Pension360

Leo Kolivakis is a blogger, trader and independent senior pension and investment analyst. This post was originally published at Pension Pulse.

Andrew Coyne of the National Post warns, Funding government projects through public pension plans a terrible idea:

The federal government, it is well known, is determined to spend $120 billion on infrastructure over the next 10 years. If traditional definitions of infrastructure are insufficient to get it to that sum, then by God it will come up with whole new definitions.

Ah, but whose money? From what source? The government would appear to have three alternatives. One, it can pay for it out of each year’s taxes. Two, it can borrow on private credit markets. Or three, it can finance capital projects like roads and bridges by charging the people who use them. Once these would have been known as user fees or road tolls; in the language of today’s technocrats, it’s called “asset monetization” or “asset recycling.”

Governments at every level and of every stripe have been showing increasing interest in this option, and with good reason. Pricing scarce resources encourages consumers to make more sparing use of them, while confining ambitious politicians and bureaucrats to providing services people actually want and are willing to pay for.

Moreover, by charging users where possible, scarce tax dollars are freed up to pay for the things that can only be paid for through taxes: public goods, like defence, policing and lighthouses.

Of course, if it is possible to charge users, it raises the question of whether the service need be provided, or at least financed, by the state at all. Rather than front the capital for a project themselves, governments can open it to private investors to finance, in return for some or all of the revenues expected to flow from it. As with user fees, this need not be limited to new ventures: “asset recycling” can also mean selling existing government enterprises — what used to be called “privatization.”

Again, there’s much to recommend this. If a project can be financed privately, it usually should, as this provides a truer measure of the cost of capital. (This point eludes many people: since the government has the best credit and pays the lowest interest rate, they ask, doesn’t it make sense to borrow on its account? But by that reasoning we should get the government to borrow on everybody’s behalf. If not, then it is privileging some investments over others, in the same way as if it were to directly subsidize them, and subject to the same critiques.)

The further removed from government, moreover, the less the chances of politicization. There’s a reason we set up Crown corporations at arm’s length from the government of the day, in the hopes of insulating them from politically-minded meddling.

Privatization simply takes that one step further. At the same time, a company in private hands can be regulated in a more disinterested fashion, without the inherent conflict of interest of a government, in effect, regulating itself. Last, experience teaches that when people own something directly, and have an interest in its value, they tend to take better care of it — whereas when the state owns something, no one does.

Yet government and private sector alike are too willing to blur this distinction. Rather than simply put a project out to private tender, with investors bearing all of the risk in return for all of the profit, public and private capital are frequently commingled. All too often, this means public risk for private profit.

That, alas, seems where we are headed — with an extra twist of malignancy. For, as the Canadian Press recently reported, the “private” investors the feds have their eyes on are in fact the country’s public pension plans, notably the Canada Pension Plan’s $283-billion investment fund and Quebec’s Caisse de dépot et placement — much as the Ontario government had earlier suggested it would use its planned provincial equivalent.

This is a truly terrible idea. On the one hand, it offers governments a way to finance their spending on the quiet, without subjecting their plans to the scrutiny of either the credit markets or Parliament. On the other hand, it opens pension funds to pressure to invest in ways that may not be in the best interest of pensioners, but rather of their political “partners.”

I know, I know: the public pension plans are independent of government, at arms’ length, and all that. But the history of the Caisse is rather less than reassuring in this regard, while the presence of the CEOs of both the Caisse and the CPP Investment Board on the Finance minister’s new economic advisory council does not quite scream independence.

Even more disquieting is the Caisse’s latest venture, a $5.5-billion light rail project in Montreal, of which the Caisse itself would put up a little more than half — with the remainder, it hopes, to come from the federal and provincial governments.

Is it too hard to imagine, in the negotiations to come, the governments in question suggesting a little quid pro quo: we’ll fund yours if you’ll fund ours?

Well now. If I lend you $100 and you lend me $100, are either of us $1 better off? Now suppose you and I are basically the same person, and you have some idea of the nonsense involved here. The pension plans will fund government infrastructure projects with the money they make on investments funded in part by governments out of the return on investments that were financed by the pension plans and so on ad infinitum.

