Pension360

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

Jacqueline Nelson of the Globe and Mail reports, Volatile markets shake CPPIB results:

The Canada Pension Plan Investment Board reported a decline in Canada Pension Plan assets to $298.1-billion in its third fiscal quarter, as a major drop in North American fixed income markets hampered investment results.

CPPIB, which manages the Canada Pension Plan investment portfolio, said Friday that the $2.4-billion decrease in assets through the quarter ended Dec. 31 was caused by a swell in CPP payments made to cover benefits at the end of the calendar year that exceeded the $1.7-billion in investment income the fund produced. The investment portfolio’s return in the quarter was 0.56 per cent, after factoring in all costs.

“The fund’s modest return this quarter reflects the largest quarterly decline in North American fixed income markets since CPPIB’s inception coupled with the Canadian dollar strengthening against most major currencies except for the U.S. dollar, partially offsetting gains in our public equity portfolio,” said Mark Machin, CEO of the CPPIB, in a statement.

The end of 2016 and the election of U.S. president Donald Trump brought broad declines to the bond market, projecting investor expectation of inflation and economic growth in the U.S. CPPIB also takes the strategic position not to not to hedge its investment portfolio against currency fluctuations, which means foreign exchange changes can generate big gains or losses.

Mr. Machin has cautioned in recent months to expect more short-term volatility in the fund’s investment results, as the pension fund adjusts its approach to risk in a way it expects will lead to higher long-term gains. So far, in the nine months of CPPIB’s current fiscal year, the fund has produced a 6.9 per cent investment return, after factoring costs.

The CPPIB said that it expects to see more CPP contributions flow into the CPP Fund during the first part of the 2017 calendar year, which will help to make up payments exceeding contributions at the end of 2016. The fund noted that it receives more contributions annually than it pays out.

On the investment front, the pension fund was highly active in the quarter, particularly in real estate. CPPIB invested in student housing, office buildings and retail. The fund also sold a large stake in a Manhattan office tower.

“Income was generated across investment programs and our teams continue to invest in assets in line with our long-term objectives to deliver solid results,” Mr. Machin added.

The breakdown of CPPIB’s investment portfolio shifted only slightly in the quarter. Equity investments made up 56 per cent of assets at the end of December, and 22.1 per cent of assets are in fixed-income investments such as bonds. Infrastructure and real estate assets made up the remaining 21.9 per cent.

CPPIB reported a 10-year annualized return of 4.8 per cent after factoring inflation, which exceeds the standard set by Canada’s Chief Actuary.

Barbara Shecter of the National Post also reports, CPP Fund assets fall below $300 billion, hit by the biggest decline in fixed income markets in its history:

A decline in North American fixed income markets and seasonal cash outflows cause net assets of the CPP Fund to dip below $300 billion.

The fund, which had assets of $300.5 billion at the close of the second quarter, ended the third quarter on Dec. 31 with assets of $298.1 billion.

The investment portfolio delivered a net investment return of $1.7 billion, or 0.56 per cent after all costs, while Canada Pension Plan cash outflows in the quarter were $4.1 billion.

“The Fund’s modest return this quarter reflects the largest quarterly decline in North American fixed income markets since CPPIB’s inception coupled with the Canadian dollar strengthening against most major currencies except for the U.S. dollar,” said Mark Machin, chief executive of the Canada Pension Plan Investment Board.

He said those factors partially offset gains in the public equity portfolio.

In an interview, Machin said the CPP Investment Board is watching the bond market to try to gauge what the ultimate impact will be of the election of Donald Trump as president of the United States.

“It’s always difficult to tell” what the longer-term direction of the bond market will be, he said. “The received wisdom a few months ago was that we were in a lower for longer (period) and negative rates would continue for as far as you can see, but I think the market took a very different view on the elections in the U.S. and the new administration’s policies being very pro-growth.”

The immediate assumption of an inflationary environment took the wind out the bond markets, but Machin said it remains to be seen what policies will ultimately be put in place, how quickly that will happen, and what the knock-on effects will be around the world.

“The big protection for us ultimately is diversification and finding diversification across asset classes, across geographies, across strategies, and that’s what we’re focused on overall so we create a portfolio that will weather the stresses in any individual market anywhere,” he said.

Investing in the United States will remain an important part of the strategy for CPP Investment Board, which invests funds not needed to pay current CPP benefits.

“The U.S. is the biggest destination for our capital… We’re active across just about every one of our strategies” there, he said.

Machin said CPPIB is seeking out “selective opportunities” in markets that could be characterized as stable and even somewhat buoyant.

“There’s no market that’s distressed right now. Volatility is, if anything, at all-time lows in the equity markets,” he said.

For the first nine months of the year, the CPP Fund increased by $19.2 billion and posted an investment return of 6.9 per cent after all costs. Investment income was $19.4 billion, and CPP cash outflows were $0.2 billion.

