Friday, March 23, 2018

Market Phishing For Inflation Phools?

Desmond Lachman of the American Enterprise Institute wrote a comment, Behind the curve at the Federal Reserve:
History will not judge Janet Yellen’s Federal Reserve kindly should U.S. inflation accelerate in the months ahead as is all too likely to occur. At a time when there was every reason last year for the Fed to be accelerating the pace at which it was raising interest rates, Janet Yellen’s Fed effectively sat on its hands. As a result, Jerome Powell has inherited a Fed that is substantially behind the curve in terms of its efforts to prevent a return in U.S. inflation.

One reason that in 2017 Mrs. Yellen’s Fed should have been adjusting upward its path of planned interest rate increases was because of the substantial increase in household wealth during the year. Since the start of 2017, U.S. equity prices increased by 25 percent while U.S. home prices increased by 6 percent. This constitutes approximately a US$8 trillion increase in household wealth or the equivalent of around 40 percent of U.S. GDP. On the assumption that households are likely to spend 4 cents on every dollar of increased wealth as the Fed itself estimates, this alone constitutes a boost to U.S. aggregate demand of more than 1 ½ percent of GDP.

A second reason why in 2017 the Fed should have been more aggressive was because of the U.S. dollar’s sharp fall. Since the start of 2017, the U.S. dollar is estimated to have depreciated by around 10 percent. Past experience with dollar depreciations of that order of magnitude would suggest that over the next year or two the weaker dollar could boost U.S. aggregate demand by more than 1 percent of GDP. In addition, it could increase U.S. core inflation directly by around ¼ percent.

Yet another reason why the Fed should have adjusted upward its path of interest rate increases was to neutralize the effect of a more expansionary U.S. fiscal policy. Over the past year, not only did President Trump succeed in securing Congressional passage of an unfunded tax cut that would increase the U.S. budget deficit by around US$1 ½ trillion over the next decade, he also went along with Congress’ US$300 billion increase in public expenditures over the next two years.

According to IMF estimates, the net effect of the Trump tax cut and public spending increases will be to boost U.S. aggregate demand by around ¾ percent of GDP in both 2018 and 2019. That alone should have been reason for Mrs. Yellen’s Fed to have been more aggressive than it was in its interest rate policy.

Mrs. Yellen’s failure to pursue a more aggressive monetary policy certainly must heighten the risk that the U.S. economy will soon overheat. At a time that U.S. unemployment is already down to 4 percent, the U.S. economy is now being boosted by extraordinarily easy financial conditions as evidenced by still very low interest rates, buoyant equity prices, and a weak dollar. In addition, at this late stage in the economic cycle, it is receiving additional support from the Trump fiscal stimulus.

It should be little wonder then that the U.S. economy is now humming along at an unsustainable 3 percent pace, which is much faster than its potential growth rate. It would also seem that it is only a matter of time before the U.S. labor market tightens further and inflation starts rising. As if to underline this point, one would think that it should be of concern to the Fed that five-year inflation expectations as measured in the bond market are already significantly above the Fed’s 2 percent inflation target.

There will be those who will be advising Jerome Powell to let the economy run faster and to wait until inflation starts to accelerate before making any upward to its interest rate path. Mr. Powell would do well to disregard that counsel. Rather, he should be mindful that monetary policy operates with long and variable lags and that once the inflation genie is out of the bottle it is difficult to get it back in.

He should also be mindful of the likelihood that any further sign that the Fed is being too easy on inflation will invite the wrath of the bond market vigilantes. At a time when there are asset and credit market bubbles around the globe that are waiting on a trigger to burst, the last thing that Mr. Powell needs is a disorderly rout in the U.S. bond market.
I like Desmond Lachman of the American Enterprise Institute, think he's a first-rate economist who writes and covers markets and the economy extremely well.

The only problem is I don't agree with him, hence the title of this comment which is a word play on a book I'm currently reading, Phishing For Phools. Written by two Nobel-prize winning economists, George A, Akerlof and Robert J. Shiller, this is a very readable great little book which is all about the economics of manipulation and deception.

In fact, read the PDF introduction of this book here just to get a flavor for the subject they cover. There is a passage in the intro I particularly Ioved on the alleged optimality of free-market equilibrium:
There is a perhaps surprising result that, indisputably, lies at the very heart of economics. Back in 1776, the father of the field, Adam Smith, in The Wealth of Nations, wrote that, with free markets, as if “by an invisible hand ... [each person] pursuing his own interest” also promotes the general good.

It took a bit more than a century for Smith’s statement to be precisely understood. According to the modern version, commonly taught even in introductory economics, a competitive free-market equilibrium is “Pareto optimal.” That means that once such an economy is in equilibrium, it is impossible to improve the economic welfare of everyone. Any interference will make someone worse off. For graduate students, this conclusion is presented as a mathematical theorem of some elegance—elevating the notion of free-market optimality into a high scientific achievement.

The theory, of course, recognizes some factors that might blemish such an equilibrium of free markets. These factors include economic activities of one person that directly affect another (called “externalities”); they also include bad distributions of income. Thus it is common for economists to believe that, those two blemishes aside, only a fool would interfere with the workings of free markets. And, of course, economists have also long recognized that firms that are large in size may keep markets from being wholly competitive.

But that conclusion ignores the considerations that are central to this book. When there are completely free markets, there is not only freedom to choose; there is also freedom to phish. It will still be true, following Adam Smith, that the equilibrium will be optimal. But it will be an equilibrium that is optimal, not in terms of what we really want; but an equilibrium that is optimal, instead, in terms of our monkey-on-our-shoulder tastes. And that, for ourselves, as for the monkeys, will lead to manifold problems.

Standard economics has ignored this difference because most economists have thought that, for the most part, people do know what they want. That means that there is nothing much to be gained from examining the differences between what we really want and what those monkeys on our shoulders are, instead, telling us. But that ignores the field of psychology, which is, largely, about the effects of those monkeys.

As exceptions, behavioral economists, especially for the past forty years, have been studying the relationship between psychology and economics. That means that they have brought the consequences of the monkeys to center stage. But, curiously, to the best of our knowledge, they have never interpreted their results in the context of Adam Smith’s fundamental idea regarding the invisible hand. Perhaps it was just too obvious. Only a child, or an idiot, would make an observation like that and expect anyone to notice. But we will see that this observation, simple as it may be, has real consequences. Especially so, because, as Adam Smith might say, as if by an invisible hand, others out of their own self-interest will satisfy those monkey-on-the-shoulder tastes.

Thus we may be making only a small tweak to the usual economics (by noticing the difference between optimality in terms of our real tastes and optimality in terms of our monkey-on-the-shoulder tastes). But that small tweak for economics makes a great difference to our lives. It’s a major reason why just letting people be Free to Choose — which Milton and Rose Friedman, for example, consider the sine qua non of good public policy — leads to serious economic problems.
What does this book and passage have to do with what Desmond Lachman covered in his comment above on the Fed being behind the inflation curve? Is Lachman trying to deceive us?

