3.7%. With the addition of over 200,000 hectares during fiscal year 2021, Natural Resources now has a global footprint of over 1.6 million hectares of farmland and almost 0.9 million hectares of timberland. Other notable developments include the acquisition of a high-quality timberland asset located in the heart of Chile’s forestry region, representing the group’s first timber footprint in Latin America; the acquisition of a diversified portfolio of wine grape vineyards in the United States; and a stake in one of the world’s largest olive producers in the Iberian Peninsula.Total Costs
PSP Investments continued to deliver strong results while operating efficiently. Total operating costs decreased from the previous year, mainly due to management decisions taken in response to the COVID-19 pandemic. A temporary hiring and salary freeze led to lower compensation costs growth than during the previous fiscal year. At the end of fiscal year 2021, the operating cost ratio was 28.0 bps, a 3.8 bps decrease versus the end of fiscal year 2020 (31.8 bps). PSP Investments’ total cost ratio decreased from 72.4 bps at the end of fiscal year 2020 to 67.1 bps at the end of fiscal year 2021.
Corporate Highlights
We assembled a dedicated taskforce to guide PSP Investments’ COVID-19 response and we shifted the entire organization to work remotely as of March 2020. Throughout the year, the taskforce monitored the evolving situation and adjusted our office opening and closing plans in keeping with local government guidelines and legal health and safety requirements. One of the expected permanent changes coming out of our pandemic experience will be a shift to an increasingly hybrid–virtual/physical–workplace, where employees don’t necessarily come into the office every day. This evolution should help us attract and retain the top talent needed going forward.
With our people working from home in fiscal year 2021, staying connected to them–and to what they needed to stay healthy and work productively–was one of our top priorities. We provided a financial allowance to support employees in setting up their remote offices and we prioritized the health, safety and wellness of our employees during the COVID-19 pandemic to ensure that we could continue to fulfill our mandate and responsibilities. This included enhancing our benefit plans with wellness and virtual physical and mental healthcare support, which was extended to our workforce and their family members, as well as planning alternate voluntary return-to-office workspace options in the geographies where we have a presence, all while meeting government and legal health and safety requirements.
We were proud to see our people responding with increased commitment, resilience and energy. They also demonstrated a renewed sense of community, rallying around our COVID-19 Emergency Relief Initiative and PSP Gives Back campaign to help raise $1.17 million for non-profits serving local communities and vulnerable citizens in the geographies where we have a presence.
Spearheaded by our Equity, Inclusion and Diversity (Ei&D) Council and its eight affinity groups, we continued to enhance our strong commitment to Ei&D. In the wake of the horrific incidents of racism witnessed during the year, we stepped up our Ei&D efforts to work harder for change. Our fight against racism aims at addressing all forms of hate and discrimination based on culture or religion. Our actions, educational communications and events focused on addressing the increase in hate crimes against people of Asian descent and the systemic racism which significantly impacts our Black and Indigenous communities. As part of our commitment, in July 2020 we signed on to the BlackNorth Initiative, by which we pledged to work toward ending anti-Black systemic racism.
Other Ei&D significant accomplishments include carrying out a structural inclusion audit and developing a three-year plan with the goal of advancing Ei&D, narrowing underrepresentation gaps, creating equitable practices and removing barriers to career advancement. Last but not least, we also introduced a Veteran Integration Program pilot to create opportunities for veterans to leverage their wide-ranging skill sets in the business world. The tailored, one-year program includes a personal development plan, coaching, mentoring and sponsorship support.
We continued to expand our responsible investment activities by further enhancing our approach to environmental, social and governance (ESG) factors, climate change and data integration. Responsible investment achievements during the past year included a systematic assessment of climate change physical and transition risks when evaluating investment opportunities, development tools to better integrate and assess potential material climate change and ESG risks and opportunities as part of our investment processes, and leading engagement efforts on diversity and inclusion. PSP Investments was recognized as a sustainability frontrunner in a United Nations report on sustainable practices of pension and sovereign wealth funds. Our 2021 annual Responsible Investment Report can be consulted here.