The CPP Fund routinely receives more contributions than are required to pay benefits during the first part of the calendar year. This is partially offset by payments exceeding contributions in the final months of the year.

Keith Ambachtsheer, a pension expert and co-founder of KPA Advisory Services, said quarterly changes in capital value of an investment fund “are noise…not signal” – regardless of whether they are positive or negative.

“That’s why most of the content of the quarterly CPPIB reports deal with more important longer term issues,” he said.

These are good articles but I normally don’t discuss quarterly results from CPPIB or even semi-annual results from the Caisse. Why? Because, unless there is a big bomb I’m unaware of, I honestly couldn’t care less about short-term results of any pension, they are totally irrelevant in the longer scheme.

In fact, please repeat after me: “I will stop paying attention to CPPIB’s quarterly results.” Period, end of story. Critics of the Canada Pension Plan and CPPIB will harp all over these articles, trying to put a negative spin on them, I simply ignore them.

So, if quarterly results are so immaterial, why does CPPIB report them? Short answer is they have to by law, all part of good governance, full transparency and regular communication.

Now, truth is last quarter was full of action following Trump’s victory. US long bonds sold off and stocks took off, so a lot of pensions experienced some pretty big losses in their fixed income portfolio last quarter.

Some pensions like HOOPP and Ontario Teachers’ were up huge in their fixed income portfolio going into Q4 (CPPIB’s fiscal Q3), then experienced losses in the last quarter. The Caisse has been short bonds for a long time and they probably made decent money in Q4, but over the last four years, their short duration bet (including carry and roll down) has cost them big returns in their fixed income portfolio.

Looking forward, you know my thoughts on US long bonds. Back in November, I explained why Trump will not trump the bond market, urging institutional investors to load up on long bonds after the backup in yields.

At the beginning of the year, I warned my readers to beware of the reflation chimera and that it most certainly isn’t the beginning of the end for bonds:

I just got off the phone with the president of a major Canadian pension fund who told me that they had another solid year last year. He said they sold US Treasuries in mid-year when the 10-year yield approached 1% “because we didn’t see any more upside” and right before Christmas were itching to buy some 30-year Treasuries when yields popped back over 3.3%. He added: “If yields on the 10-year Treasuries rise back to 3%, we’ll be buying.”

What else did he share with me? Stocks are somewhat over-valued here by a factor of seven on their scale, with ten being significantly over-valued. “This silliness can last a little while longer but people forget the same thing happened back when Ronald Reagan won the elections. Stocks took off then too but after the inauguration, they sank 20% that year.”

No kidding! As I’ve repeatedly stated, most recently in my Outlook 2017: The Reflation Chimera, the best risk-reward in these markets is US Treasuries. I don’t care what Bill Gross, Ray Dalio, Paul Singer, Jeffrey Gundlach say in public, in a deflationary environment, I would be jumping on US long bonds (TLT) every time yields back up violently.

Also, take the time to read my comment on the 2017 US dollar crisis where I painstakingly go over the main macro trends and why all that is happening right now is the US is temporarily shouldering the world’s deflation problems through a higher dollar. There is nothing structural going on in terms of solid long-term growth.

What else? The global pension crisis is alive and well which is why I don’t see yields on the 10-year Treasuries rising anywhere near 3%. Most smart institutional fund managers took my advice and jumped on US long bonds when they yield on the 10-year hit 2.5%.

I started my career at BCA Research back in 1998 after a short stint for the Canada Revenue Agency writing a special report on white collar crime in Canada. At BCA, I helped Mark McClellan write the monthly Fixed Income Analyst (Mark is now the Global Strategist at BCA). Two things I know well: bonds and white collar crooks (Tom Naylor, the combative economist at McGill, taught me everything I need to know on hot money and the politics of debt and bankers, bagmen and bandits).

Speaking of BCA Research, a former colleague of mine from there and later at the Caisse, Brian Romanchuk, wrote a nice comment on his blog explaining why the cyclical situation in the US is still mediocre, stating:

The latest labour market data from the United States remain consistent with my view that the rate of growth is not enough to greatly reduce the mass underemployment that is the reality of the labour market. That said, the market implications are limited, as this is already priced into the curve. The Fed may wish to step up its anemic pace of rate hikes, but they will remain dependent upon the data.

I urge you to read his entire comment here. I think the Fed will raise rates more than once and may even (foolishly) raise three times this year, fueling the US dollar crisis I warned of late last year. That’s when things get sticky for emerging markets and financial markets.

Another BCA Research alumnus, François Trahan of Cornerstone Macro, was recently in Montreal at a CFA luncheon to explain why he is bearish and thinks the yield on the 10-year Treasury note will fall back below 1.3% later this year. I happen to agree with him and think a lot of people aren’t reading these markets right (if you’re an institutional investor, make sure you subscribe to Cornerstone Macro‘s research, it’s truly excellent).