Of course not but I believe the market is phishing for inflation phools. Lachman, the Maestro, and a few hedge fund gurus like Paul Tudor Jones, Ken Griffin, Paul Singer, and others warning of inflation have completely misunderstood the ongoing inflation disconnect because they don't understand the deflationary structural factors weighing down the economy (or aren't willing to discuss them publicly).

Last September, I wrote a comment on why I still fear deflation is headed to America where I brought up seven structural factors that lead me to believe we are headed for a prolonged period of debt deflation:
  1. The global jobs crisis: High structural unemployment, especially youth unemployment, and less and less good paying jobs with benefits. Lots of discussion how more andmore people are leaving the ranks of long-term unemployed and re-entering the workforce butin reality, these are just young people who couldn't find work after the 2008 crisis hit and are now only catching up. Hysterisis remains a big problem for the US and developed economies.
  2. Demographic time bomb: A rapidly aging population means a lot more older people with little savings, living longer and spending less.
  3. The global pension crisis: As more and more people retire in poverty, they will spend less to stimulate economic activity. Moreover, the shift out of defined-benefit plans to defined-contribution plans is exacerbating pension poverty and is deflationary. Read more about this in my comments on the $400 trillion pension time bomb and the pension storm cometh. Any way you slice it, the global pension crisis is deflationary and bond friendly.
  4. Excessive private and public debt: Rising government and consumer debt levels are constraining public finances and consumer spending. In essence, too much private and public debt constrains long-term growth.
  5. Rising inequality: Hedge fund gurus cannot appreciate this because they live in an alternate universe but widespread and rising inequality is deflationary as it constrains aggregate demand. The pension crisis will exacerbate inequality and keep a lid on inflationary pressures for a very long time. This means rates will stay lower for a lot longer.
  6. Globalization: Capital is free to move around the world in search of better opportunties but labor isn't. Offshoring manufacturing and service sector jobs to countries with lower wages increases corporate profits but exacerbates inequality.
  7. Technological shifts: Think about Amazon, Uber, Priceline, AI, robotics, and other technological shifts that lower prices and destroy more jobs than they create.
These are the seven structural factors I keep referring to when I warn investors to temper their growth forecasts and to prepare for a long bout of debt deflation.

It's important to differentiate between structural (long-term) factors and cyclical (short-term) factors when discussing inflation trends. As I've repeatedly stated, the decline in the US dollar last year was a cyclical inflationary headwind because it will temporarily raise US import prices this year and raise US core inflation which seems tame but is rising fast (click on image):

Now, here is where I want you to pay close attention because many investors are currently positioned for the wrong type of inflation and they will feel the pain in the second half of the year as the US and global economy slow.

Importantly, while core inflation is set to accelerate which might cause the Fed to overshoot and hike rates more than anticipated, headline inflation will continue declining in the coming months as global leading indicators decelerate from peak levels.

On Thursday, I listened to François Trahan and Michael Kantrowitz of Cornerstone Macro where they painstakingly went over The Big Inflation Trap of 2018.

Now, keep in mind, after leaving BCA Research in 2000 to join the Caisse, I was working in a small team which was literally in charge of reading external research from brokers and independent firms and filtering the very best ideas to the Caisse's senior portfolio managers. I read everything and still read tons of market related sites to learn and try to get a grasp on what's going on.

When I tell you François Trahan and Michael Kantrowitz killed it yesterday, they really killed it, to the point where I emailed François late last night after viewing the replay to tell him this was their best presentation ever, if people don't walk away really thinking hard about The Big Inflation Trap of 2018, then it's not François or Michael's fault.

If you ever wondered why top institutions pay big money to read research insights from Cornerstone Macro then stop and ask to listen to this presentation and pay very close attention. It's truly worth an hour of your time.

François is sick with the flu but he was kind enough to allow me to share a couple of charts with my readers. There were so many of them so it was hard to choose and I still want you to take the time to listen to their entire presentation (if your company desn't subscribe to Cornerstone Macro, make sure you do so, it's well worth it).

Anyway, François and Michael began by explaining why we are now entering a different phase of the market (click on image, do not redistribute or you will be prosecuted):

The focus of their conference call was the slide below, namely, past peak leading indicators, it's not uncommon to see headline inflation wane while core inflation picks up (click on image, do not redistribute or you will be prosecuted):

And it's the pickup in core inflation which will complicate the backdrop because this is the measure the Fed and investors pay attention to (click on image, do not redistribute or you will be prosecuted):

The problem is investors are positioned for the wrong type of inflation, namely, headline not core inflation (click on image, do not redistribute or you will be prosecuted):

I've shared more than enough, make sure you watch the replay of The Big Inflation Trap of 2018 where François Trahan and Michael Kantrowitz do a masterful job in explaining how core and headline inflation move in opposite directions after leading indicators peak and what this means for your portfolio and what risk lie ahead.

You'll recall François Trahan helped me write my Outlook 2018: Return to Stability, where we explained why it's important to shift to a more defensive stance this year. And this despite the real threat of a trade war going forward (still not convinced it will happen but watching Trump surround himself with hawks makes me nervous).

Another thing I can share with you is François still thinks the yield curve is the most important indicator and it will likely invert over the next year as short rates remain high but long rates decline fast as the US economy slows. If the Fed hikes too aggressively, he sees a real risk of another recession over th enext year or year and a half.

In terms of where to invest, François still likes US long bonds (TLT), the US dollar (UUP) and is positioned more defensively in equities focusing on stable sectors like healthcare (XLV) and consumer staples (XLP) and interest-rate sensitive sectors like utilities (XLU), telecoms (VOX) and REITs (IYR).

Given his defensive stance, François is underweight cyclicals like energy (XLE), financials (XLF), metals and mining (XME) and industrials (XLI). 

I'm going to go a step further in this comment and tell you I'm short tech (XLK) and semiconductors (SMH) and would steer clear of value traps like oil service stocks (OIH) which remain cheap despite the rise in oil prices (click on image):

I know, some energy stocks are really cheap and are due for a nice bounce but given my long-term inflation views, they will remain cheap for a very long time. Be careful of inflation and value traps!

What else? Both large (IBB) and small (XBI) biotech shares continue to do well but these high beta stocks are also toppish and I would proceed with extreme caution (click on images):

Don't get me wrong, I still see opportunities in biotech and love trading small biotech shares but I'm increasingly nimble, not overstaying my welcome, paying close attention every day to what is moving up and down on my watch list which doesn't just consist of biotechs (click on images):

What else? As I recently shared, I remain short Facebook (FB) / long Twitter (TWTR) as a pairs trade, I'm outright short Micron Technology (MU), think it's headed back to $40 a share or even lower, and I'm short US Steel (X) and Freeport-McMoran (FCX) and wouldn't touch any metal and mining or energy share with a ten foot pole, even for a bounce.