A government that borrows from others acquires a liability, but a government that borrows from itself may be accounted a calamity.

Poor Andrew Coyne, he just doesn’t get it. Before I rip into his idiotic comment, let’s go over another equally idiotic comment by an economist called Martin Armstrong who put out a post, Asset Recycling – Robbing Pensions to Cover Govt. Costs:

We are facing a pension crisis, thanks to negative interest rates that have destroyed pension funds. Pension funds are a tempting pot of money that government cannot keep its hands out of. The federal government of Canada, for example, is looking to reduce the cost of government by shifting Canada’s mounting infrastructure costs to the private sector. They want to sell or lease stakes in major public assets such as highways, rail lines, and ports. In Canada, they hid a line in last month’s federal budget that revealed that the Liberals are considering making public assets available to non-government investors, such as public pension funds. They will sell the national infrastructure to pension funds, robbing them of the cash they have to fund themselves. This latest trick is being called “asset recycling,” which is simply a system designed to raise money for governments. This idea is surfacing in Europe as well as the United States, especially among cash-strapped states.

This is the other side of 2015.75; the peak in government (socialism). Everything from this point forward is a confirmation that these people are in crisis mode. They are rapidly destroying Western culture because they are simply crazy and the people who blindly vote for them are out of their minds. They are destroying the very fabric of society for they cannot see what they are doing nor where this all leads. Once they wipe out the security of the future, the government will crumble to dust to be swept away by history. We deserve what we blindly vote for.

Wow, “peak government socialism”, “destroying the very fabric of society”, and all this because our federal government had the foresight to approach Canada’s big, boring public pension funds to invest in domestic infrastructure?

These comments are beyond idiotic. Forget about Martin Armstrong, he sounds like a total conspiratorial flake worried about the end of humanity as we know it (not surprised to see him publishing doom and gloom articles on Zero Hedge).

Let me focus on Andrew Coyne, the resident conservative commentator who also regularly appears on the CBC to discuss politics. People actually listen to Coyne, which makes him far more dangerous when he spreads complete rubbish like the article he penned above (to be fair, I prefer his political comments a lot more than his economic ones).

In my last comment on pensions bankrolling Canada’s infrastructure, I praised the federal government’s initiative of “asset recycling” and stated why it makes perfect sense for Canada’s large pensions to invest in domestic infrastructure:

• Federal, provincial and municipal governments are cash-strapped and they need funds to invest in infrastructure. Increasing taxes to do this is simply not a viable option when the economy is weak.
• Unlike other investments, investing in infrastructure has huge long-term economic benefits to any country and infrastructure jobs pay well, which means there is an important multiplier effect to the overall economy from these jobs.
• Pensions need yield. They can invest in public and private markets or in hedge funds. Increasingly, they’re avoiding volatile public markets where bond yields are at historic lows and they’re even starting to shun hedge funds which promise absolute returns but have failed to keep up with simple stock and bond indexes.
• Where are pensions turning to? Private equity, real estate and infrastructure. But unlike private equity, Canada’s large pensions invest directly in infrastructure, avoiding hefty fees to general partners (GPs), and unlike real estate, the duration of infrastructure assets is a better match to the duration of their long dated liabilities which typically go out 75+ years.
• What else? infrastructure assets are highly scalable, meaning these large pensions can put a huge chunk of money to work in one infrastructure investment instead of many private equity or hedge funds which charge big fees and don’t offer safe, predictable returns.
• Most of Canada’s large public pensions target an actuarial rate of 6.3% (nominal), so if Michael Sabia is right and infrastructure offers a stable, predictable and low-risk return of 7-9%, then why not invest directly in infrastructure? It makes perfect sense.
• Canada’s large public pensions are internationally renowned infrastructure investors, investing in airports, highways, ports, and other infrastructure investments all around the world. Their focus has mainly been in Britain and Australia where the rule of law is similar to the one in Canada.
• But if the federal government makes public infrastructure available to them here, either through long-term leases or outright sales, then why not invest in domestic projects, foregoing any currency risk or foreign regulatory risk? Again, it makes perfect sense, it’s simple logic, not rocket science.
• Of course, if the federal government opens public infrastructure assets to Canada’s large pensions, it has to do so for international mega pension and sovereign wealth funds too, introducing competition and leveling the playing field.
• Typically Canada’s large pensions invest in mature infrastructure investments that have been operational for years and offer well-known cash flows, avoiding riskier greenfield projects with uncertain cash flow projections.
• But the Caisse is dipping into greenfield projects here in Quebec. It can do so because it has hired an experienced team of infrastructure professionals with actual operational experience who have project management experience and have overseen previous greenfield projects.