And yet another BCA alumnus and bond guru who later went on to become Steve Cohen’s economist at SAC Capital, Gerard MacDonell, wrote a nice short comment in his blog last night, Ug, Trump rally, which you should all read even if his anti-Trump views are all over it (give it a rest old chap, breathe in, breathe out!!).

I will end my comment here, think a lot of people reading too much into CPPIB’s latest quarterly results should “breathe in, breathe out”. There really isn’t anything to worry about here.

When Mark Machin came to Montreal last fall and was nice enough to meet with me, I told him there will be challenging times ahead but to keep hammering the point that CPPIB will typically outperform in a bear market environment and under-perform in roaring bull markets. And to always focus on the long-term, these short-term results are totally irrelevant.

Of course, just like his predecessor, Mark knows all that, he’s a very smart and nice guy with tremendous experience and knowledge and he’s surrounded by a great group of professionals who are busy investing assets in public and private markets all over the world.

So relax, CPPIB is just fine and so are all of Canada’s large pensions!

The CIO of Danika, the $200 billion wealth management arm of Danske Bank A/S, doesn’t see hedge funds as part of his portfolio in the near future.

The reason? Hedge funds have forgotten how to hedge.

But he’s still open to investing in the right funds.

More comments from Anders Svennesen, via Bloomberg:

“If you look back over time, there are a lot of hedge funds that were really exposed to the market,” Anders Svennesen, the chief investment officer of Danske’s pension arm, Danica, who was recently made CIO at the bank’s wealth unit, said in an interview at his office outside Copenhagen.

“A real hedge fund ought to be market neutral, but an awful lot of them have been riding the wave of falling rates and rising stock prices,” Svennesen said. He doesn’t see outsourcing to hedge funds as a model that suits his goals here and now.

[…]

Svennesen says the trick is to identify hedge funds that actually live up to their mandate of being market neutral, so that they don’t start bleeding money when a sudden shock upends a price trend. He rejects speculation that today’s low-rate environment has undermined the logic of hedge funds, which traditionally charge high fees for their services.

“Those that really manage to be market neutral, and go in and operate in the right way, deliver a positive return, and there’s absolutely still a need for that,” he said. “Especially in the current environment.”

CalPERS expects to see an annual return of 5.8 percent under its new, more cautious allocation strategy, according to documents posted online by the pension fund this week.

The pension fund implemented the new allocation in September in anticipation of slower market growth over the next few years.

Notably, the expected return figure falls short of both CalPERS’ discount rate, which currently sits at 7.5 percent but will be lowered to 7 percent by 2020.

More from Reuters:

CalPERS’ caution mirrors outlooks from public pension funds across the United States as they try to grapple with investment forecasts of slow market growth over the next decade.

The new CalPERS allocation reduces the portfolio’s more volatile stock and private equity sectors and increases allocations of more stable investments such as real estate and infrastructure. The board expects to review the allocation again in 2018.

In December, CalPERS staff said the fund’s 10-year expected return was 6.2 percent. They expected annual returns to jump to 7.83 percent in the decades to follow. As a result, the fund’s long-term average would more closely align with CalPERS’s new discount rate, which the board voted in December to lower from 7.5 percent to 7 percent by 2020.

CalPERS spokeswoman Megan White told Reuters in an email on Tuesday that the 6.2 percent expectation is “more reflective of the desired allocation, and what we expect will emerge from the [asset liability management] meetings over the coming year.”

 

The Pennsylvania State Employees’ Retirement System will soon stop investing in international REITs, and will shift that money toward domestic strategies, according to IPE Real Estate.

The pension fund is also changing the benchmark index by which its measures its $2.4 billion real estate portfolio.

More from IPE:

Pennsylvania State Employees’ Retirement System is planning to stop investing internationally in real estate investment trusts (REITs).

The $26.3bn (€24.6bn) pension fund said it would move to a dometsic strategy to “continue to strive for the highest performing investments with the lowest volatility and best value for our members”.

The $369m REIT portfolio will be rebalanced using the pension fund’s existing REIT managers, CenterSquare Investment Management and CBRE Clarion Securities.

The pension fund is also changing its benchmark, swapping the S&P Developed Market Property Index for the FTSE NAREIT US Real Estate Index.

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

Michael Sabia, president and CEO of la Caisse de dépôt et placement du Québec, wrote an op-ed for all the major Quebec newspapers including the Montreal Gazette, REM electric train: A Montreal of the possible:

There’s Lightspeed, whose software helps 40,000 businesses across the world manage their sales. Hopper, whose successful use of big data predicts the best time to buy a plane ticket. Rodeo FX, whose special effects in Game of Thrones have won Emmys. There are researchers like Yoshua Bengio, whose work is pushing the boundaries of artificial intelligence. And Moment Factory, whose productions dazzle the planet.