I'm also short Dow high-flyer Boeing (BA) which has defied my wildest predictions when I wrote about its huge pension gaffe a few months ago, rising to new highs before getting clobbered recently (click on image):

In fact, this may be the biggest short the market has to offer over the next year or two so pay attention if you're still bullish on Boeing (lighten up and take some profits).

My biggest LONG? That's easy, on a risk-adjusted basis, I continue to love US long bonds (TLT) over the next year or two (click on image):

As far as the overall market (SPY), it's been a terrible end of the week and we shall see what next week brings:

What else? I think I've rambled on enough here. I'm tired and remind all of you that it takes a lot of time and effort to write these comments, so if you take the time to read them and like my blog, take the time to donate and/ or subscribe on the right-hand side under my picture. 

Please don't tell me how good I am and how much you love reading my blog, show me by dipping in your pocket and send a donation my way. I thank those of you who have taken the time to donate and kindly remind those of you who are regular readers of this blog (some for years) to do the right thing and support my efforts, especially if you like the content of the blog.

I'm not phishing for blog phools, I'm asking people to do the right thing and donate to support this blog because let's be honest, there's nobody out there crazy enough to provide you with free great daily insights on pensions and markets. 

In fact, there are many financial blogs but there is no blog on earth which covers pensions and investments with the breadth and depth that I do. 

Lastly, take the time to listen to the latest MacroVoices podcast with Jeffrey Snider here and you can view the slides he discusses here. Great discussion, listen to Snider, he really understands the significance of the yield curve. You can also watch it here.

Below, Shawn Cruz, TD Ameritrade manager of trader strategy, discusses buying opportunities as the market sells off into the close.

How come they're always discussing "buying opportunities" on television and not a peep about shorting opportunities? I guess they're phishing for phools to unload their crap on. Be careful!

Thursday, March 22, 2018

Ontario Teachers' Bets on a Gaming Giant?

The Canadian Press reports, Ontario Teachers’ Pension Plan buying $400M stake in video game giant Ubisoft:
The Ontario Teachers’ Pension Plan is spending about $400 million to take a 3.4 per cent stake in French video game giant Ubisoft as part of a complex deal that will allow French conglomerate Vivendi to sell all of its Ubisoft shares.

Vivendi, which was said to be considering a takeover when it accumulated its Ubisoft stake over the past few years, has agreed to sell its 30.5 million shares and not buy any more for at least five years.

Ontario Teachers’ has agreed to acquire 3.8 million shares in the company, which produces games including Assassin’s Creed and Tom Clancy’s Rainbow Six, while Chinese internet giant Tencent is to buy 5.6 million shares.

The rest are to be bought by Ubisoft and cancelled, or sold to existing shareholders and, through an offering, to institutional investors.

Ubisoft says it has a strategic partnership with Tencent that will “significantly accelerate” the reach of Ubisoft franchises in China in the coming years.
Maya Nikolaeva, Matthieu Rosemain and Cate Cadell of Reuters also report, Vivendi selling Ubisoft stake for $2.45 billion, ends battle for control:
French media giant Vivendi is selling its stake in Ubisoft for 2 billion euros ($2.45 billion) to investors including Chinese tech titan Tencent, ending a potential takeover battle for the French video games maker.

Billionaire Vincent Bollore's Vivendi, which had been raising its holding in Ubisoft, has agreed to sell its 27.3 percent stake in the company, best known for its Assassin's Creed and South Park games.

Tencent Holdings Ltd, which dominates China's mobile gaming market, is investing almost 370 million euros for a 5 percent stake, while the Ontario Teachers' Pension Plan is spending 250 million euros for a 3.4 percent stake.

Ubisoft and Tencent will also form a strategic partnership to boost Ubisoft's reach into China, the world's largest video game market with estimated sales of $32.5 billion last year, according to data from gaming consultancy Newzoo.

The move represents a strategic setback for Bollore and Vivendi, which has pledged to make video gaming one of its key pillars along with advertising, music and pay-TV. As part of the deal Vivendi has committed to not acquire any further shares in Ubisoft for five years.

Vivendi's stake-building since 2015 had prompted Ubisoft's founding Guillemot family to court Canadian investors to fend off any hostile takeover.

After the sale Vivendi will remain active in video gaming through its acquisition of mobile game maker Gameloft, which was also founded by a Guillemot brother but is much smaller than Ubisoft, the French leader in this market.

Along with the investments from Tencent and Ontario Teachers, the deal also includes a share buy-back by Ubisoft that adds up to an 8.1 percent stake, as well as a share purchase by Guillemot Brothers SE and an accelerated book building with institutional investors.

Ubisoft said Vivendi had approached it several weeks ago about its intention eventually to sell its stake. Ubisoft started tapping up potential investors at that stage.

Tencent, Asia's biggest listed firm with a market value of around $540 billion, is investing heavily to expand its gaming empire at home and abroad. It launched some of its top games overseas last year, and last month invested 3 billion yuan ($474.73 million) in Chinese peer Shanda Games.

The firm, which stretches from social media to online payment, announced a strong fourth quarter profit on Wednesday, but said mobile gaming revenue growth had slowed.
Ontario Teachers' Pension Plan put out a press release, Ubisoft reaches agreement with Vivendi for its full exit from Ubisoft’s share capital:
  • Vivendi to sell its entire stake in Ubisoft representing 27.3% of Ubisoft's share capital
  • The transaction is structured in the following way:
    • Ontario Teachers' Pension Plan ("Ontario Teachers'") and Tencent, enter Ubisoft's share capital as long-term investors; as part of the transaction, Tencent and Ubisoft have also signed a strategic partnership agreement
    • Share buy-back by Ubisoft of shares owned by Vivendi, accretive to all Ubisoft shareholders
    • Acquisition by Guillemot Brothers SE of shares owned by Vivendi
    • Accelerated Bookbuilding with institutional investors for the remainder of Vivendi's stake
  • All transactions are realized at the price of 66 euros per share
  • Continued roll-out of Ubisoft's growth strategy, based on the company's transformation to a more recurring and profitable business model
  • Ubisoft confirms its financial targets for 2017-18 and 2018-19
Paris – Today, Ubisoft announced that it has signed an agreement with Vivendi for its full exit from Ubisoft's share capital, with the sale of all Vivendi's 30,489,300 shares. The transaction includes an investment by two new long-term investors, the Relationship Investing arm of Ontario Teachers' Public Equities division, and Tencent, a share buy-back by Ubisoft, an acquisition of shares by Guillemot Brothers SE and an Accelerated Bookbuilding with institutional investors. Following the implementation of the transaction, Vivendi will no longer hold any shares in Ubisoft, and has committed not to acquire any shares in Ubisoft for 5 years.

As part of the transaction, Ubisoft and Tencent have also announced today a strategic partnership that will significantly accelerate the reach of Ubisoft franchises in China in the coming years.

