CPPIB in the Age of Disruption?

Barbara Shecter of the National Post reports, Understanding the implications of disruption at the heart of CPPIB's investment strategy, Machin says:
The Canada Pension Plan Investment Board is looking to use its long investment horizon and global reach to take advantage of economically disruptive forces, from advancing technology to aging populations, chief executive Mark Machin told a business audience at the Canadian Club in Toronto on Tuesday.

“CPPIB looks through a very large telescope to discover the large structural changes and shifts happening in the world that will fundamentally change how we all work and live,” Machin said, citing an acceleration of technological change encompassing machine learning, automation and big data.

Other disruptors CPPIB is keeping a close eye on — both for the potential to profit and to mitigate risks — are climate change, aging populations and economic power shifts in North America, Europe and Asia.

“Because we are placing enormous bets, sometimes in the billions of dollars, we need to be expert at what I call the implications business: predicting the future so we can benefit from its growth and profit from it for the benefit of Canada’s millions of pensioners,” Machin said, according to a copy of his prepared remarks.

For example, the pension investment management organization, which invests funds for the Canada Pension Plan, is looking at the “value chain” that will be created by self-driving cars, “whether it’s managing fleets of trucks, electric vehicle producers and their chargers, toll road, gas stations, or insurance,” Machin said.

CPPIB has already invested in Zoox, an autonomous vehicle company headquartered in California that aims to have a fleet of robo taxis available by 2020.

In the financial services space, the fund management organization has an investment in Square Capital, a subsidiary of payment processing company Square Inc. Square uses machine learning and vast amounts of data to determine what loans to extend to small businesses.

Grappling with the disruptive implications of an aging population — some two years after Canadian seniors outnumbered Canadian children for the first time in history and when a girl born in China today has a one in two chance of living to 100 — CPPIB invested in ORPEA, a European provider of long-term care services with 800 facilities.

“These demographic shifts carry profound economic, social, health and political implications, both good and bad,” Machin said.

Another investment he says “made sense” in this era is Viking River Cruises, which caters to retirees seeking travel adventures with more than 60 cruise vessels traversing rivers and oceans around the world.

Machin, who spent 22 years in Hong Kong and Beijing, is keeping a close eye on Asia, which is expected to account for more than half the world’s GDP by 2030.

During his speech, he recounted being the cause of “great hilarity” at a Beijing coffee shop in September when he tried to pay for his purchase using cash.

“China has rapidly moved to a cashless society,” he said, noting that CPPIB has boosted its investments in China over the past decade to represent about eight per cent of the portfolio.

In addition to an early and profitable investment in e-commerce powerhouse Alibaba, CPPIB has what Machin called a “less known but equally promising” partnership with residential and rail developer Longfor Group in China, which has projects in Suzhou, Chongqing, Shanghai and Chengdu.

“There’s a huge demand for modern, quality rental housing for young professionals and new graduates in China,” he said. “Through this collaboration, we have the opportunity to participate in this fast-growing sector of Chinese real estate.”

To take advantage of the global shift to renewable and clean energy, CPPIB established a power and renewables group last year to expand the portfolio with investments in renewables including wind and solar power, energy storage systems, smart meters and related technologies. Recent investments have been made in India and Brazil.

CPPIB is not only looking abroad as it tracks disruption, Machin said, noting a new partnership forged with the Creative Destruction Lab (CDL) at the University of Toronto’s Rotman School of Management to help the pension management organization gain information about emerging technologies in the artificial intelligence and energy sectors.

CDL connects science-based ventures with serial entrepreneurs, angel investors and venture capitalists with the aim of building “massively scalable companies,” Machin said.

Machin concluded his speech by saying CPPIB will use its size and scale to be a “disruptor” in five business and social arenas: climate change, water conservation, human rights, executive compensation and board effectiveness.

He said he believes the organization can affect more change through “engagement” than through divestment if companies in which CPPIB invests “are not operating at the standards they should be.”

He cited recent examples of the power of engagement, including joining other global investors to push for improvement in water use in agricultural supply chains, address child labour and safety concerns, and successfully encouraging 21 Canadian companies to add women to their boards of directors.

“We’ll continue to monitor improvements in the representation of women directors on the board of our investee companies and we plan to roll out this program globally,” Machin said.
This is an excellent article discussing how CPPIB is using its long investment horizon to invest in interesting traditional and "disruptive" projects all over the world. You can read Mark Machin's enire speech here (also embedded a clip below).

CPPIB takes a thematic investing approach in many investments and why not, it has a bunch of smart people researching trends all over the world, looking to invest and capitalize on secular trends.

Having worked at large pensions before, I can tell you one area which was weak and still is at some places is pure thematic research. Everyone is so focused on the latest deals in public and private markets which is fine, but you need a think tank within these large pensions doing research on all sorts of topics from demographics, to geopolitics, to great disruptions taking place now and in the future.

Of course, it takes a special kind of person to do this type of research. You need a diverse group of people who have diverse experience, academic credentials (not just finance people) and a decent budget to be able to track the major themes shaping our planet.

When I was working at PSP, there were only two senior analysts doing this type of research, myself and Mihail Garchev who is now a senior director at BCI. That's it, throw us in a project and we had to research it, write a report and help deliver a presentation to the board with recommendations.