During fiscal year 2021 PSP Investments and our CEO Neil Cunningham joined the CEOs of Canada’s largest pension plan investment managers in a statement advocating for standardized disclosure of companies’ ESG risks and opportunities. The group called on companies to measure and disclose their performance on material, industry-relevant ESG factors using the Sustainability Accounting Standards Board (SASB) standards and the Task Force on Climate-related Financial Disclosures (TCFD) framework.
Fiscal year 2021 also marked the end of PSP Investments’ previous corporate strategy, Vision 2021, which executed transformative progress based on objectives set in 2016. These included shifting to a total fund investment approach and mindset throughout the organization, increasing our global footprint and improving the brand locally and internationally. Our total fund investment approach contributed to over 50 transactions completed during the fiscal year that entailed cross-asset class collaboration.
The Board of Directors approved our new strategic plan, PSP Forward, to advance how PSP Investments operates as a global organization focused on insight-driven decision-making that enhances total fund performance and our investments. The new strategy will also enable us to further fulfil our mandate and role as an insightful global investor and a valued partner that is selective across markets and focused on the long term. Our technology and digital strategy will be a key enabler of PSP Forward supporting PSP Investments with scalable systems, organized data and advanced analytics.
At least every 10 years, a special examination of PSP Investments is required by legislation. This exercise includes a rigorous review of our policies and practices. During fiscal year 2021, the Examiners, which included the Auditor General of Canada and Deloitte LLP, concluded that PSP Investments’ systems and practices provide reasonable assurance that assets are safeguarded and controlled, resources are managed economically and efficiently, and operations are carried out effectively.
Board renewal was another focus area in fiscal year 2021, as three Directors ̶–Mr. Léon Courville, Ms. Lynn Haight and Ms. Micheline Bouchard–fully completed their mandates with PSP Investments. We thanked departing Board Directors for their exceptional service, and we welcomed two new Board Directors: Ms. Marianne Harris and Ms. Susan Kudzman. Following these appointments, PSP Investments maintained its gender-balanced Board of Directors, now composed of five men and five women.
During fiscal year 2021, Mr. David Ouellet was promoted to Senior Vice President and Chief Technology and Data Officer and joined PSP Investments’ Executive Committee in recognition of the important role technology and data will play in our organization moving forward.
“I would like to express my deepest gratitude to our world-class global teams who proved their mettle and delivered the PSP edge in an extraordinary year,” said Neil Cunningham, President and Chief Executive Officer of PSP Investments. “Looking to the future, I am excited about our new corporate strategy, PSP Forward, which, we believe, will ensure PSP Investments remains well-positioned in the quickly changing investment landscape. We will continue to build on the foundation we’ve established through the impressive efforts of our people, whose engagement and resilience has enhanced our performance, agility and our ongoing commitment to equity, inclusion and diversity.”
For more information on PSP Investments’ fiscal year 2021 performance, visit investpsp.com or download the annual report here.
About PSP Investments
The Public Sector Pension Investment Board (PSP Investments) is one of Canada’s largest pension investment managers with $204.5 billion of net assets under management as of March 31, 2021. It manages a diversified global portfolio composed of investments in public financial markets, private equity, real estate, infrastructure, natural resources and credit investments. Established in 1999, PSP Investments manages and invests amounts transferred to it by the Government of Canada for the pension plans of the federal Public Service, the Canadian Forces, the Royal Canadian Mounted Police and the Reserve Force. Headquartered in Ottawa, PSP Investments has its principal business office in Montréal and offices in New York, London and Hong Kong. For more information, visit investpsp.com or follow us on Twitter and LinkedIn.
Alright, PSP released its fiscal year 2021 results and they're very impressive.
Earlier today, I had a chance to talk with Neil Cunningham, PSP"s President and CEO, to go over the results.
I want to begin by thanking Neil for taking some time to go over the results with me and also thank Maria Constantinescu for sending me materials before the call and for coordinating the conference call.
Before I get to my conversation with Neil, I urge you all to take the time to go over PSP's FY 2021 annual report here.
I'm going to go over the annual report and end with my conversation with Neil but I suggest you read everything as I integrate parts of our conversation into my analysis.