Yves Guillemot, CEO and Co-Founder, said: "The evolution in our shareholding is great news for Ubisoft. It was made possible thanks to the outstanding execution of our strategy and the decisive support of Ubisoft talents, players and shareholders. I would like to warmly thank them all. The investment from new long-term shareholders in Ubisoft demonstrates their trust in our future value creation potential, and Ubisoft's share buy-back will be accretive to all shareholders. Finally, the new strategic partnership agreement we signed will enable Ubisoft to accelerate its development in China in the coming years and fully leverage a market with great potential."

"Today, Ubisoft is fully reaping the benefits of our long-term strategy and the successful transformation towards a more recurring and profitable business. Ubisoft is perfectly positioned to capture the numerous video game growth drivers in the coming years. We are focused more than ever on delivering on our strategic plan."

Investment from new long-term shareholders in Ubisoft

Ontario Teachers' has committed to acquire 3,787,878 Ubisoft shares (3.4% of capital), equivalent to approximately €250 million and Tencent has committed to acquire 5,591,469 Ubisoft shares (5.0% of capital). These investments are made at a price of €66 per share and do not grant any representation on Ubisoft's board of directors. Tencent has also undertaken not to transfer its shares nor to increase its shareownership and votings rights in Ubisoft.

As part of the transaction, Ubisoft and Tencent have also signed a strategic partnership agreement that will significantly accelerate the reach of Ubisoft franchises in China in the coming years.

The entry of these two high-profile investors in Ubisoft's share capital validates Ubisoft's strategy and confirms the value creation potential for its shareholders in coming years.

Ubisoft share buy-back

Ubisoft agreed to buy back up to 9,090,909 of its own shares (8.1% of capital) from Vivendi through a structured transaction taking the form of a forward sale of Vivendi shares to Crédit Agricole Corporate and Investment Bank (CACIB), and a forward buy-back mechanism of shares from CACIB by Ubisoft, enabling Ubisoft to progressively buy-back shares from 2019 to 2021. This buy-back will be structured through a derivative product whereby Ubisoft will enter into a pre-paid forward agreement on part of the shares, with settlement in shares at maturity in 2021 or by anticipation, and for the remainder of the shares, a total return swap with settlement either at maturity or by anticipation at Ubisoft's discretion, either in cash (Ubisoft either benefiting or supporting the variation in the value of the relevant shares) or with a settlement in shares against the payment of the price for such shares. The share buy-back will be financed mainly through Ubisoft's existing financial resources. In the event of an increase in the size of the accelerated private placement, the number of shares that are bought back by Ubisoft will be reduced accordingly.

These acquisitions will be made at a price of €66 per share.

Shares bought-back are primarily intended to be cancelled with an accretive effect for all Ubisoft shareholders or used as part of share compensation plans or share-indexed compensation plans for employees.

Finexsi, acting as independent financial expert, rendered a fairness opinion on the share buy-back confirming that the financial terms of the transaction were fair for the minority shareholders of Ubisoft and that the transaction was in the corporate interest of Ubisoft.

Guillemot Brothers SE acquisition of shares

As part of the transaction, Guillemot Brothers SE agreed to acquire 3,030,303 shares (2.7% of capital) at a price of €66 per share, bringing Guillemot Brothers SE's ownership to 17,406,414 shares representing 19.4% of voting rights and 15.6% of share capital and the Guillemot concert to 20,636,193 shares, representing 24.6% of voting rights and 18.5% of share capital. The purchase will be implemented through a structured financing in the form of derivative instruments by which Guillemot Brothers SE will enter into a forward contract with CACIB and a collar financing on these Ubisoft shares, maturing in 2021 or by anticipation, and settled in shares or in cash. Shares underlying the collar financing will be pledged to CACIB, who will be authorized to re-use them from Guillemot Brothers SE subject to certain conditions specified in the agreement.

Accelerated Bookbuilding with institutional investors

The remainder of Vivendi's stake, representing 8,988,741 shares (8.0% of capital), will be sold at a price of €66 per share through an Accelerated Bookbuilding with institutional investors. Based on the level of interest in the placement, the size of the Accelerated Bookbuilding could be increased up to 1,500,000 shares, reducing accordingly the number of shares bought back by Ubisoft.

J.P. Morgan Securities Plc is acting as Sole Global Coordinator on the Accelerated Bookbuilding.

As part of this Accelerated Bookbuilding, CACIB, as Guillemot Brothers SE's counterpart in the forward contract and the collar financing will also sell 2,887,879 shares in the hedging of its derivatives operations.

The transaction will be launched today. Final terms as well as the outcome of the placement will be determined at the end of the bookbuilding expected on March 21, 2018. Settlement will take place two trading days after closing of bookbuilding.

Ubisoft financial targets confirmed

Ubisoft confirms its financial targets for 2017-18 and 2018-19, as well as its long-term growth perspectives.

J.P. Morgan Securities Plc and Lazard Frères are acting as financial advisors to Ubisoft while Bredin Prat is acting as legal counsel.
This is a very big deal for all parties involved. First, Vincent Bollore is selling his stake at a time when Ubisoft’s share price hit a 5-year high (click on image):

Second, this is a big deal for Ontario Teachers' Relationship Investing team led by Ken Manget (click on image):

From its website, Ontario Teachers' explains its approach to Relationship Investing:
Our investments are large — $200 million and upwith no pre-determined hold period. This longer term or "patient capital" view matches reflects Ontario Teachers' long-term obligations to pay pensions, and enables management teams to concentrate on improving long-term shareholder value.

For investee companies, we offer:
  • strong, established partnerships, including a global network of industry and financial contacts who know our reputation and track record
  • sophisticated skill sets of the Relationship Investing deal team
  • the ability to leverage the in-depth industry expertise of our public equities and private equities groups, and the broader resources of our capital markets, and infrastructure teams
  • the ability to structure bespoke investments to meet the needs of unique situations
  • significant liquidity and size, providing the financial firepower needed for large equity investments
  • more than a decade of experience working closely with partner companies
  • a longer-term investing horizon
Our work includes:
  • partnering with industry — we invest in assets alongside premier companies
  • solution investments — we support a major change in a company's strategy
  • constructive engagement — we encourage boards and management to improve business and financial performance
In each situation, we see our involvement as a catalyst. By helping companies to establish themselves, grow through acquisitions, reduce debt and undertake major capital programs, we have been instrumental in transforming entire sectors.

Ontario Teachers' Relationship Investing is different because:
  • We run a concentrated portfolio, more akin to private equity than traditional public equities
  • Our holdings are generally more liquid than private equity, but less liquid than publicly traded stocks
  • We have more influence with our partner companies than investors in widely held public companies do, but less control than private equity investors typically require
  • We conduct appropriate due diligence, similar to private equity investors
  • We are agile
It's obvious Ken Manget and his team know what they're doing and they're well plugged into the who's who of industry leaders which allows them to build and nurture these relationships and invest a significant stake over a long period to match Teachers' long-dated liabilities.