I also stated the following:

No doubt, greenfield infrastructure projects carry bigger risks but they also offer bigger rewards down the road. Will everything go smoothly in this project? Of course not, there isn’t one major greenfield infrastructure project that goes off without a hitch but the people working on this project have actual operational experience and a track record of delivering on such projects below budget (which isn’t easy) easing my concerns about recouping operating and capital costs.

So, I would tell the media and critics to ease up and have faith in Macky Tall and his team at CDPQ Infra. They are all very experienced and highly ethical individuals who will deliver on this and other greenfield projects if they are asked to in the future. And trust me, there will be no Charboneau Commission on this project which is great news for Quebec’s taxpayers.

Now, let’s get back to Coyne’s article. He states the following:

This is a truly terrible idea. On the one hand, it offers governments a way to finance their spending on the quiet, without subjecting their plans to the scrutiny of either the credit markets or Parliament. On the other hand, it opens pension funds to pressure to invest in ways that may not be in the best interest of pensioners, but rather of their political “partners.”

And follows up right away with this:

I know, I know: the public pension plans are independent of government, at arms’ length, and all that. But the history of the Caisse is rather less than reassuring in this regard, while the presence of the CEOs of both the Caisse and the CPP Investment Board on the Finance minister’s new economic advisory council does not quite scream independence.

First of all, it’s arm’s length, but leaving that typo aside, what is Coyne talking about? Canada’s large public pensions have a fiduciary mandate to invest in the best interests of their beneficiaries by maximizing their return without taking undue risk. It is stipulated in the law governing their operations and it’s part of their investment policy and philosophy.

Second, Canada’s large public pensions operate at arm’s length from the government precisely because they want to eliminate government interference in their investment process. Importantly, the federal government isn’t forcing Canada’s large public pensions to invest in infrastructure, it’s consulting them to see if they can strike a mutually beneficial policy which will allow the government to deliver on its promise to invest in infrastructure and public pensions to meet their actuarial target rate of return by investing in domestic as opposed to foreign infrastructure (lest we forget their liabilities are in Canadian dollars and there is less regulatory risk investing in domestic infrastructure).

Here you have world class pension experts investing directly in infrastructure assets all around the world and Andrew Coyne thinks it’s shady that Mark Wiseman and Michael Sabia are sitting on the Finance Minister’s economic advisory council? If you ask me, our Finance Minister would be a fool if he didn’t ask them and others (like Leo de Bever, AIMCo’s former CEO and the godfather of investing in infrastructure) to sit on his advisory council.

In the height of the 2008 crisis, I was working as a senior economist at the Business Development Bank of Canada (BDC) and I clearly remember our team preparing that organization’s former CEO, Jean-René Halde, for his Friday morning discussions with then Finance Minister Jim Flaherty. Other CEOs of major Crown corporations (like Steve Poloz the current Governor of the Bank of Canada who was the former CEO of Export Development Canada), were on that call too looking at ways to help banks provide credit and invest in small and medium sized enterprises. There was nothing shady about that, it was a very smart move on Flaherty’s part.

Speaking of shady activity, I have more confidence in the people at the Caisse overseeing the $5.5 billion light rail project than I do with anyone working in the municipal, provincial or federal government in charge of our infrastructure assets. If you want to cut the risk of corruption, you are much better off having the tender offers go through CPDQ Infra than some government organization which isn’t held accountable and doesn’t have skin in the game.

That brings me to another topic. Canada’s large public pensions aren’t in the charity business, far from it. If they’re investing in domestic infrastructure, it’s because they see a fit to meet their long dated liabilities and make money off these investments. And let’s be clear, they all want to make money taking the least risk possible because that is how they justify their hefty compensation.

