AIMCo's First Vol Casualties Emerge?

Last week, Andrew Willis of the Globe and Mail reported that AIMCo parts with executives who oversaw $2.1-billion investing loss:
Alberta’s government-owned investment fund parted company this week with executives responsible for a $2.1-billion loss on trades linked to market volatility, as its board of directors completes an audit and brings in an outside leader.

Alberta Investment Management Corp., known as AIMCo, oversees $119-billion on behalf of 31 clients, including pension plans for health care workers and police officers and the Heritage Savings Trust Fund. In an e-mail to clients on Wednesday, chief executive officer Kevin Uebelein said executive vice-president of public equities Peter Pontikes “is no longer employed with AIMCo.” Separately, AIMCo said portfolio manager David Triska, who ran the volatility-based strategies, also left the Edmonton-based fund manager.

AIMCo did not tell its clients why Mr. Pontikes left after spending 19 years at the Edmonton-based fund manager and the Alberta government, and a spokesperson declined to comment on the two executives’ departures. Mr. Pontikes was AIMCo’s third-highest paid employee last year, earning $1.93-million. Sources who work with AIMCo and its clients said the two former executives were directly responsible for the fund manager’s recent losses on derivatives-based investments tied to market volatility. The Globe and Mail agreed to keep the sources’ identities confidential because they were not authorized to speak publicly on the matter.

As The Globe first reported, AIMCo’s public equities portfolio included a strategy that essentially bet against sharp swings in stock prices, an approach that made modest returns in recent years, but resulted in significant losses when the global pandemic sent markets on a roller-coaster ride in late March. In April, AIMCo decided to wind down the investments, a process that took until mid-June.

In early April, AIMCo executives told clients the fund manager did not fully understand the risks they were taking on volatility-linked investments. In a press release at the end of April, Mr. Uebelein said the performance “is not acceptable” and said: “Anytime you are counting in the billions, it is a big number worthy of attention, and I certainly would never want to experience such an outcome from a strategy.”

In mid-May, AIMCo’s board announced it hired senior partners in KPMG’s financial risk management team to provide an independent review of the fund manager’s investment and risk management processes. The board said KPMG would provide a report by mid-June. In addition, former Ontario Teachers’ Pension Plan chief risk officer Barbara Zvan volunteered to review the fund manager’s operation, and her report was also scheduled to be delivered last week. On Wednesday, an AIMCo spokesperson said the board’s final report of its review is expected to be released to clients and the Alberta government by the end of the month.

Last week, AIMCo announced former Canada Pension Plan Investment Board CEO Mark Wiseman will become the fund manager’s chair on July 1, after former Enbridge chief financial officer Richard Bird finishes a three-year term. Mr. Wiseman was terminated in December from his previous job as global head of active equities at BlackRock Inc., which oversees US$7-trillion, for violating the New York-based fund manager’s code of conduct by failing to report a relationship with a co-worker.

Public filings from AIMCo clients show the fund manager was one of Canada’s worst-performing pension plans in the first three months of 2020, and has consistently missed performance benchmarks.

The $3-billion Special Forces Pension Plan for police officers, an AIMCo client, reported in early June that its fund was down 12.2 per cent in the first quarter of this year, compared with a 6.7-per-cent decline in their benchmark. AIMCo posted a 10.2-per-cent loss on a $50-billion portfolio belonging to its largest client, a fund for health care and municipal workers called the Local Authorities Pension Plan or LAPP. The average Canadian pension plan lost 8.7 per cent of its value in the first three months of this year, according to consulting firm Mercer.

In addition to losses on volatility-linked strategies, filings from clients show AIMCo turned in poor results in the first three months of the year in stock, bonds, real estate and private equity investments. Last year, LAPP said AIMCo’s results fell short of the pension plan’s value-added expectations for 46 consecutive quarters, or 11 years and six months.

AIMCo employees are among the best-paid government workers in Alberta: Its CEO and chief investment officer made $3.4-million and $3.6-million, respectively, last year. Alberta’s governing United Conservative Party announced plans last fall to move an $18-billion retirement fund for the province’s teachers under the AIMCo umbrella next year, a move the teachers’ unions opposes. Alberta Premier Jason Kenney has also raised the idea of moving Alberta’s contributions to the Canada Pension Plan into AIMCo.
So, AIMCo's massive vol blowup has claimed its first casualties, Peter Pontikes, Vice-President of Public Equities and separately, David Triska, the quantitative portfolio manager who ran the volatility based strategies.

Before I begin, let me be upfront and state I never met or talked to Peter Pontikes (featured above) or David Triska.

The only thing I can tell you about Peter Pontikes is several people including current employees at AIMCo told me he's a really nice guy who works very hard and is an excellent manager.

There is a very good profile from the 2014 annual report discussing AIMCo's public market strategies as well as a picture of AIMCo's Quantitative Investments Team back then which featured David Triska (click on image, he's 3rd from left):

I don't know who remains there now after the vol blowup but it's clear Peter Pontikes and David Triska are gone (AIMCo confirmed this to me).