Let me begin with Martin Glynn, the Chair of the Board and his message on page 2. This is what caught my attention on the long-term focus:
While PSP’s COVID-19 response was a standing agenda item at Board meetings in fiscal year 2021, we also oversaw initiatives such as the development of the organization’s next long-term strategy. This work began two years earlier in a strategy session at which the Board and senior management considered long-term trends, priorities and risks, and decided on the direction PSP needed to go. From then on, CEO Neil Cunningham reported regularly to us on the progress being made, right up until February 2021 when the strategy was approved. As a Board, we’re confident that this new strategy—PSP Forward—will keep PSP strongly positioned to navigate the challenges of a fast-changing investment environment, live up to heightened stakeholder expectations and assist to fulfil its mandate.
PSP’s approach to ESG factors was another topic of discussion for the Board in fiscal year 2021. With the pandemic exposing cracks in society, and with mounting evidence of the pervasiveness of systemic racism and the threats posed by climate change, ESG related topics have never been so central to the investment conversation.
PSP has a lengthy history of identifying and managing ESG risks and opportunities in its investment processes, which has led to the high-quality portfolio it has today. As a Board, we reaffirmed our support for management’s approach to responsible investing, which focuses on managing risks and engaging with the companies in which we have an ownership position to improve their ESG practices and enhance long-term value.
Mr. Glynn also thanked outgoing board members Léon Courville, Lynn Haight and Micheline Bouchard, stating "their contributions to PSP and to our Board deliberations over many years were exceptional." and welcomed new board members Susan Kudzman and Marianne Harris to the Board.
Ms. Kudzman is the Chair of the Board at Yellow Pages and was formerly Executive Vice-President and Chief Risk Officer at CDPQ and Executive Vice-President, Chief Risk Officer and Corporate Affairs of Laurentian Bank of Canada. She is a specialist in risk management and also an actuary and will bring invaluable experience and knowledge to PSP where she sits on the Investment and Risk Committee as well as the HR and Compensation Committee.
Ms. Harris also sits on the Investment and Risk Committee and the Audit Committee and has extensive experience having previously headed the Financial Institutions Group, Americas of Bank of America Merrill Lynch.
Today I read
Our mandate and responsibilities to the Government of Canada, and to the more than 900,000 contributors and beneficiaries of the pension plans for whom we invest, underpin the strategies we develop to deliver investment performance. Our previous corporate strategy—Vision 2021—has reached its conclusion, having succeeded in building a global footprint and scaling our operations to allow us to diversify our growing portfolio by geography, sector and investment type, while continuously stress-testing and managing portfolio risk. These capabilities have served us well through periods of economic turbulence and market uncertainty, contributing to our solid 10-year return of 8.9%.
Our needs for the future underpin the ambition of our new corporate strategy, PSP Forward. Enduring changes in our investment environment require a renewed strategic focus to ensure we remain well positioned.
PSP Forward will advance how we operate as a global organization focused on insight-driven decision-making that enhances total fund performance and our investments in public and private markets. Fundamental to success will be to increasingly think transversally; to share and leverage resources and capabilities that exist throughout the firm; to test and then fail-or-scale new strategies as their results are measured; and to ensure that we constantly revisit existing programs and priorities so that we adapt as needed to changes in our environment.
PSP Forward is anchored by three strategic pillars: (1) enhancing our total fund performance and global operations by aligning our systems, resources and investment focus; (2) generating valuable insights by leveraging hubs that institutionalize our knowledge, data, asset management practices and relationships; and (3) building an engaged and resilient workforce. By rallying all teams across our global footprint to work ever more collaboratively, the strategy will guide how we navigate the challenges in our environment and succeed.
At the heart of PSP Forward is data and this is why during fiscal year 2021, Mr. David Ouellet was promoted to Senior Vice President and Chief Technology and Data Officer and joined PSP Investments’ Executive Committee in recognition of the important role technology and data will play in their organization moving forward.
The challenges are enormous, getting the data and interface right and allowing it to enhance the decision-making is critical to the success of PSP Forward and I can tell you through my extensive discussions with Mihail Garchev, VP and Head of Total Fund Management at BCI, this isn't easy and many of Canada's large pensions are still struggling with this, but it's critical to enhancing total fund management.