The way I view Relationship Investing is somewhere in between public and private equities without the pros and cons found in both. It's less liquid than public markets and they have less control than private equity but over the long-run, these stakes are significant and allow Teachers' to match its assets and liabilities in another way, foregoing big fees to private equity which is now bracing for a downturn.

You still need to hire a good team that knows how to develop instrumental relationships, one that adds value, and this is where Ken Manget who was appointed to this position three years ago and his team come into play.

Manget holds an MBA from Harvard University and a B.Sc. (Mechanical Engineering) from the University of Toronto. He's obviously very bright and I'm sure holding a Harvard MBA has helped him build very strong relationships with industry leaders.

Why did Ontario Teachers' enter this deal when Ubisoft shares are trading at a 5-year high? Because there is tremendous growth potential, especially in China, and it sees shares rising significantly over the next decade.

As stated above, as part of the transaction, Ubisoft and Tencent have also announced a strategic partnership that will significantly accelerate the reach of Ubisoft franchises in China in the coming years.

Think about it, while President Trump is slapping China with tariffs on up to $60 billion in imports, the 'first of many', others are working with China to grow their internal markets (I guess Larry Kudlow wasn't successful in teaching Trump basic economics on free trade and how the US current account deficit with China necessarily means a capital account surplus, which Wall Street loves!).

Oh well, the way things are going, Trump will soon have plenty of time to enjoy Ubisoft's upcoming video game, Little Rocket Man (I'm being sarcastic on the new game, not on Trump's prospects if he continues implementing idiotic protectionist policies which cost American jobs).

Below, I embedded a clip discussing the successes of Ubisoft nobody is mentioning. Listen carefully to what is discussed in this clip, you will understand what's behind Ubisoft's recent success and why if it continues being a pioneer in gaming, it will continue growing by leaps and bounds.

Lastly, I like this deal for Ontario Teachers' because not only is it investing a significant stake in a gaming giant, it's an industry which is relatively recession proof and one which is growing fast, especially in China. If all goes well, this will prove to be a great deal for all parties involved.

Wednesday, March 21, 2018

Ontario Pension Board Gains 10.8% in 2017

Benefits Canada reports, Ontario Pension Board returns 10.8% in 2017:
The Ontario Pension Board posted a return of 10.8 per cent in 2017, an increase on its return of 8.1 per cent in 2016.

The pension fund’s investment income for the year was $2.5 billion, up from $1.75 billion in 2016. Its net assets were $26.4 billion, an increase from the end of 2016 when net assets sat at $24.4 billion. The plan also maintained its funded status at 97 per cent.

“I am very pleased with our strong performance and investment return in 2017 — the first partial year our portfolio has been managed by the Investment Management Corporation of Ontario,” said , president and chief executive officer of the Ontario Pension Board. “We believe that pooling our assets under IMCO’s management will help us earn higher returns going forward than we could on our own and improve our direct access to a wider range of high-quality investment opportunities,

The pension fund also increased its exposure to private markets by about $1.8 billion in 2017. This included increasing its infrastructure portfolio by 15.8 per cent, private equity portfolio by 53.5 per cent and real estate portfolio by 18.1 per cent.

Its public market investments, including public market equity, fixed income and cash, returned 13.3 per cent in 2017, compared to seven per cent in 2016. Private market investments, consisting of real estate, private equity and infrastructure, returned 4.5 per cent, compared to 11.1 per cent in 2016.

The Ontario Pension Board’s full annual report will be available after its tabled with the Legislative Assembly.
The Canadian Press also reports, Ontario's public service pension plan logs 10.8% return in 2017:
Ontario's public service pension plan ended 2017 with an annual investment return of 10.8 per cent, which helped it maintain its funded status at about 97 per cent.

The Ontario Pension Board, which administers the plan, says net investment income during the year amounted to $2.5 billion and net assets grew to $26.4 billion by the end of the year.

The return came as OPB continued a strategy of shifting assets from public to private markets last year.

This included increasing its infrastructure portfolio by 15.8 per cent, private equity portfolio by 53.5 per cent, and real estate portfolio by 18.1 per cent.

Overall, public market investments, which include public market equity, fixed income and cash, returned 13.3 per cent for the year.

Private markets investments consisting of real estate, private equity and infrastructure, returned 4.5 per cent.

"I am very pleased with our strong performance and investment return in 2017 — the first partial year our portfolio has been managed by the Investment Management Corporation of Ontario (IMCO), said Mark Fuller, the president and CEO of OPB.

"We believe that pooling our assets under IMCO's management will help us earn higher returns going forward than we could on our own."

The defined-benefit pension plan serves about 44,000 active members and their employers, as well as more than 43,000 retired and former members.
In its press release, the Ontario Pension Board rightly notes that it has a strong funded status:
Ontario Pension Board (OPB), the administrator of Ontario's Public Service Pension Plan (PSPP), ended 2017 with an annual investment return of 10.8 per cent, a value add of 0.4 per cent over its benchmark. This solid return helped the Plan maintain its funded status at approximately 97% even after taking measures to protect the long-term health of the Plan. OPB added to the expected cost of benefits by increasing expectations regarding longevity and by lowering the expectations for future investment returns. Net investment income during the year amounted to $2.5 billion and net assets grew to $26.4 billion at year end.

"I am very pleased with our strong performance and investment return in 2017 - the first partial year our portfolio has been managed by the Investment Management Corporation of Ontario (IMCO). We believe that pooling our assets under IMCO's management will help us earn higher returns going forward than we could on our own and improve our direct access to a wider range of high-quality investment opportunities," said Mark Fuller, President and CEO of OPB.

OPB continued its strategy of shifting assets from public to private markets in 2017, increasing its gross exposure by approximately $1.8 billion. This included increasing its infrastructure portfolio by 15.8 per cent, private equity portfolio by 53.5 per cent, and real estate portfolio by 18.1 per cent.

Overall, public market investments, which include public market equity, fixed income and cash, returned 13.3 per cent for the year, while overall private markets investments consisting of real estate, private equity and infrastructure, returned 4.5 per cent.

OPB's full 2017 Annual Report, including Management's Discussion & Analysis and Audited Financial Statements will be posted on after the President of the Treasury Board tables it with the Legislative Assembly.

About Ontario Pension Board

Ontario Pension Board (OPB) administers Ontario's Public Service Pension Plan (PSPP), a defined benefit pension plan serving approximately 44,000 active members and their employers, as well as more than 43,000 retired and former members. With $26.4 billion in net assets under management, the PSPP is one of Canada's largest pension plans. It's also one of Canada's oldest pension plans, successfully delivering the pension promise since the early 1920s. To learn more about OPB, visit
So, OPB's full 2017 Annual Report isn't available yet but it's nice to read that it's focus remains on its funded status which is what matters most for any pension plan.