Now, before I get into my thoughts about these cuts, I want you to you to skim through the interview with Peter Pontikes in the 2014 annual report:
How do you go about constructing equity portfolios?

We start with the idea that there are many sources of risk in the equity markets, some will pay us positively and others will hurt us. Our primary job is to identify the risks we want to take on in the portfolio and design strategies to target those exposures while minimizing exposure to undesirable risks.

What do you consider desirable risk exposures?

Our portfolios tend to tilt towards value, quality and low volatility. Our research shows that these characteristics tend to outperform over time.

Describe your team.

The Public Equities team consists of 25 individuals with backgrounds in Finance, Economics, Engineering and Computing Science. The depth and breadth of experience in the team allows us to research, manage and trade a diverse set of strategies internally. Today, more than 55% of the portfolio is internally managed.

Which countries or regions do you invest in?

Our portfolios are invested across nearly all developed and emerging markets – 45 countries in total. We tend to be quite diversified in this regard and are quite modest in terms of taking significant country bets versus our benchmarks. However, during most of 2014 we tended to be overweight the United States and Japan and underweight Europe.

What is AIMCo’s view on the equity markets?

During 2014 we maintained an overweight to equities versus fixed income for our Clients. We believed that equity valuations were reasonable and prospects for earnings growth were positive for most markets.

What is your view on Energy stocks?

Energy stocks experienced a big sell off in 2014. Situations like this often create opportunities and we have been keeping a close watch on the sector. We believe there will be winners and losers, and we carefully accumulated positions in companies with strong balance sheets, high netbacks and high quality managements.
This is an old interview but some things are worth noting, like "minimizing exposure to undesirable risks" and the fact their portfolio tends to "tilt towards value, quality and low volatility".

On the second point, it is true that AIMCo's Public Equities portfolio has a value and quality tilt and that's why this portfolio has underperformed its benchmark in recent years.

Go back to read my discussion with Dale MacMaster, AIMCo's CIO,when I covered their 2019 results where he said:
[...]  even though Public Equities performed well last year, "the market was even more narrow than in 2018". Dale told me "five stocks -- Apple, Amazon, Facebook, Google and Microsoft --  accounted for 17% of the gains in the S&P 500, adding 3% to the overall return."
So far this year, it's the same story as everyone piles into tech juggernauts:

On the first point, however, there was obviously no "minimizing exposure to undesirable risks" in the vol strategy or else losses wouldn't have mounted to that level.

And this is where we get to important accountability issues.

It's obvious someone (within AIMCo?) leaked this story to Andrew Willis of the Globe & Mail forcing AIMCo's CEO Kevin Uebelein to confirm that Pontikes is "no longer employed with AIMCo".

The article above makes it seem as if Peter Pontikes and David Triska are the only ones to blame but having worked at two of the largest pension funds in Canada, let me assure you of a few things:
  • There is no way Dale MacMaster, AIMCo's CIO, wasn't aware of the risks and losses of this vol strategy as he oversees all investment groups and Peter Pontikes reported to him.
  • There is no way Remco Van Eeuwijk, AIMCo’s Chief Risk Officer, wasn't aware of the risks and losses of this particular strategy and if he was, he should have had an in-camera session with AIMCo's Board and the CEO to advise them as soon as possible. If that's the case, the Board was made aware and accepted these risks because it was sold to them as if everyone engaging in this strategy knew what they were doing (clearly they didn't).
  • To be sure, other Canadian pensions lost money selling vol in March but they didn't lose anywhere near the same percentage of their total assets and didn't take the same risks. 
  • Now, if Remco Van Eeuwijk didn't inform the Board and the CEO on the risks of this strategy, then it's a dereliction of his duties. There is just no way the CIO and CRO weren't aware of the risks and the mounting losses.
  • That brings me to my final point, there is no way AIMCo's CEO Kevin Uebelein wasn't also aware of the risks of this strategy and the mounting losses. He stayed mum because he was hoping it wouldn't get worse but as vol spiked to unprecedented levels in March, it got much worse and the losses on that strategy soared to C$2.1 billion, wiping out all the gains from previous years.
The key point here is there is no way the CEO, CIO and CRO didn't know what was going on with this vol strategy, and I'd be surprised if the Board didn't know too.

It's true that sometimes people don't know what is going on. A story which I referred to in my initial comment on AIMCo's vol blowup was this:
[...] I've seen these blowups before at the Caisse and PSP and there were plenty more at large Canadian pensions which were never reported on but they definitely have occurred.

At the Caisse, apart from (the billions lost on) ABCP, there was a senior portfolio manager responsible for a $1.2 billion loss using complex long-term swaps back in 2008. He got his dose of humble pie but that story was never told properly and it's scandalous how little oversight this individual had when he was engaging in these complex strategies (they basically thought he was a genius until the market broke him and his complex strategy).
Who was this portfolio manager that cost the Caisse $1.2 billion? All I can tell you is Henri-Paul Rousseau (the then CEO) and Richard Guay (the then CRO) knew him well, Henri-Paul even thought the guy was "a genius" and told everyone to "leave him alone and never question him".