The notion that any provincial or even the federal government is forcing public pensions to invest in infrastructure is not only ridiculous, it’s downright laughable and shows complete ignorance on Coyne’s part as to the governance at Canada’s large public pensions and their investment mandate and incentive structure.

Andrew Coyne should stick to political commentaries. When it comes to public pensions and the economy, he’s just as clueless as the hacks over at the Fraser Institute claiming CPP is too costly. It isn’t, we should build on CPPIB’s success.

Leo Kolivakis is a blogger, trader and independent senior pension and investment analyst. This post was originally published at Pension Pulse.

Andy Blatchford of the Canadian Press reports, Liberal government to consider public pension funds to help bankroll mounting infrastructure costs:

The federal government has identified a potential source of cash to help pay for Canada’s mounting infrastructure costs — and it could involve leasing or selling stakes in major public assets such as highways, rail lines, and ports.

A line tucked into last month’s federal budget reveals the Liberals are considering making public assets available to non-government investors, like public pension funds.

The sentence mentions “asset recycling,” a system designed to raise money to help governments bankroll improvements to existing public infrastructure and, possibly, to build new projects.

For massive, deep-pocketed investors like pension funds, asset recycling offers access to reliable investments with predictable returns through revenue streams that could include user fees such as tolls.

“Where it is in the public interest, engage public pension plans and other innovative sources of funding — such as demand management initiatives and asset recycling — to increase the long-term affordability and sustainability of infrastructure in Canada,” reads the sentence in the new Liberal government’s first budget.

Asset recycling is gaining an increasing amount of international attention and one of the best-known, large-scale examples is found in Australia. The Australian government launched a plan to attract billions of dollars in capital by offering incentives to its states and territories that sell stakes in public assets.

Like the Australian example, experts believe monetizing Canadian public assets could generate much-needed funds for a country faced with significant infrastructure needs.

The Liberal budget paid considerable attention to infrastructure investment, which it sees as way to create jobs and boost long-term economic growth. The Liberals have committed more than $120 billion toward infrastructure over the next decade.

Proponents of asset recycling say enticing deep-pocketed investors to join can help governments avoid amassing debt or raising taxes.

“Asset recycling is a way to attract private-sector investment into activities that were formerly, exclusively, in the public realm,” said Michael Fenn, a former Ontario deputy minister and management consultant who specializes in the public sector.

“It’s something that we should pay a lot of attention to and I’m really pleased to see the federal government is looking seriously at it.”

Fenn serves as a board member for OMERS pension fund, which invests in public infrastructure around the world. He stressed he was not speaking on behalf of OMERS or its investments.

Two years ago, Fenn wrote a research paper for the Toronto-based Mowat Centre think-tank titled, Recycling Ontario’s Assets: A New Framework for Managing Public Finances.

In Canada, he said there have been a few examples that resemble asset recycling, including Ontario’s partnership with Teranet to manage its land registry system and the province’s more recent move to sell part of the Hydro One power company.

For the most part, Canada’s big pension funds have been focused on international infrastructure investments because few domestic opportunities have been of the magnitude for which they tend to look.

Australia’s asset-recycling model has been praised by influential Canadians such as Mark Wiseman, president and chief executive of the Canada Pension Plan Investment Board.

“With growing infrastructure deficits worldwide … we often reference this model with our own government and others as one to follow to (incentivize) and attract long-term capital,” Wiseman said in prepared remarks of a September speech in Sydney to the Canadian Australian Chamber of Commerce.

The massive CPP Fund had $282.6 billion worth of assets at the end of 2015. Wiseman’s speech noted more than 75 per cent of its investments were made outside Canada, including about $7 billion in Australia.

Last month, Wiseman was named to Finance Minister Bill Morneau’s economic advisory council, which is tasked with helping the government map out a long-term growth plan. The council also includes Michael Sabia, CEO of Quebec’s largest public pension fund, the Caisse de dépôt et placement du Québec.