Whether it’s big data or new media, artificial intelligence or virtual reality, Montreal is laying the foundations for its future, thanks to a new generation of entrepreneurs and researchers who think and work differently.

Thinking differently is what we try to do every day at la Caisse. And our Réseau électrique métropolitain project is a good example of thinking differently in undertaking a major public transit initiative.

Why is this project important? Because it’s vital that Greater Montreal propel itself into the economy of tomorrow. Because if we are to succeed as a city, we need infrastructure that moves the city forward rather than slowing its progress. Efficient public transit is essential in enabling Montreal to become a metropolis as dynamic as its entrepreneurs.

As a city, we have a unique opportunity to build an electric train network that will change the face of Greater Montreal. It’s a big responsibility that matches the scale of this almost $6 billion investment.

No matter their point of view on specifics, I think everyone agrees on one thing: Montrealers have waited too long for a transit system that meets their needs.

Rain or shine, they want to get to the airport without worrying about missing their plane due to traffic on Décarie or Highway 20. They want to make the Brossard-Central Station trip in 15 minutes flat. They want trains to run every six minutes during their rush-hour commute from Deux-Montagnes to downtown.

That said, the REM is much more than an effective public transit network. The project will create some 8,500 direct and indirect jobs annually during the four years of its construction. It will inject $3.7 billion of financial adrenaline to boost the local economy. That’s over and above the $5 billion in real estate investments expected along the project’s route, including transit-oriented development within walking distance of stations.

At la Caisse, we estimate that the REM will increase the overall public transit budget for the Greater Montreal area by about 2 to 4 per cent. That includes all capital expenditures — that is a first for Quebec. Put another way, for a comparable annual budget, the Greater Montreal area gets the equivalent of a second métro system.

***

Because the REM is such a transformative project for Greater Montreal, it’s perfectly reasonable that the project be closely scrutinized, and the subject of lively discussion. It’s the opposite that would be surprising.

Legitimate questions are being asked. Our goal at la Caisse is always to find better ways to answer them and to work hard to find the best solutions we can. That’s why I think it is important for us to better explain our timetable and the way we’re working to deliver the project on time and on budget.

We have committed to put the first REM trains in service by the end of 2020. First, because we are absolutely convinced it’s doable. And second, because by getting on with the job, we can more easily integrate into the new Champlain Bridge and help relieve chronic traffic jams in Montreal.

Of course, in Quebec we have had more than our fair share of substantial delays and chronic cost overruns in major infrastructure projects. And that’s precisely why we’ve chosen a different approach for the REM — one that allows us to deliver the project in a much more efficient way. We’re working methodically, with utmost rigour, using a continuous engineering approach. What does that mean? It means we’re always listening to suggestions and working on improvements, non-stop.

So far, we have organized 12 open-door meetings where we heard the views of some 3,000 citizens. We’ve discussed the project with hundreds of city officials, transit administrators and community groups. Many worthwhile improvements have resulted from these exchanges.

To broaden access to the REM for all Montrealers via the main métro lines, we accelerated the opening of three new stations at Édouard-Montpetit, McGill and Bassin Peel. To protect wetlands, we decided to extend a tunnel under the Sources Nature Park. To preserve historical buildings in Griffintown, we will be using elevated tracks. And so on.

This openness has guided us since the beginning, and it will continue to do so in the months ahead. In that spirit, we are currently working with the Environment Ministry to follow up on the recommendations of the BAPE environmental review board, despite our differences on certain issues raised in the report.

We are also using a continuous improvement approach to encourage the bidders who have responded to our call for tenders to deliver their most innovative solutions and technologies. Our open and flexible call for tenders is designed to draw on the very best ingenuity that these consortia have to offer.

This approach, based on flexibility and continuous engineering, is in widespread use elsewhere in the world. It’s an efficient way to continuously improve a project, while ensuring it meets expectations. This way of working — collaboratively and iteratively — is inherent in how the new economy works. That said, it is different from the traditional ways used in Quebec to deliver infrastructure.

As our work continues, we will continue to work with municipalities, remain open and receptive to suggestions from the public, and keep you informed of the progress made as we’ve done in recent months.

The REM was never intended to solve all of Greater Montreal’s transportation problems. But it will make a difference. That’s why those of us at la Caisse are working hard every day to plan and build a transit network that meets the needs of Montrealers. Because, for la Caisse and for me personally, there is only one Montreal. A Montreal of the possible.

The French media in Quebec also covered this story. You can read articles in Le Devoir, Le Journal de Montréal, Canoe Argent, CBC Radio-Canada, and elsewhere but the message is the same.

So what’s this “Montreal of the possible” all about and why is Michael Sabia coming out to publicly defend the Réseau électrique métropolitain (REM) project?