This portfolio manager kept everything secret from his fixed income colleagues, the Caisse's risk department and even his own back and middle office. He structured and layered complex vol trades using long-term swaps in such a way so nobody could figure out what exactly he was doing (not just his counterparties, even the folks at the Caisse were totally clueless).

And then he got smacked in 2008, no more protection from Henri-Paul Rousseau and he was unemployed for a while until AIMCo picked him up.

I kid you not, he now works at AIMCo but AIMCo's Head of Fixed Income, Sandra Lau, watches over him like a hawk (she should!) and I doubt he's engaging in anything remotely exotic there like he did at the Caisse.

He and the other ABCP portfolio manager that lost billions got taken care of in "Operation Ferme Ta Gueule" in what remains one of the greatest cover-ups in Canadian pension fund history.

"The world is a sewer," Tom Naylor used to tell us at McGill, and he was 100% right (but there are still good people all over, you just have to find the rare gems).

Anyway, as I stated last week, Mark Wiseman was appointed the new Chair at AIMCo and it's up to him to take responsibility and make sure that he has the right executive team in place to make sure they are managing all risks properly and adding value over the long run.

I have to say, I'm not very impressed with how AIMCo has handled this vol blowup so far, and while Peter Pontikes and David Triska are the first casualties, I'm not so sure there won't be more fallout as this process plays itself out.

Also, where is Barb Zvan's report? Everyone should see her and KPMG's Mohamed Mokhtari's full review on this volatility blowup. Make their findings public, Albertans deserve to know, not just AIMCo's clients and Board.

Mark Wiseman has a lot of work ahead of him starting Thursday. He needs to get informed and then put the processes in place to reassure AIMCo's clients that they can trust this will never happen again, at least not under his chairmanship.

Lastly, make sure you carefully read the last comments I have written on AIMCo's vol blowup:
Below, Mark Wiseman, the former global head of active equities at BlackRock Inc. and former chief executive officer of the Canada Pension Plan Investment Board, discusses his views on how Canada's government needs to pivot in its approach to aid during the pandemic. And as incoming AIMCo chair, he also offers his take on Alberta considering starting its own pension plan and exiting CPP.

Update: Brett Friedman, Managing Partner at Winhall Risk Analytics, sent me his thoughts after reading this comment:
  • AIMCo has put themselves into the classic loss quandary: if they knew and did nothing, that's bad; if they didn't know, they were asleep. Bad either way, and that includes the Board.
  • Bloodletting in these situations is inevitable, and probably should be. My problem is that usually it's always bottom up and never top down. No one from the Board, other than the Chairman, has resigned; Uebelein hasn't either, and he was supposedly in charge. They were tasked to supervise, and didn't. Generals get relieved of duty whether the issue was their fault or not -- that's accepted as just part of being in charge. Does anyone voluntarily die on their sword anymore?
  • Your comment about the wayward fixed income "genius" that has to be watched carefully is scary. I can tell you that in all my CRO gigs, the person who styles themselves as a cranky genius above scrutiny because "my positions are just too complex for you to understand" if a) utterly full of shit 100% of the time, and b) blows up spectacularly 100% of the time. Why AIMCo would continue to have anyone on staff that has to be watched carefully is anyone's guess.
  • Reputational risk is real and no one seems to have factored that into which products they trade. If the NYT published on the front page that the fund was going short vol, would it have withstood average investor scrutiny? I think not.
  • AIMCo keeps on focusing on the size of the loss, as if that's the real problem. Although it seems large, a 1.8% hit isn't that significant given the size of the fund and recent volatility. This year has been extraordinarily volatile: 1/3 of all equity moves this year have been > 2% and 26 days were > 3%. In the previous 8 years, there were only 8 instances > 3%! And for those who say the vol moves were "unprecedented," I invite them to look at the 1930 - 1934 period. In 1932, 1/2 of all days were > 2% and 10% were > 6%. Now that's volatile! One of the problems with today's market participants is that they have a poor sense of financial history.
  • In this case, size doesn't matter. The loss, etc., betrays bad judgement and a host of other issues. I would argue that short vol positions are never appropriate for a pension, never ever -- the risk/reward just isn't there. No amount of experience can help to manage them when they go out of control. Problem is that there were very few people prior to last March that had managed such positions during a serious disruption. Still, they were paid very handsomely to have known. Easy money is always an illusion.
  • The audit report must be disclosed (including all financial arrangements, i.e. who paid for the report and how much) and held to close scrutiny by investors.
I thank him for sharing his thoughts and while I agree with most of his comments, especially the last point on disclosure of the review process, I don't agree with him that "short vol positions are never appropriate for a pension, never ever." Some Canadian pensions have been successfully shorting vol for years, they just manage the risks very carefully.

Also, Brett was interviewed about various trading debacles and "failures of risk management," AIMCo included, by Real Vision. You can watch it here.