In a prepared speech last month in Toronto, Sabia said financial institutions like pension plans have tremendous potential to drive growth through infrastructure investment. For the investor, Sabia said that infrastructure offers stable, predictable, low-risk returns of seven to nine per cent.

A spokeswoman for Morneau’s office was asked about Ottawa’s interest in asset recycling, but she referred back to the budget and said there was nothing new to add on the issue, for the moment.

Last year, I discussed this idea of opening Canada’s infrastructure floodgates. Since then, the idea has taken off and there has been a vigorous push from Ottawa to court pensions on infrastructure.

Why does this initiative of “asset recycling” make sense? I’ve already mentioned my thoughts here but let me briefly make a much simpler case below:

• Federal, provincial and municipal governments are cash-strapped and they need funds to invest in infrastructure. Increasing taxes to do this is simply not a viable option when the economy is weak.
• Unlike other investments, investing in infrastructure has huge long-term economic benefits to any country and infrastructure jobs pay well, which means there is an important multiplier effect to the overall economy from these jobs.
• Pensions need yield. They can invest in public and private markets or in hedge funds. Increasingly, they’re avoiding volatile public markets where bond yields are at historic lows and they’re even starting to shun hedge funds which promise absolute returns but have failed to keep up with simple stock and bond indexes.
• Where are pensions turning to? Private equity, real estate and infrastructure. But unlike private equity, Canada’s large pensions invest directly in infrastructure, avoiding hefty fees to general partners (GPs), and unlike real estate, the duration of infrastructure assets is a better match to the duration of their long dated liabilities which typically go out 75+ years.
• What else? infrastructure assets are highly scalable, meaning these large pensions can put a huge chunk of money to work in one infrastructure investment instead of many private equity or hedge funds which charge big fees and don’t offer safe, predictable returns.
• Most of Canada’s large public pensions target an actuarial rate of 6.3% (nominal), so if Michael Sabia is right and infrastructure offers a stable, predictable and low-risk return of 7-9%, then why not invest directly in infrastructure? It makes perfect sense.
• Canada’s large public pensions are internationally renowned infrastructure investors, investing in airports, highways, ports, and other infrastructure investments all around the world. Their focus has mainly been in Britain and Australia where the rule of law is similar to the one in Canada.
• But if the federal government makes public infrastructure available to them here, either through long-term leases or outright sales, then why not invest in domestic projects, foregoing any currency risk or foreign regulatory risk? Again, it makes perfect sense, it’s simple logic, not rocket science.
• Of course, if the federal government opens public infrastructure assets to Canada’s large pensions, it has to do so for international mega pension and sovereign wealth funds too, introducing competition and leveling the playing field.
• Typically Canada’s large pensions invest in mature infrastructure investments that have been operational for years and offer well-known cash flows, avoiding riskier greenfield projects with uncertain cash flow projections.
• But the Caisse is dipping into greenfield projects here in Quebec. It can do so because it has hired an experienced team of infrastructure professionals with actual operational experience who have project management experience and have overseen previous greenfield projects.

On this last point, the Caisse announced plans on Friday for its Réseau électrique métropolitain (REM), an integrated, world-class public transportation project. Jason Magder of the Montreal Gazette reports, Electric light-rail train network to span Montreal by 2020:

It will be the biggest transit project since the Montreal métro, but this one will be built and mostly funded by a pension fund.

The Caisse de dépôt et placement du Québec, the province’s pension fund manager, unveiled on Friday a light-rail network it intends to build, with the first stations coming online in 2020.

“Every time you take this train, you’ll be paying into your retirement,” said Michael Sabia, the CEO of the Caisse.

Answering decades of demands for an airport link from downtown, the $5.5-billion Réseau électrique métropolitain will be a vast network linking the South Shore, the West Island and Deux-Montagnes to both the airport and the downtown core.

“What we’re announcing today is the most important public transit project in Montreal in the last 50 years,” said Macky Tall, the president of CDPQ Infra, the Caisse’s infrastructure arm.