Now that you read the polite, politically correct version the president of the Caisse has eloquently penned above, let me give you the brutal raw truth and I won’t mince my words one bit.

The media in Quebec are full of disgusting parasites always looking for dirt to sell their crappy newspapers. They see corruption everywhere and are being fed total garbage by some people at the STM, FTQ, and other organizations which are working feverishly in the background to discredit this project.

Why are they doing this? Because they view the Caisse and its infrastructure group, CDPQ Infra, as a real threat to their operations and some construction and engineering companies are unhappy because they can’t grease their way into this mega project like they used to do in the old Québécois Wild West days before the Charbonneau commission exposed their crooked ways.

Now, truth be told, the Caisse is undertaking a major “greenfield” infrastructure project to revamp the transportation system in the city of Montreal, a first of its kind for any large Canadian and global public pension fund, so it’s not surprising that critics will scrutinize their every move from A to Z.

But Michael Sabia isn’t stupid. He knew all this going into this project which is why he entrusted it to Macky Tall (featured in picture above), the head of CDPQ Infra, and his team. Tall is a first rate infrastructure manager with the highest integrity and he hired people with solid experience in project financing and management, people with the highest integrity to oversee every aspect of this big project, including the calls for tender and understanding/ integrating the views and concerns from various agencies and concerned citizens.

Is CDPQ Infra perfect? Of course not, they will make mistakes along the way and that is normal for a project of this scale and scope. Name me one major infrastructure project in Canada or anywhere in the world that has never run into problems, it simply doesn’t exist.

But if you read the garbage being written in Quebec’s slanderous media, you’d think CDPQ Infra is run by a bunch of crooked, incompetent and inexperienced hacks. Total and utter nonsense which is why I stopped reading these articles, they only irritate me.

I’ve said it before and I will say it again, if I had a choice of going back to the old ways we were building infrastructure in Quebec or have the Caisse overseeing this mega project with first rate governance and a material financial interest, there’s no doubt in my mind I’d opt for the latter precisely because the Caisse has an interest in delivering this project on time and within budget.

Macky Tall and his infrastructure team at CDPQ Infra are getting a bum rap, all undeserved, but this is Quebec, the sewer of Canadian media (not that media outlets in other provinces are any better) so I’ve grown accustomed to reading sensationalized garbage which grossly distorts reality.

When all is said and done, I am sure Tall and his team will deliver the goods on time and within the budget allocated for this project. I can guarantee you that this wouldn’t have been the case had we gone back to the old ways of doing things.

As far as Sabia and his “Montreal of the possible” article, he is right on many things, including how this project will create many direct and indirect jobs, but the reality is this city is so congested that it’s starting to impact many businesses in a detrimental way. We desperately need this REM project to be completed on time and from what I am told, it will be positive for residential real estate on the outskirts of Montreal because people will be able to live there and easily come to the downtown core to work in a few minutes.

And while I am on this subject of congestion in Montreal, can the “geniuses” at Transport Quebec and the City of Montreal finally get it right with the l’Acadie circle near Rockland shopping center, the Decarie expressway, the Turcot interchange and countless other traffic nightmares in and around the city? We are living in third world conditions here and wasting precious time in horrible traffic jams that can be easily solved with better planning and engineering.

Montreal of the possible? This city, much like it’s media and politics, is a sewer but what do I know, I’m just a grumpy old man who loathes endless traffic jams and countless pot holes.

California lawmakers are pushing CalPERS to divest from the controversial Dakota Access Pipeline, but pension fund staff have balked at that recommendation, arguing that the country’s largest pension fund can more effectively engage with companies if it remains a shareholder.

This is the latest instance of the ongoing debate over divestment at public pension funds. On one side, observers say that large institutions should divest from energy companies that contribute to climate change.

But pension professionals argue they can more effectively push for corporate change if the pension fund has a “seat at the table” — in other words, that institutions can affect change more effectively when they remain shareholders.

More on the CalPERS situation, from Reuters:

California Public Employees’ Retirement System should maintain its investments in the controversial Dakota Access oil pipeline project in order to exert influence over the companies involved, staff for the largest U.S. public pension fund said on Monday.

Legislation proposed in California would require CalPERS, a $300 billion fund, to divest from companies involved in the building and financing of the 1,168-mile-long underground pipeline project, which would affect an estimated $4 billion in CalPERS holdings, according to staff.

CalPERS staff said that while divesting stocks of companies involved in the project may reduce stakeholder perception that the fund’s investments contribute to climate change, the move would limit CalPERS ability to change corporate behavior through engagement.

“There is considerable evidence that divesting is an ineffective strategy for achieving social or political goals, since the consequence is generally a mere transfer of ownership of divested assets from one investor to another,” staff said in its recommendation, which was published on its website.

The CalPERS investment committee will discuss the bill at its meeting next week.