Data is also critical to integrate ESG into the decision-making process. In fact, Neil ended his message on connecting to the future by stating:
One of the long-term trends that has accelerated during the pandemic is the investor focus on ESG, including climate change. We believe that ESG risk factors must be taken into account in every investment we make. For every active investment, we integrate ESG risks and opportunities into our decision-making process. Once we’ve made an investment, we then monitor and manage the associated risks throughout its life and use our ownership position to encourage responsible corporate conduct. In so doing, we not only protect and enhance the long-term value of our holdings, we also see significant investment opportunities in this trend, most notably in the transition to a low-carbon economy.
Recognizing the importance of ESG considerations in investment decision-making, I joined the CEOs of Canada’s largest pension plan investment managers in a statement advocating for standardized disclosure of companies’ ESG risks and opportunities. Specifically, we called on companies to measure and disclose their performance on material, industry-relevant ESG factors using the Sustainability Accounting Standards Board (SASB) standards and the Task Force on Climate-related Financial Disclosures (TCFD) framework. We also committed to continue strengthening our own ESG disclosure and integration practices and allocating capital to investments that are best placed to deliver long-term sustainable value. We intend to continue increasing our investments in green assets, or assets that already demonstrate strong environmental and climate-related performance. However, we also want to invest in low-carbon enablers and transition assets, which present an opportunity to accelerate the transition to a low-carbon economy. As of March 31, 2021, about 6% of our total assets under management were green assets, which represented about $12.6 billion. PSP is considering the possibility of green bond offerings in the future.Following up on these measures, we engaged with portfolio companies with whom we had cast a vote by exception through a proxy letter campaign to deepen our understanding of their corporate governance and sustainability management practices during the pandemic. I encourage you to read the Responsible Investment Report (page 86) and climate- related disclosure (page 105) included in this year’s annual report to learn more.
PSP specializes in spotting opportunities on the edge. As we look ahead, we see potential for new types of investments that don’t fit neatly into traditional asset classes but would provide us with non-correlated returns to help achieve our mandate. Many of these types of investments are held in what we call our Complementary Portfolio.
Remember, ESG is about offense and defense, you need to play both and in order to integrate it properly into your decision-making, you need to know what you're measuring or else you're flying blind.
This is why in FY 2021, Neil Cunningham joined the CEOs of Canada’s largest pension plan investment managers in a statement advocating for standardized disclosure of companies’ ESG risks and opportunities. The group called on companies to measure and disclose their performance on material, industry-relevant ESG factors using the Sustainability Accounting Standards Board (SASB) standards and the Task Force on Climate-related Financial Disclosures (TCFD) framework.
This is a work in progress but it's definitely going in the right direction (they need to keep getting the word out).
As far as the Complementary Portfolio, it falls under the Office of the CIO headed by Eduard van Gelderen, the CIO and Interim Global Head of Capital Markets.
Eduard and his team are doing great work on total fund management and in fiscal 2021, they carried out important changes to the asset mix which the Board approved.
I encourage you to read the Q&A with Eduard starting on page 16 of the annual report:
In terms of the asset mix, I note this passage:
In November 2020, our Board approved the recommended changes in our Policy Portfolio to better align the portfolio with the new Reference Portfolio. We were able to enhance the risk-return characteristics of the Policy Portfolio by using a wide range of different asset classes and by relying on the creativity of our investment teams. The launch of an infrastructure strategy with a strong correlation to inflation, which will help us to lower the funding risk, is a good example of the interaction between the total fund approach and the asset classes.
I believe Neil told me they reduced equity exposure and increased emerging market debt and infrastructure with a strong correlation to inflation.
On Responsible Investing, Eduard states this:
Responsible investment has been an integral part of our investment process for many years—every transaction submitted to our Investment Committee includes an ESG assessment.
For private markets, we assessed more than 140 direct investment opportunities from an ESG perspective—focusing mainly on employee health and safety, labour practices, business ethics, cybersecurity and climate change risks. For public markets, we supported more than 150 ESG assessments, with proxy voting and engagement activities related to listed companies continuing to be an important area of focus too. I am very impressed that we were able to do all this in a work-from-home environment.