Leaving from Central Station, the 67-kilometre network will use the track running through the Mount Royal tunnel, taking over the Deux-Montagnes line — which already runs electric trains — from the Agence métropolitaine de transport. New tracks will be built over the new Champlain Bridge, and link to the South Shore, ending near the intersection of Highways 30 and 10 in Brossard. Two other dedicated tracks will be built, branching off from the Deux-Montagnes line, where Highway 13 meets Highway 40. One track will head to Trudeau airport, with a stop in the Technoparc in St-Laurent. Another will follow Highway 40 toward Ste-Anne-de-Bellevue. The existing Vaudreuil-Dorion train line won’t be affected by the project.

Light rail trains are smaller and carry fewer passengers, but the service will be more frequent than the current AMT service, Tall said.

This is not the pension manager’s first foray into public transit. The Caisse is one of the builders of the Canada Line, a train that links Vancouver’s airport to the downtown area and the suburb of Richmond. It was built in time for the 2010 Olympic Games.

However, Sabia admitted this project represents a much greater risk, since the Caisse is the principal investor and has to recoup both its capital investment and its operating costs. But he’s confident the Caisse will achieve “market competitive returns” on the project.

“We are taking the traffic risk here,” Sabia said. “This is unusual because generally, it’s governments that take that risk.”

Matti Siemiatycki, an associate professor of urban planning at the University of Toronto, said this is a first for Canada, so it’s an untested funding model.

“Internationally, there have been privately funded and financed commuter rail lines, but in most cases, they don’t recover their operating costs, let alone their capital costs,” Siemiatycki said.

He said because it has holdings in engineering, train manufacturing and train operating companies, the pension fund does have an advantage. But he’s not sure it will be enough.

“It’s possible they can realize economies, but it doesn’t take away the fact that most transportation systems in North America are not recovering their operating costs, let alone their capital costs, so that will be the Caisse’s challenge,” he said.

Sabia said the Caisse intends for most of the revenue to come from fares, which he said will be similar to the ones currently charged by the AMT.

“That’s a big chunk of it but, of course, as you know municipalities today have made a public policy decision to encourage people to use public transit,” Sabia said. “We would expect that current practice would continue and contribute to the overall financing of the project.”

Because the trains will be fully automated, Sabia said the operating cost of the network will be low.

The Caisse, which has a real-estate investment division, will also try to recoup some of the investment through development along the line, but Sabia said the bulk of the revenue will come from ridership. The Caisse expects a daily ridership of 150,000, compared with 85,000 that currently use the Deux-Montagnes line, the 747 airport bus and buses across the Champlain Bridge.

The Caisse has promised trains will leave every three to six minutes from the South Shore and every six to 12 minutes on the West Island and Deux Montagnes Line, for the duration of its 20-hour operation schedule from 5 a.m. to 1:20 a.m. The Caisse estimates it will take 40 minutes to take the train from either Ste-Anne-de-Bellevue or Deux-Montagnes to downtown. It will take 30 minutes to go from Central Station to the airport. It will take between 15 and 20 minutes to travel from Brossard to downtown.

Tall said the decision to follow Highway 40 was made because of work going on in the Turcot Interchange. That work would have prevented crews from building dedicated lines for the next five years. He said building along that corridor would also cost $1 billion more because it would require a track dedicated to passenger traffic.

The thorny issue of parking remains unsolved, however. Currently, many stations along the Deux-Montagnes line are over capacity and there is no space to build new parking spots.

Tall said the Caisse will speak with municipalities about this issue and hopes to come up with a solution.

Michael Sabia has gone from being an outsider to a rainmaker in Quebec. When he took over the provincial pension fund, it was $40 billion in the hole. He’s managed to grow its asset base by $130 billion since then and is now looking to invest directly in Quebec’s infrastructure with this “risky” foray into a greenfield project.

I put “risky” in quotations because unlike that associate professor of urban planning quoted in the article above, I’m more optimistic and think he is underestimating Macky Tall, CEO of CDPQ Infra and his senior team, many of whom have worked on greenfield infrastructure projects and know what they’re doing when it comes to managing such large scale projects. No other large Canadian pension fund has as much operational experience when it comes to greenfield infrastructure projects, which is why they typically avoid them.