Now, as stated in the press release, this is the first partial year OPB's portfolio has been managed by the Investment Management Corporation of Ontario (IMCO).

The way it works is OPB takes care of the plan's administration and liabilities and IMCO manages the plan's assets, and that is its sole focus.

You might recall I first discussed IMCO back in November 2016 when I covered Ontario's new pension leader, bert Clark, the fomrerhead of infrastructure ontario who now heads this organization.

IMCO's story is on its website and it's worth understanding how this organization came about:
In May 2012, the Ontario government began studying a new approach for managing the investments of Ontario's broader public-sector pension plans and other non-pension investment funds. An independent review was launched to examine the advantages of pooled asset management and how this model might be implemented.

In November 2012, following extensive consultations across industry stakeholders, a comprehensive report was released that would ultimately recommend a new investment model for public-sector pensions and investment funds, with assets of a specific threshold, in Ontario.

Creating a Pooled Asset Manager in Ontario

The report, Facilitating Pooled Asset Management for Ontario's Public-Sector Institutions, set out foundations for a new pooled asset manager. The Investment Management Corporation of Ontario (IMCO) would be created as an independent entity and would be implemented under the following principles:
  • Participating institutions would retain fiduciary responsibility and control over asset allocation decisions (given variations in the liability profiles across pension plans and investment funds);
  • Employees and retirees would remain members of their existing plans; the relationship between each pension plan and its members would not change;
  • The new structure would not affect plan design (e.g., benefit levels and contribution rates), funding policies or approaches to administration;
  • IMCO would have an independent, professional and representative board of directors, whose duty would be to serve and act in the best interests of clients and to ensure that investment decisions would be based solely on seeking the best returns without political influence;
  • World-class governance, professional investment, risk management practices and competitive compensation would be key characteristics; and
  • Assets under management would be sufficient to support investing in a broad range of asset classes at the most competitive costs.
  • At the time of the report, there were over 100 public-sector pension funds in Ontario. The expected benefits of the pooling framework would include:
  • Anticipated reduction in duplication and costs;
  • Ability to achieve economies of scale,
  • Broadened access to alternative asset classes for clients; and
  • Enhanced risk management practices.
To the extent that these advantages supported more diversified portfolios among participating institutions, the Report suggested that pooled asset management would help realize improved investment returns over the long term.

IMCO Launches

In July 2016, the Province announced the creation of IMCO through the Investment Management Corporation of Ontario Act. After six years of hard work and collaborative analysis to help establish the new asset manager, the Ontario Pension Board (OPB) and the Workplace Safety and Insurance Board (WSIB) became the new organization’s first clients.

In July 2017, IMCO began to manage approximately $60 billion in assets on behalf of its clients, becoming the ninth largest institutional fund in Canada.
A timeline featuring IMCO's main milestones is provided below (click on image):

As you can read, IMCO is the new kid on the block but it's already managing $60 billion in assets and growing fast. The Ontario Pension Board (OPB) and the Workplace Safety and Insurance Board (WSIB) became the new organization’s first clients.

As I understand it, IMCO is in charge of pooling assets and managing them in the best interest of their clients, investing across public and private markets all over the world.

It's important to note that IMCO is a pension fund like bcIMC, CPPIB, the Caisse and PSP, and not a pension plan like OMERS, OPTrust, OTPP, and HOOPP.

Still, just like its large Canadian peers, it has managed to adopt the very best governance principles to separate the organization from any undue political interference.

I invite to regularly read IMCO's news releases here and to keep in mind that even though it's a young fund, it's already huge and growing fast.

I would also tell you to carefully read over IMCO's investments here. Below, the fund's asset allocation as of September 30th, 2017 (click on image):

A couple of notes:

  • Public market investments are pretty straightforward. IMCO probably indexes most of this portfolio directly to reduce costs but it also outsources some of it to external absolute return managers.
  • Private markets which consist of real estate, private equity, and infrastructure as still being ramped up, most notably in private equity where IMCO has only committed roughly $1.2 billion ($1.7 billion if you include private debt). This is why you read above that OPB is increasing its infrastructure portfolio by 15.8 per cent, private equity portfolio by 53.5 per cent, and real estate portfolio by 18.1 per cent.
Importantly, IMCO is just ramping up its exposure to private equity so it's not appropriate to make comparisons with its larger Canadian peers which have a mature and much bigger private equity portfolio.

The only other thing I learned is that Jill Pepall leads IMCO’s investment program and is responsible for all aspects of its investment activities:
Prior to IMCO, Jill was the EVP & Chief Investment Officer of the Ontario Pension Board (OPB), where she was responsible for the oversight and management of the Plan’s $25 billion investment portfolio. Before joining the OPB, Jill was the Chief Investment Officer of the investment management division of a major Canadian chartered bank and SVP & Head of Investments at a Canadian life insurance company.
Late today, I tried reaching Bert Clark, IMCO's CEO, to get more investment information but he is traveling all week. I didn't reach out to OPB's CEO, Mark Fuller, which was my mistake but his plan is on solid footing as far as I can tell and the new arrangement with IMCO works in its favor.

Below, Ontario Pension Board 2016 AR video which I found on vimeo here. I look forward to covering OPB and IMCO in the future and if you have anything to share, feel free to contact me at and I will edit this comment.

Tuesday, March 20, 2018

The US Pension Squeeze?

Elizabeth Bauer of Forbes reports, Keep On Squeezin', Squeezy The Pension Python:
Illinois voters may remember Squeezy the Pension Python, the main character in a video meant to gain public support for pension reform legislation in 2012.

The bill passed in 2013.  As described by CNN at the time,
The plan will reduce annual cost-of-living increases for retirees, raise the retirement age for workers 45 and under, and impose a limit on pensions for the highest-paid workers.

Employees will contribute 1% less out of their paychecks under the reform, while some will be given the option to contribute to a 401(k)-style plan.

Legislative leaders of both parties crafted the deal, which they say will save $160 billion over the next three decades -- savings desperately needed to help fill the state's $100 billion pension shortfall.
Alas, it was found unconstitutional in 2015, and no action has been taken by the legislature with respect to public pensions in the meantime.  Illinois' funded ratio now stands at 40%, a slight improvement over its 2016 funded ratio of 39%, which placed it fourth most underfunded in the nation.  In dollars, its pension underfunding stands at $130 billion.