A significant part of our work is developing tools to harness and capitalize on the increasing amounts of ESG data available to us. We are very excited about this development as this data will enable our ESG activities to become more fact-based. At the same time, we are fully aware of the current limitations; not all data is relevant, and the amount of data is still too limited to base firm conclusions on. Moreover, a lot of data covers public equity markets, but not necessarily private assets. We’re exploring how artificial intelligence can help us to overcome these challenges.
These new tools not only improve our capacity to assess risks, they’re also being used to help identify investment opportunities that arise in an ever-evolving ESG landscape. This is a second important shift in our ESG approach. For example, our climate change toolkit helps our investment professionals assess climate-related risks and opportunities in all our private market investment opportunities. We are very keen to understand and adequately assess the investment opportunities and assets related to the energy transition as well as low-carbon assets. This is why we assembled a multi-asset class deal team—the Climate Working Group—to determine actionable investment opportunities in climate change and to start due diligence on a select number of them.
I encourage you to see "performance that matters" starting on page 18 to see some examples of ESG in action.
In terms of underperforming the Reference Portfolio (benchmark portfolio) in FY 2021, Eduard notes:
Our one-year net rate of return for fiscal year 2021 was lower than the Reference Portfolio’s 21.8% return, but this is not unexpected given the strong performance of public equities. PSP’s investment strategy is designed to exceed the return of the Reference Portfolio over the long term without exceeding its level of funding risk. The long-term horizon offers compelling investment opportunities, which have little to do with short-term market volatility. We strongly believe in the long-term benefits of our portfolio, and fully realize that it can underperform the Reference Portfolio over shorter periods when public equity returns are exceptionally strong.
A comparison over PSP’s longer investment horizon is therefore much more meaningful. PSP’s return of 8.9% over the last 10 years exceeds the Reference Portfolio’s 8.2% return, which indicates that we continue to fulfill our objective of adding value.
I couldn't agree more and I told Neil it drives me mad when people compare the performance of Canada's large pension investment managers without understanding their asset mix and what makes up the Reference Portfolio.
For example, CPP Investments has the same fiscal year as PSP Investments and it gained a record 20.4% in fiscal 2021, underperforming its Reference Portfolio which is made up of 85% Public Equities by 10%. I said that's not the point, the point is they made 20% and are way above the required minimum return the Chief Actuary of Canada set to ensure the plan's solvability over the long run.
And the fact that CPP Investments made 20.4%, outperforming PSP's 18.4% for fiscal 2021 is also explained by the respective equity risk each takes (Neil told me PSP's Reference Portfolio has 59% in public equities). In other words, you're not comparing apples to apples but I can confidently state both Funds are doing a great job over the long run, which is the only thing that counts.
Importantly, note this passage:
Policy Portfolio is built as a more diversified, resilient and liability-aware portfolio than the Reference Portfolio. It articulates PSP Investments’ long-term target asset class exposures. The objective for the Policy Portfolio is to achieve a return greater than the Reference Portfolio over a period of 10 years with a lower or equal level of pension funding risk. This is achieved by including asset classes that diversify our sources of risk and return such as Real Estate, Private Equity, Infrastructure, Natural Resources, and Credit Investments.
The Policy Portfolio is basically PSP's strategic asset allocation made up of public and private asset classes whereas the Reference Portfolio is used to gauge long-term performance (value add based on active management).
For example, note this part in PE:
Private Equity ended the fiscal year with net assets under management of $31.7 billion, up $7.7 billion from the end of the previous fiscal year, and generated portfolio income of $7.2 billion, resulting in a one-year return of 28.4% versus the benchmark of 31.7%. The five-year annualized return was 11.3% versus the benchmark of 15.1%, primarily due to the underperformance of certain legacy investments in the communications, consumer staples and industrials sectors. However, the most recent portion of the portfolio, invested over the past six years following a change in asset class strategy and representing now over 85% of the asset class AUM, has generated a five-year return in excess of the benchmark. The portfolio income was primarily attributable to direct and co-investments in the health care, consumer discretionary, technology and financials sectors, which benefited from continued growth, favourable market conditions and successful exits. Performance was driven by $5.1 billion in acquisitions and $8.3 billion in valuation gains. New co-investments totalling $2.3 billion were made primarily in the US financials and communications sectors including, among others, the acquisition of significant interests in SitusAMC, a leading provider of services and technology supporting the real estate finance industry, headquartered in the US; and Ziply Fiber, a US-based provider of communication services to residential and commercial customers in the Pacific Northwest region.