So, while Sabia garners all the attention, there are a lot of people under him who deserve credit and praise for this huge project. One of them is a friend of mine who has nothing but good things to say about Michael Sabia, Macky Tall, CDPQ Infra’s team and the Caisse in general.

No doubt, greenfield infrastructure projects carry bigger risks but they also offer bigger rewards down the road. Will everything go smoothly in this project? Of course not, there isn’t one major greenfield infrastructure project that goes off without a hitch but the people working on this project have actual operational experience and a track record of delivering on such projects below budget (which isn’t easy) easing my concerns about recouping operating and capital costs.

So, I would tell the media and critics to ease up and have faith in Macky Tall and his team at CDPQ Infra. They are all very experienced and highly ethical individuals who will deliver on this and other greenfield projects if they are asked to in the future. And trust me, there will be no Charboneau Commission on this project which is great news for Quebec’s taxpayers.

A line Canada’s federal budget reveals that lawmakers are considering selling and leasing stakes in the country’s infrastructure to public pension funds as a mechanism for infrastructure improvements, according to the Canadian Press.

Pension360 previously wrote that several of the country’s largest public pension funds – which are, not coincidentally, some of the largest infrastructure investors in the world, had an appetite for such an arrangement.

More from the Canadian Press:

A line tucked into last month’s federal budget reveals the Liberals are considering making public assets available to non-government investors, like public pension funds.

The sentence mentions “asset recycling,” a system designed to raise money to help governments bankroll improvements to existing public infrastructure and, possibly, to build new projects.

“Where it is in the public interest, engage public pension plans and other innovative sources of funding — such as demand management initiatives and asset recycling — to increase the long-term affordability and sustainability of infrastructure in Canada,” reads the sentence in the new Liberal government’s first budget.

[…]

Australia’s asset recycling model has been praised by influential Canadians such as Mark Wiseman, president and CEO of the Canada Pension Plan Investment Board.

“With growing infrastructure deficits worldwide … we often reference this model with our own government and others as one to follow to incent and attract long-term capital,” Wiseman said in prepared remarks of a September speech in Sydney to the Canadian Australian Chamber of Commerce.

Infrastructure investments are a strong fit for public pension funds because they are long-term and offer reliable, steady returns.

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at Calpensions.com.

Should CalPERS continue a 16-year-old ban on highly profitable tobacco investments or consider reinvesting after a lengthy study, risking a public-relations black eye and controversy?

A committee with all 13 CalPERS board members narrowly approved a staff proposal last week to begin a two-year review of tobacco investments, including outreach to members and others and an economic study costing $500,000 in an initial estimate.

But at the request of state Treasurer John Chiang, a board member and potential Democratic candidate for governor, the chairman of the investment committee, Henry Jones, agreed to reconsider the tobacco issue next month.

“Investing in tobacco companies is harmful to public health and to our fiscal bottom line,” Chiang said in a news release. “Smoking causes addiction, disease and death. No public pension fund should associate itself with an industry that is a magnet for costly litigation, reputational disdain, and government regulators around the world.”

The push from the state treasurer was an echo of the original decision in 2000 to ban tobacco investments. The state treasurer at the time, Phil Angelides, who made an unsuccessful run for governor four years later, led the drive for divestment.

The main argument for the ban (approved with a one-vote margin like the review last week) was that tobacco would be an unprofitable investment due to litigation, regulation, and massive health-related settlements with state and local governments.

CalPERS had a surplus then and had infamously, in the view of critics, told the Legislature the previous year that a large retroactive pension increase for state workers, SB 400 in 1999, would not cost “a dime of additional taxpayer money.”

Now CalPERS is underfunded, with 74 percent of the assets needed to pay future pensions in the last report, and concerned that another major economic downturn, like the last one, could drop funding to 50 or 40 percent, making a return to full funding unlikely.

And despite the bleak outlook in 2000, tobacco has been one of the most profitable investment sectors. (see chart below) Analysts say tobacco stocks perform well in downturns, have growing sales in developing nations, and steadily pay big dividends.

“If a large enough proportion of investors avoids sin businesses, their share prices will be depressed, thereby offering the prospect of elevated returns to those less troubled by ethical considerations,” a Cambridge University professor, Elroy Dimson, said in a Credit Suisse report last year on “sin” business investments.