 

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

Kirk Falconer of PE Hub Network reports, bcIMC to acquire European credit business Hayfin from PE owners:

Hayfin Capital Management LLP, a European private debt investment firm, has agreed to be acquired by British Columbia Investment Management Corp (bcIMC). No financial terms were disclosed, however, Sky News reported the deal’s value to be about £215 million (US$268 million). The Canadian pension fund bought a majority stake in Hayfin from the company’s founding shareholders: TowerBrook Capital Partners, PSP Investments, Ontario Municipal Employees Retirement System (OMERS) and Future Fund. London-based Hayfin, established in 2009, said bcIMC will commit “significant capital” to its managed funds and support its long-term growth.

PRESS RELEASE

Hayfin’s institutional shareholding sold to bcIMC

January 31st 2017

Hayfin Capital Management LLP (“Hayfin” or “the firm”), a leading European credit platform with €8.2bn in assets under management, today announces that British Columbia Investment Management Corporation (“bcIMC”) has agreed to acquire the majority shareholding in the firm from the existing consortium of institutional shareholders. The transaction will support Hayfin’s long-term growth plans and simplify its ownership structure, with Hayfin’s management and employees remaining substantive shareholders alongside bcIMC.

bcIMC, a Canadian investment manager which manages approximately C$122bn in assets, is acquiring 100% of the shares owned by Hayfin’s current institutional shareholders – TowerBrook Capital Partners, PSP Investments (“PSP”), the Ontario Municipal Employees Retirement System (“OMERS”), and The Future Fund. bcIMC is also committing significant capital to the funds that Hayfin currently manages and will be supportive of the future development of the business. Hayfin’s principal focus will remain managing assets for third parties; the day-to-day independence of the Hayfin team over operations, investments, and personnel will be unaffected by the change in ownership.

Tim Flynn, CEO of Hayfin Capital Management, commented: “This long-term investment from bcIMC will provide the access to capital and streamlined ownership structure to realise our ambition of becoming Europe’s leading credit platform. What won’t change under the new ownership arrangements is the independence of Hayfin’s experienced team of credit investment professionals, or our commitment to delivering high-quality returns for the third-party investors whose capital we manage.”

Jim Pittman, Senior Vice President of Private Equity at bcIMC stated: “We see this as a strategic long-term investment in a leading company that has the potential to generate value-added returns for our clients. Having known the Hayfin team since inception, I’m confident in their strategy and ability to further expand their business and raise additional capital through their funds.” He continued, “Our investment in Hayfin provides bcIMC with access to one of Europe’s leading credit platforms as both a majority shareholder and an investor in its funds across the spectrum of credit products.”

The financial terms of the deal are undisclosed. Completion of the transaction is subject to regulatory approval.

Mark Kleinman of Sky News also reports, Canadian pensioners swoop on Quorn lender Hayfin in £215m deal:

A giant Canadian pension fund will this week swoop to take control of a UK-based lender which counts The Racing Post and ‎Quorn, the meat substitute food manufacturer, among its clients.

Sky News has learnt that the British Columbia Investment Management Corporation (BCIMC) will announce on Tuesday that it has agreed to buy a majority stake in Hayfin Capital Management in a deal worth roughly £215m.

The deal will underline a growing appetite to invest in alternative lenders, many of which have been established over the last decade to exploit gaps left by traditional banks.

A regulatory clampdown after the 2008 financial crisis has made it harder for conventional banks to lend to companies on economically attractive terms‎, paving the way for the emergence of competitors such as Hayfin and Ares Capital Management.

Sources said that BCIMC, which manages more than C$120bn (£73.2bn) of assets, would buy out Hayfin’s existing institutional shareholders: Towerbrook Capital Partners, Australia’s sovereign wealth fund and two other Canadian pension funds.

Hayfin’s management and employees will retain their shareholdings following the deal.

The company, which has €8.2bn (£7bn) under management, has built a ‎successful business by lending money to medium-sized European companies since its launch by former Goldman Sachs partners in 2009.

It has lent more than €9bn (£7.7bn) since it was set up, with other corporate customers including Sunseeker, the luxury yacht-builder.

It also operates a strategy called special opportunities, and has business lines in maritime credit and healthcare, as well as offering asset management services to institutional clients.

The deal with Hayfin is expected to see the British Columbia-based fund commit significant funds for its expansion, although the London-headquartered lender will retain day-to-day autonomy over its operations and investments.

Insiders said the deal was attractive to Hayfin’s management because it would simplify the company’s ownership structure, as well as providing a platform for future growth.

In 2015, ‎Hayfin sold its portfolio of owned assets to The Future Fund, Australia’s state-backed investor.

A Hayfin spokeswoman declined to comment on Monday, while BCIMC could not be reached.