And today Illinois will be choosing its nominees for governor, among them a man who was among those spearheading that 2013 pension law, Democratic State Senator Daniel Biss.  In any ordinary set of circumstances, "I tried to reform the Illinois pension system" would be a resume-booster.  Instead, he's apologizing for it.  According to the suburban Chicago Daily Herald,
"The state's got awful budget problems, and state pension debt is an awful part of it," said Biss, a co-sponsor of the 2013 legislation. "I do think there was kind of an obsessive hysteria about it a few years ago that led a lot of people in the legislature, myself included, to act irresponsibly. That bill was unconstitutional."
His opponent, billionaire front-runner J.B. Pritzker, has been running ads attacking Biss for his vote.  The Chicago Tribune provides the text:
“Dan Biss says he’s a proven progressive,” a narrator says. “Ok. Let’s check his record. Biss wrote the law that slashed pension benefits owed to teachers, nurses and state workers. The court ruled it unconstitutional. Dan Biss. Take a look for yourself.”
The ad then directs voters to the Pritzker-created website, where one is told,
In 2013, Biss helped write the bill that unconstitutionally stripped hundreds of thousands of teachers, nurses, and state workers of benefits promised to them. Biss admitted on the Senate floor that his pension cut efforts were unfair and broke a promise to workers. He led the charge for them anyway.
Solving the pension funding issues in Illinois will not be an easy task, after so many years of underfunded and overpromised benefits, of pension spiking and other boosts, and missed contributions to direct state funds elsewhere. But using an honest attempt to solve the problem as a basis for attacks will surely set the state back even further, by constraining legislators even further in terms of the range of options they're willing to consider if they wish to preserve their future political careers.

To be sure, there's a lot more going on in today's primary than simply Biss's support for pension reform. Polls suggest that it would be quite an upset for Pritzker to lose the Democratic nomination, and, either way, there will be no way of saying that it's because of or despite this issue, or whether it really mattered to voters at all. But it's one more indicator that Illinois has a long way to go on the path towards financial health and good governance if indeed it chooses to take that path.
I've already covered America's pension shithole, no need to restate how Illinois, Kentucky and a few other states are getting squeezed to death by their pension obligations. And they are textbook examples of what can go wrong with public pensions when they are ignored, mismanaged, and not operating under the right governance model.

Governance. Everyone loves attacking public pensions, bringing up Squeezy the pension python. What about the big squeeze on fees US public pensions have endured over the last couple of decades from hedge funds and private equity funds?

That's ok, that's justifiable given the returns these titans of finance have produced over the years. Well, it turns out some delivered alpha when it was needed but most didn't, and following the 2008 crisis, pensions were better off plowing money in equity indexes than most hedge funds and private equity funds which received big fees for their lackluster long-term performance.

So, go ahead, blame US public pensions, not saying they don't share part of the blame with their rosy investment projections and refusal to lower their discount rate and introduce a shared-risk model to sustain their pensions over the long run.

But Squeezy the pension python is only part of the problem, there are several structural factors explaining why many US public pensions are chronically underfunded, and governance is a big factor that is often overlooked and misunderstood.

Lastly, one of my astute blog readers sent me his thoughts on US public pension plans:
US public sector pension plans aren't really pension plans. They are clever ways to unjustly enrich public servants at public expense. To achieve this end, the plans have adopted unsustainable funding and accounting practices made possible by inadequate actuarial and accounting standards. The weakest plans are well past the point of no return. The end game will likely begin in the next recession.

The way the courts interpret the pension promise may be legally sound but it is economically absurd. The states are told that, once they allow employees to participate in a pension plan, they cannot reduce the pensions employees have earned prior to the change (reasonable), nor can they reduce the pensions that employees will earn throughout the remainder of their careers (absurd). This being the case (and I believe that Jerry Brown is challenging this interpretation in California, now that he has decided not to seek reelection), the only way to fix a pension plan that has become too expensive due to low interest rates, increasing life expectancies and/or ill-advised pension negotiations (for example, agreeing to pension "spiking") is to dismiss all of the employees (if the court permits states to fire those it can no longer afford to employ) and start again with a DC plan or a Target Benefit plan.

It comes as no surprise that the proposal to borrow $100 billion to take a flier in the stock market enjoys the support of public sector unions. They bear none of the risks and collect all of the money. As long as they can keep the game going, they win and the public is left holding the bag.
You might not agree with him -- and I don't agree that US public pensions are "clever ways to unjustly enrich public servants at public expense" -- but he brings up a good point on the need for all stakeholders to share the risk of the pension plan.

I happen to think that public sector employees deserve to see their pension promise fulfilled. Importantly, a considerable portion of their salary goes to paying their pension contributions so they deserve to know how their pension is being managed or mismanaged, and they deserve to retire with dignity and security.

I hate when people tell me: "Well, let them have what we have in the private sector, no pension at all". What an absurd and shortsighted response. Two wrongs don't make a right. Instead of bolstering pensions for all, we are looking to dismantle public sector pensions, a policy which will only lead to more retirement insecurity, exacerbate rising inequality and weaken the economy over the long run.

So forget about Squeezy the pension python. Let's instead come up with sound public policies that bolster defined-benefit pensions for all. And for Pete's sake, spread the risks of these public pensions across all stakeholders equally in order to sustain them for many years to come.

Monday, March 19, 2018

Caisse Going Direct in Private Equity?

Joshua Franklin of Reuters reports, Canadian pension fund CDPQ wants to be its own private equity investor:
Caisse de depot et placement du Quebec (CDPQ), one of Canada’s biggest public pension funds, has relied on private equity firms to invest in leveraged corporate buyouts. Now it is building its own investing team to depend less on buyout firms as middle men.

Private equity firms buy companies only to sell them a few years down the line for a profit. Their reputation as costcutters eyeing a speedier exit makes some companies more open to consider an investment from a longer-term investor such as CDPQ instead.

“These are interesting (opportunities) because typically these entrepreneurs or corporates didn’t want to partner with standard private equity firms,” Stephane Etroy, CDPQ’s head of private equity, said in an interview.

In recent years, large pension and sovereign wealth funds have teamed up with private equity firms to co-invest in corporate takeovers, in a bid to earn a greater share of profits and reduce their fees. However, private equity firms offer these co-investment opportunities only to their fund investors, known as limited partners.

Investing without the involvement of a private equity firm is still rare, making up only 62 of more than 300 direct deals carried out in 2017 by investors who were not private equity firms, according to the Boston Consulting Group. The majority of these direct deals were co-investments.

CDPQ, which manages almost C$300 billion ($229.2 billion) for retirees in Quebec, now makes two-thirds of private equity investments without the use of external managers.

To be sure, investor demand to get into private equity funds is still outstripping supply, resulting in record fundraising for the industry in 2017.

The resources required for such deals, ranging from sourcing opportunities to industry expertise, mean the option is open only to larger players like blue-chip pension funds and sovereign wealth funds.

“When you think about going direct without sponsors, for us it’s probably more the exception than the rule,” said Simon Marc, head of private equity at PSP Investments, another Canadian pension fund.

“We will do that in situations, typically with entrepreneurs or families, where people are looking for long-term capital and they want to stay away from traditional private equity-type capital,” he added.

CDPQ has much bigger plans for solo investing. The fund is looking to boost its headcount in Singapore - one of its three private equity offices along with London and New York - to more than ten in order to “have critical mass” for direct investing.