Importantly, Private Equity is firing on all cylinders at PSP and I couldn't care less if it underperformed its benchmark over one and five years (they explain why).
What about Real Estate?:
Real Estate ended the fiscal year with $26.8 billion in net assets under management, up by $3.0 billion from the end of the previous fiscal year, and generated $1.0 billion in portfolio income, resulting in a 3.8% one-year return (versus -6.0% for the benchmark). The 6.1% five-year return exceeded the 3.7% return for the benchmark. Real Estate maintained its focus on building a world-class portfolio of assets in major international cities and deploying into high-conviction sectors. Key acquisitions included an investment in a U.S. residential single-family rental portfolio with Pretium, multiple acquisitions in PSP Investments’ U.S. life science partnership with Longfellow, the development of a second fully leased building to Amazon in the Boston Seaport district with WS Development and a large life science portfolio in leading U.S. and U.K. innovation markets through a Blackstone Fund.
Neil and I spoke about Real Estate as he was the head of this asset class prior to becoming CEO.
He told me the trends were clear prior to the pandemic, retail was losing ground and logistics and multifamily were gaining. "The pandemic only accelerated these trends but we were repositioning the portfolio before, diversifying geographically and by sector."
That pretty much explains how PSP's Real Estate portfolio gained in fiscal 2021 when most others got hit in 2020.
Every asset class performed well last year, especially Capital Markets where the performance of internal and external hedge funds added significant alpha:
Capital Markets, which is comprised of two groups, Public Market Equities and Fixed Income, ended the fiscal year with $97.5 billion of net assets under management, an increase of $16.4 billion from the end of fiscal year 2020. The group generated portfolio income of $20.5 billion, for a one-year return of 26.6% versus the benchmark of 23.0%. The five-year annualized return was 10.0%, compared to the 9.3% benchmark. Public Market Equities, with a year-end AUM of $60.2 billion ($48.4 billion in 2020) and a five-year return of 13.1% (versus 12.1% for the benchmark), was able to outperform as global equity markets recovered from their initial March 2020 lows. Internal and external hedge funds largely contributed to the performance, which benefited from the surge in mergers, public offering activities and event-driven situations. Fixed Income ended the fiscal year with a net AUM of $37.3 billion, up from $32.7 billion at the end of fiscal year 2020, and outperformed its benchmark by 0.25%.
Credit Investments, Infrastructure and Natural Resources also posted solid gains.
Any way you slice it, it was a great year for PSP and its contributors and beneficiaries.
Conversation with Neil Cunningham
I've already covered some of the things Neil and I spoke about above but will quickly go over our conversation and important points we discussed:
- We talked about employee engagement surveys and how they made them shorter and more frequent, allowing them to include COVID related questions to gauge their employees morale and concerns. "One of the concerns was ongoing training so we moved quickly to post things online allowing our employees to receive the training they require. Our employee engagement remained high despite the pandemic which is why I am proud of our management team."
- I asked Neil about this passage in the press release: "One of the expected permanent changes coming out of our pandemic experience will be a shift to an increasingly hybrid–virtual/physical–workplace, where employees don’t necessarily come into the office every day. This evolution should help us attract and retain the top talent needed going forward." Neil told me their employees like being at the office but they don't like commuting, which is in line with findings of a national survey, so they want to offer them more flexibility to work from home when they can.
- We talked about diversity and inclusion. Their Equity, Inclusion and Diversity (Ei&D) Council and its eight affinity groups, continued to enhance their strong commitment to Ei&D. I praised the program to recruit more veterans and I told Neil that working from home allows PSP and other large pensions to recruit people with disabilities who might not be able to commute as frequently. Neil agreed with me and I do hope to see more action on this front from PSP, CDPQ and others (not holding my breath here until I see a big fat Greek offer to yours truly!!).