I love when I read bcIMC “could not be reached,” it reminds me of the old tight-lipped days at PSP Investments when Gordon Fyfe was at the helm and they hardly ever put out a press release unless the organization had to by law.

Well, bcIMC isn’t PSP, and there is a bit more transparency there but you can feel the new culture with Gordon at the helm is much more tight-lipped. There is nothing evil or sinister behind this veil of secrecy, Gordon’s philosophy was always the only press release that counts is the annual report.

But regular communication is part of good governance. Other large Canadian public pension funds are much more transparent and proactive in getting their message out, embracing social media platforms like Twitter, LinkedIn, and YouTube, but in order to do this, you need to have content (interviews, articles, etc.).

That’s not Gordon Fyfe’s style. He shuns the media and doesn’t like giving interviews to Bloomberg, CNBC or other news outlets. In the last ten years, I think he only gave one rare interview. Like I said, it’s not his style, he keeps information close to his chest and doesn’t like discussing operations apart from when he has to in the Annual Report.

Not surprisingly, Gordon did have the good sense to hire Jim Pittman from PSP to head Private Equity at bcIMC (Jim left PSP on his own, on good terms, and took some time to think about his next move).

Jim is a very smart and nice guy, worked hard at PSP to develop fund investments, co-investments, and direct investments. He too is reserved by nature and shuns the spotlight. You won’t find any interview or even a picture of him on the internet apart from some AVCJ Forum that took place back in 2013 which he attended (click on image):

That is Jim on the upper left side when he was VP at PSP Investments (for some reason, bcIMC doesn’t post bios or pictures of their senior executives and board members on its website).

Anyways, enough about that, let me get into this deal. It’s obvious that Jim Pittman knows Hayfin Capital Management and its senior managers extremely well. Headquartered in London, Hayfin has offices in Amsterdam, Frankfurt, Luxembourg, Madrid, Paris, New York and Tel Aviv. It specializes in sourcing, structuring and managing European private debt investments while operating complementary business lines across corporate, maritime and alternative credit.

In the press release announcing the bcIMc deal,  Jim states he knows the “Hayfin team since inception”,which leads me to believe he and Derek Murphy (the former head of PE at PSP) seeded this credit platform or more likely, they got together with Ontario Teachers’, OMERS and others to seed it.

Either way, it doesn’t matter now that bcIMC has agreed to acquire the majority shareholding in Hayfin from the existing consortium of institutional shareholders (remember, it’s a small club in Canada, all the senior pension fund managers know each other very well).

Does the deal make sense for all parties? Well, obviously if they agreed to the terms bcIMC offered them or else they wouldn’t sign off on this deal.

What does bcIMC get from this deal exactly? It can allocate more money into the European private debt market through an experienced partner that knows the space well and share in its success as it owns the majority shares now. It is also likely is getting preferential treatment on fees that others won’t get (unless there is some clause against this).

What is the outlook for European private debt? That’s a good question. Barring a total collapse of the Eurozone, which looks increasingly likely, there are many structural issues plaguing Europe’s debt markets and smart investors are trying to capitalize on them.

Those of you that don’t know about private debt as an asset should read this ICG report, The Rise of Private debt as An Asset Class. Preqin puts out an annual report on private debt markets (you can read a sample from last year’s report here). And more specifically to Europe, EY put out a report back in October looking at the outlook for European private debt which provides interesting insights, like key issues for investors (click on chart which is from Preqin):

Notice the top four concerns are pricing/ valuations, deal flow, performance and fulfilling investor demands. Interestingly, regulation is a concern but nothing urgent since unlike the United States where President Trump is moving full steam ahead to deregulate the financial services industry,  in Europe, things move extremely slowly on the regulatory front.

Private debt is a complicated asset class in terms of barriers to entry for large pensions. It’s hard for Canadian pension funds to directly compete with specialized credit funds or platforms which is why they prefer to partner up with them to allocate into this space, sometimes hiring groups that worked at investment banks to work for them or just seeding their operations.

Back in November, I discussed how PSP Investments seeded a European credit fund, AlbaCore Capital, run by David Allen who used to work at CPPIB and was head of European investments at GoldenTree Asset Management in London before joining that pension fund.

PSP invested a significant stake in this investment to develop its European private debt capabilities. It obviously believes in this asset class over the long run even if there are concerns about the future of the Eurozone, valuations, deal flows, etc.

For bcIMC and PSP, they are firmly entrenched now in European private debt, and hopefully these partnerships will help them deliver great returns in an increasingly competitive space facing all sort of issues.

One thing is for sure, Tim Flynn, Hayfin’s CEO, is an experienced credit manager who knows European private debt markets extremely well:

Mr Flynn serves as Hayfin’s Chief Executive Officer. Prior to joining Hayfin, Mr Flynn was a partner at Goldman Sachs, where he co-headed the European Leveraged Finance and Acquisition Finance businesses. Mr Flynn was also a member of Goldman Sachs’ firm-wide Capital Committee.