Some people relish challenges, throw them any project to research and they take it and run with it. Other people are petrified and just want to do the same thing day in, day out. Nothing wrong with that, the type of research I'm talking about is stimulating but stressful and it requires a certain mindset.

However, that's the type of research unit you need at all these large Canadian pensions, and I know, I've seen enough groups working in silos, a total misallocation of resources when people aren't talking to each other and working together for the good of the organization.

Sometimes research projects just lead you down a certain road. Back in 2006, I started getting interested in CDOs, CDO-squared and CDO-cubed structures. The more I researched, the more worried I got about the US economy and banking system.

I was only looking at it from a macro perspective, showed the charts of total issuance to senior managers at PSP back then, was scared to death but even I didn't know how spectacular of a blowup we'd have following the Lehman moment. It was insane.

The point I'm trying to make here is research isn't just to discover the next big trend, the next major disruption, research is also there to uncover the major risks to the system and figure out a way to mitigate those risks as much as possible.

I reckon a lot of research units at large pensions are not being utilized properly. Typically you'll have them report to the chief economist or the office of the CIO but in my opinion, that's not the best way to do it.

I would set up research groups across all asset classes and they would have to meet at least once a week to discuss research they're working on and what are the major trends they see in their asset class. A smaller group would have to assimilate all this inter-departmental research and figure out what are the main topics worth exploring in more detail and what are the major risks that lurk out there.

It's not easy, I know from experience, but you have a lot of people with a lot of information at pensions who are not sharing it properly and not talking to each other, making for a very suboptimal and sometimes downright dangerous work structure and culture.

Anyway, back to CPPIB. Late this afternoon, I was talking to someone about how private equity, real estate, and infrastructure have become mainstream and in order to move the needle, large pensions have to figure out a way to invest in all sorts of alpha that falls between the cracks and invest in innovation.

I recently discussed OPTrust's safe space for innovation and said even though it's risky, this makes perfect sense for a large pension with a long investment horizon to focus some of its assets on innovation and disruption.

Leo de Bever is right, Canada's large pensions have been too timid for too long, they need to think outside the box and remember what Gretzky said: "You miss 100% of the shots you don't take."

How do you take these risks in innovation and disruption without succumbing to short-termism? You need great governance, a wise and patient board, and you need commitment and a long-term action plan.

My point is CPPIB, OPTrust and others are right to invest in the innovation economy and there are many ways to do it.

As far as emerging markets, I recently wrote about how the Caisse and CPPIB are focusing on them. The Caisse's Ivanhoé Cambridge recently launched joint venture in Brazilian logistics real estate, partnering up with Prologis.

For its part, CPPIB just announced a $2 billion partnership with GLP and QuadReal to invest in modern European logistics facilities and it has several similar projects in Asia, India and Brazil.

The theme is the same, the rise of the middle class and consumers all over the world shopping online or they look for renewable energy projects to mitigate climate change.

I leave you with three charts I'm watching right now (click on images):

As you can see,  emerging markets shares (EEM) have bounced recently led by Chinese shares (FXI) and I certainly like the action in Alibaba (BABA) lately.

It's too soon to get all bullish but I did notice Soros took a position in emerging markets shares in Q3 and Alibaba is a top position of his family office. Also, David Tepper's Appaloosa is still heavily long Alibaba shares even if he reduced his stake in Q3.

Again, I don't read too much into what gurus are buying and selling every quarter but I am watching these charts and a bunch of others very closely.

Below, Mark Machin, President and CEO, Canada Pension Plan Investment Board, discusses opportunities in the age of disruption. You can read the entire speech here and it is excellent.

Listen carefully to Mark, he's exceptionally bright and has a medical degree which is why he fundamentally believes in science, innovation and opportunities in the age of disruption.

Update: A pension expert sent me his thoughts after reading this comment:
I spoke to someone who attended this event and they said that Mark Machin was very impressive. One general comment on some of this is that one issue with investing in new technologies is the scalability. CPPIB is now a $370B pension plan. An investment of $1B is only 27 basis points of the fund and a $10M investment, which (don't forget) is a large investment in early stage venture, is 0.0027% of the fund. They absolutely have to be aware of themes and how they will affect CPPIB's investments but investing directly in this space is unlikely to be able to move the needle. And many investments in this space have returns of -100% which can be tricky if you don't have the right governance structure. Don't forget that CPPIB blew out a bunch of people in capital markets a couple of years ago as they were doing strategies that were not scalable. That being said, I think Machin is doing an excellent job.

Also, if you are going to index a large portion of your equity book then you aren't doing any thinking about disruptive technology and you are likely betting more on the incumbents that are the companies that are being disrupted. Likely the companies that will be the most affected by disruption are the ones with the largest weighting in the index.

P.S. One thing that I have wondered about regarding CPPIB - are they going to soon reach a point (or have they already) where they reach diseconomies of scale? Given the CPP expansion coming soon, and even expecting modest returns, they will be at $1 Trillion before too long. Is that too many eggs in one basket for Canadians? Should CPPIB be split up into CPPIB1, CPPIB2, etc?
I told him so far CPPIB hasn't been impacted by diseconomies of scale but at one point it will be an issue and we might follow the Swedish model with a few large CPPIBs. I think his comments on the scalability of disruptive technologies and indexing and betting on incumbents are spot on.