- What else? We talked about PSP Forward and the Policy Portfolio and Reference Portfolio, all of which I covered above. The next strategic initiative really centers around data and improving it to enhance decision-making at PSP within groups and among them. On total fund management, Neil discussed dynamic asset allocation, dynamic currency hedging (I can recommend a great currency person) tail-risk hedging, all of which fall under the responsibilities of the CIO. With stocks and bonds at historic valuation extremes, these activities will become a lot more important but they do carry risks (career risk being the biggest one because one terrible year an you're done).
- Lastly, Neil praised the Board and said he's very proud of the employees and how they came together during a tough year to deliver outstanding results. He also said they have "an excellent relationship" with the sponsor (TBS) and ongoing discussions with clients.
Neil is an excellent CEO, he has a lot of experience at PSP and beyond, and PSP's beneficiaries and contributors are lucky to have him and all the members of the senior management there (in particular, Eduard van Gelderen and David Scudellari who is awesome at managing credit investments).
Lastly, as I customarily do, I will end with executive compensation of senior executives:
I will end it there and once again thank Neil Cunningham for taking the time to talk to me. Maybe next time we can set up a one on one meeting and I wouldn't mind meeting Eduard and David too.
Also, while I appreciate communications people, it's better when I talk one on one with CEOs as I find it too formal when communications people sit in on our discussions (I know, they're just doing their job and the CEO has other people to talk to, like reporters who wrongly focus on short-term results).
Below, I was going to embed a recent conversation with PSP's CEO, Neil Cunningham but the Canadian Club of Montreal took it off YouTube (so annoying but I took plenty of notes so read my comment).
Instead, take the time to watch Federal Reserve Chairman Jerome Powell hold a press conference earlier today after the central bank wrapped up its two-day policy meeting on Wednesday.
The Federal Reserve raised its inflation expectations and moved up the time frame on when it will hike interest rates next. The policymaking Federal Open Market Committee indicated that rate hikes could come as soon as 2023, after signaling in March that it saw no increases until at least 2024.
Still, Powell downplayed rate hike forecasts and reiterated an accommodative stance:
“The dots are not a great forecaster of future rate moves and it’s just because it’s so highly uncertain,” Powell told reporters after the central bank’s announcement that it was holding interest rates at near zero.
Powell added that dot plots should be taken with a “big grain of salt,” reminding Fed watchers that the central bank will guide policy based on outcomes, not outlooks.
We shall see how markets react in the coming days and weeks but it looks like more of the same, for now.
Update: In an interview with Bloomberg, Neil Cunningham expanded on asset allocation shifts during FY 2021:
“We’ve shifted money to these assets that can provide the same risk factors, but with higher returns,” president and chief executive officer Neil Cunningham said in an interview Wednesday.
In particular, PSP Investments is betting on infrastructure as the global economy recovers from a pandemic-induced slump.
“We’ve increased allocation to high-correlated infrastructure to capture that real return aspect of infrastructure on assets that are long dated and going to involve a lot of credit and operational risk, as we’ve been looking for alternatives to the traditional bond investments,” he said.
Also, in an extensive interview with Top1000Funds, CIO Eduard van Gelderen explains why over the past five years a big focus at PSP Investments has been developing the total fund portfolio approach including the team and decision making:
“When the uncertainty started the most important thing was that we didn’t panic,” he says. “We had a controlled way of looking at our portfolio on the public and private side of investments and didn’t really change positions that much. We didn’t feel any pressure to change or sell, far from it.”
The team’s approach is very focused on the long term and assessing positions on that basis. There was increased analysis of the portfolio during the market volatility, including every line item and the watch list grew from its usual 2-3 per cent, but there was not much movement in strategic positions.
“The process we have in place is very solid, every individual deal goes through an investment and risk committee and there is an independent role by the risk team to assess positions. The collective knowledge we have on individual positions is very high. That helped us not to panic and not to sell and that clearly paid off,” van Gelderen says.
You can read the full interview here as well as this Institutional Investor article where Eduard provides more insights.
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