“We are looking to hire professionals coming from private equity firms,” Etroy said.
It's been a busy Monday for me trading and tracking public markets but this article is making a big splash on LinkedIn and around the industry so I wanted to address it.

Let me first begin with my bias which is that I'm not too keen on private equity these days so whether or not the Caisse goes purely direct, all it does is extend the maturity of its private investments and maybe allows them to ride out the traditional PE cycle (they still need to value these investments once a year using public and private comparables).

More importantly, unlike infrastructure where the Caisse is doing pioneering work developing a greenfield project with private industry, it's almost impossible, if not impossible, to compete with the big private equity giants in terms of sourcing the best deals from all over the world.

As I've stated plenty of times, the Caisse, CPPIB, OTPP, OMERS and other large Canadian pensions can hire some excellent private equity talent and even pay them competitively but no matter how good they are, they simply can't compete with their counterparts at Apollo, Apax, KKR, Blackstone, TPG, BC Partners, CVC Partners, Permira, Silver Lake and other top private equity funds.

It's nice to have delusions of grandeur but at the end of the day, I remind you of a private conversation I had with CPPIB's former CEO, Mark Wiseman, where I asked him flat out why not do more purely direct deals in private equity and he responded: "I'd love to hire David Bonderman but I can't afford him or other top talent in PE, so in this asset class we will continue doing our fund investments and increasing our co-investments to lower our overall fees."

It's critically important to note that for all the hoopla of taking on private equity funds using their long investment horizon as an advantage, which it is, the fact remains Canada's large pensions will never compete with the large PE funds head on and still desperately need them to make their allocations and return targets in this asset class.

Sure, Canada's large pensions are doing some one-off purely direct private equity deals here and there but this is the exception, not the norm.

What they are all doing is hiring talented individuals like Stephane Etroy featured at the top of this post to do more co-investments, a form of direct investing where the limited partner pays no fees. Canada's large pensions need to hire smart people to evaluate co-investment opportunities as they arise and have a small turnaround time to invest quickly and efficiently.

Another form of direct private equity investments comes when the life of a private equity fund runs out and the fund auctions off a portfolio company to its limited partners (investors) who then take the company on to its books.

But make no mistake, in order to co-invest and have access to these auctions, limited partners still need to invest in private equity funds and pay them big fees.

This is why this passage from the article above is highly misleading:
"CDPQ, which manages almost $300 billion (US$229.2 billion) for retirees in Quebec, now makes two-thirds of private equity investments without the use of external managers."
Really? I know for a FACT that these figures consist primarily of co-investments and auctions which make up two-thirds of the Caisse's private equity investments, so it's simply not true these investments "are without the use of external managers."

You read that passage and think "wow, the Caisse is sourcing two-thirds of its private equity investments” which is completely and utterly false.

Again, don't get me wrong, I'm sure Stephane Etroy is a smart guy and he's going to continue hiring smart people at the Caisse's private equity group. They may even increase their purely direct investments but these deals will be marginal in terms of the overall private equity portfolio.

At the end of the day, whether it's the Caisse or OMERS or ANYONE else, the bulk of private equity investments will be made into fund investments to gain access to co-investments and lower the overall fees. This is in the best interest of Canada's large pensions and their stakeholders.

So, forgive me, I don't want to rain on Stephane Etroy's parade, I actually wish him and his team success in independently sourcing some great private equity deals, but count me as a perennial skeptic when I read that Canada's large pensions are going to compete with PE giants head on.

Bonne chance (good luck) with that approach even if you have some structural advantages (like a longer investment horizon).

Let me end on a sobering note, something which really bugs me about the trigger-happy media in Quebec.

Last week, Francis Vailles of La Presse published an article in French basically lambasting the Caisse and its CEO for increasing the compensation of its employees. The article states that in 2017, total compensation which includes health benefits and long-term bonuses increased by $121 million or 24%.

My reaction? SO WHAT??? Mr. Vailles and the rest of the socialist presstitutes in Quebec should stop publishing sloppy articles on the Caisse and PSP and realize that Canada's pension fund industry is highly competitive and the competition for top talent is fierce.

Importantly, you can't hire civil servants to manage a multi-billion portfolio across public and private markets, you need to pay to hire top talent in order to invest and co-invest with top private equity funds and to do direct deals in infrastructure.

The reality is the Caisse for many years was lagging its large Canadian peers in terms of compensation. When I left the Caisse to go work at PSP in 2003, I got a significant boost in my overall compensation and since Michael Sabia came to power, he has restored order and rectified huge inequities between compensation at the Caisse relative to its largest peers.

And once again, keep in mind that compensation at the Caisse, CPPIB, OMERS, Teachers', PSP and other large Canadian pensions is based first and foremost on long-term performance. Also, when you're opening up offices in London, New York and elsewhere to attract qualified individuals, you need to pay them in local currency and be competitive with the local market.

If you want monkeys running your multi-billion dollar pension funds, pay them monkey salaries and bonuses but be ready to live with the long-term consequences of such shortsighted decisions.

The people working at the Caisse and other large Canadian pension funds have enough stress trying to make money in these crazy markets, they don't need to be criticized for doing their job and getting paid what they rightfully deserve.

If Francis Vailles and other reporters think they can do a better job, by all means, go for it. That experiment failed under the Caisse when Michel Nadeau was running investments and bullying people to pay them peanut salaries and bonuses.

The investment management industry is no different than other industries, you basically get what you pay for, so instead of criticizing pay increases at the Caisse, Mr. Vailles and his fellow reporters here in Quebec should first do their homework and really understand what's behind the increase in compensation.

That's where I come in. I'm a stickler for transparency and paying for real performance, not beating some bogus benchmark over many years.

I used to have hedge fund managers come to me touting their great performance and once I was done grilling them, they shriveled up like little turtles (call it the Leo Kolivakis cold shower process, the more arrogant you are, the greater pleasure I take in totally obliterating you).

Speaking of humility, I do NOT have a monopoly of wisdom and know everything about everything in public and private markets so if you think I'm an idiot and would like to privately lambast me, by all means, feel free to email me at and share your thoughts which I will post here if you want me to.

Below, CNBC contributor Kenny Polcari of O'Neil Securiites and Kevin Caron of Washington Crossing Advisors discuss what is fueling today's stock market losses.

Also Nancy Tengler, Heartland Financial chief investment officer, and David Sowerby, Ancora portfolio manager, discuss Monday's market action.

If you want to understand why Canada's large pensions have been increasingly their allocations to private equity, real estate and infrastructure over the last ten years, shunning public markets, it's because they can't stomach the crazy volatility and prefer to exploit inefficiencies in private markets.

Lastly,  I note that my Long Twitter (TWTR) / Short Facebbook (FB) pairs trade finally kicked in this year but I'm not gleeful as I see more pain ahead for these markets which is why I hedge my US equity positions with US long bonds (TLT). Still, there will be bounces and if you're trading these markets, be alert and be nimble, which means sweep the table when you're up.