Tobacco’s burden is more than stigma. In 1998, four U.S. tobacco companies agreed to pay $246 billion over 25 years to settle about 40 lawsuits by states to recover medical service costs for smoking-related diseases.

California is one of the states that issued bonds that will be paid off by the tobacco money. A state treasurer’s report in 2007 said California had sold $16.8 billion worth of tobacco securitization bonds, $3.6 billion by 28 local agencies and the rest by the state.

California voters approved a 25-cents-per-pack tobacco tax, Proposition 99 in 1988, for a program to prevent and discourage the use of tobacco. In November 2012 voters narrowly rejected a $1-per-pack tax for cancer research, 49.8 to 50.2 percent.

This year, signatures are being gathered to place a $2-per-pack tobacco tax for public health care on the November ballot.

The new initiative is backed by a union representing public health care workers, SEIU, and Tom Steyer, a billionaire former hedge-fund manager, environmentalist and Democratic campaign donor, who is mentioned as a potential candidate for governor.

An analysis of the California Public Employees Retirement System divestment policy last fall found that the tobacco ban had cost $2 billion to $3 billion through 2014, depending on the methodology used, Wilshire consultants said.

CalPERS staff concluded that the cost of other divestments related to Iran, Sudan, firearms, and emerging market principles are relatively minor (in an investment fund valued at $296 billion last week) and could be reviewed under a general policy.

But the tobacco loss was deemed large enough to merit a separate review. The rationale for the new look at tobacco is the “fiduciary duty” CalPERS board members have under the state constitution to act in the best interests of pension recipients.

A union-backed constitutional amendment, Proposition 162 in 1992, a response to a state budget “raid” on CalPERS funds, made paying pensions the top priority of public pension boards, ahead of what had been an equal goal of minimizing employer costs.

A staff agenda item last week said the constitution states, among other things, that the CalPERS board “ . . . shall diversify the investments . . . so as to minimize the risk of loss and to maximize the rate of return . . .”

A substitute motion by Treasurer Chiang’s representative on the CalPERS board, Grant Boyken, to reject the review and reconsideration of tobacco investments failed on a 6-to-5 vote with one abstention.

“While my heart would absolutely love to support the substitute motion,” said board member Priya Mathur, “I think from a fiduciary perspective process is everything, and it’s really important that we engage in a robust process to review something that has substantial financial implications for the portfolio.”

Mathur’s successful motion called for an expert long-term economic study of tobacco, outreach and education to stakeholders for their input, learning how other institutional investors have offset tobacco losses, and alternatives to tobacco divestment.

The motion also scheduled a board discussion of tobacco divestment in January 2018 and a vote the following the month. Reviews of non-tobacco divestments would be triggered if losses exceed a threshold to be set later.

In the 7-to-4 vote with one abstention, voting “yes” were state Controller Betty Yee, Mathur, Bill Slaton, Dana Hollinger, Rob Feckner, Ron Lind, and Theresa Taylor. Voting “no” were Chiang, J.J. Jelincic, Michael Bilbrey, and Richard Costigan.

Katie Hagen, representing Human Resources director Richard Gillihan, abstained. Following CalPERS custom the committee chairman, Henry Jones, only votes to break a tie.

The California State Teachers Retirement System added a 21st risk factor to its investment policy as the basis for tobacco divestment: an industry product harmful to human health that results in lawsuits, regulation, and avoidance by other investors.

CalSTRS eliminated most tobacco investments by changing its benchmarks in 2000, then completed the divestment in 2009 by banning tobacco investments by active managers. A spokesman said tobacco divestment has cost CalSTRS more than $4 billion.

“CalSTRS is a patient, long-term investor, and the ultimate economic impact of divestment from tobacco cannot yet be determined,” Jack Ehnes, CalSTRS chief executive officer, said in a blog post on Aug. 21, 2013.

“Similarly difficult to assess is the social impact of this action,” he said. “What we do know is that CalSTRS no longer exerts institutional strength in this market sector and cannot attempt to leverage that financial strength to achieve reform.”