Before joining Goldman Sachs, Mr Flynn was a corporate finance lawyer at Sullivan & Cromwell, a New York-based law firm.

Mr Flynn graduated from Columbia Law School, where he was a Harlan Fiske Stone Scholar and an Editor of the Columbia Law Review. Mr Flynn graduated from Georgetown University with a Bachelor of Science.

His team is equally experienced and again, this isn’t an easy space for pensions to just start lending directly. They need the expertise of these funds which have developed long standing relationships with key players.

How will bcIMC’s investment into Hayfin and PSP’s investment into AlbaCore end up? I hope it ends up well for their beneficiaries but there will be a few hitches and challenges along the way.

Still, private debt is an important asset class for many institutional investors looking to improve their returns and take advantage of regulatory and structural issues hindering European and US debt markets.

Take the time to watch this clip at Citywire’s first Modern Investor forum where they brought together five institutional players to size up the investment case for private debt. You can read the accompanying article here.

Also, the financial crisis continues to leave its mark on European banks. And as yet, there are no apparent business solutions in sight. US institutions though are doing better, reporting high levels of assets. Take the time to watch this DW clip here.

CalSTRS, which previously assumed a 7.5 percent rate of return on investments, on Wednesday voted to lower its discount rate in two stages: first to 7.25 percent, then to 7 percent by 2018.

From the LA Times:

Board members, faced with a widening gap between investment returns and expectations, said they took action to lessen the likelihood that existing retirement promises made to teachers won’t be kept.

“I fear that waiting may put us, the fund, in a more precarious situation,” board member Joy Higa said during a public meeting in San Diego.

CalSTRS had previously assumed a 7.5% rate of return on its $196-billion portfolio. That rate will now be cut in two stages — first to 7.25%, then to a more conservative 7% assumption in 2018.

The average discount rate among the country’s pension systems is 7.62 percent, according to a NASRA brief.

Meanwhile, the 10-year annualized investment return of the average pension fund is 5.8 percent.

The New York Common Retirement Fund in December fired a second employee — Philip Hanna — in connection with the pay-to-play scandal in which the fund’s fixed income director took bribes in exchange for commitments to two brokers, according to a new report from the Wall Street Journal.

Hannah — who hasn’t been accused of any wrongdoing — may have helped Navnoor Kang hide evidence related to his grift by harboring Mr. Kang’s laptop in his house.

More from the Wall Street Journal:

The day after federal prosecutors accused former New York state pension executive Navnoor Kang of taking bribes , the giant retirement system fired another employee in connection with the case, said people familiar with the matter.

The New York Common Retirement Fund escorted Philip Hanna from the pension’s Albany offices on Dec. 22 without giving him a reason for his termination, these people said. Mr. Hanna reported to Mr. Kang, and the two were close friends, they said. The men were college classmates at the University of Texas’ Arlington campus and later started their own spirits company called Secrets Vodka LLC, according to these people and state filings.

U.S. prosecutors allege that Mr. Kang hid laptops containing evidence of his crimes at the home of a colleague. That colleague—identified in the indictment as “co-conspirator 1”—was Mr. Hanna, according to the people familiar with the case. Last month, the federal judge presiding over Mr. Kang’s case wrote in a court filing that prosecutors planned to reveal information found on computers “recovered from the residence of the individual identified as `CC-1,’ which were obtained pursuant to search warrants.”

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

Back in early December, Aliya Ram of the FT reported, Danish pension fund halves outsourced money:

Denmark’s biggest pension fund has halved the amount of money it outsources to external asset managers over the past two years, arguing that increased scrutiny of costs and transparency has made hiring them untenable.

ATP, which manages DKr806bn (£91bn) for 5m Danish pensioners, used to allocate more than a third of its DKr101bn (£11.4bn) investment assets to external fund managers.

However, Kasper Lorenzen, the chief investment officer, told FTfm that this has halved to 19 per cent since December 2014, a loss of DKr19.3bn (£2.2bn) for the industry.

“Some of these more traditional, old-school mandates, where you hire some asset manager, and then they track a benchmark and try to outperform by 14 basis points . . . we kind of tried to get rid of that,” Mr Lorenzen said.

He added that after the financial crisis investors wanted cheaper options. “I think the main thing is that there is more focus on costs. I think there is more transparency. There are really low-cost implementation vehicles [out] there.”

ATP joins a growing group of asset owners that have pulled money from active managers in favour of cheaper, passively managed funds, or more complicated investments in infrastructure, financial derivatives and property.

The California State Teachers’ Retirement System, the third-largest pension plan in the US, told FTfm in October that it plans to pull around $20bn from its external fund managers. It has already shifted $13bn of its assets in-house over the past year.

Alaska Permanent Fund, which manages $55bn, said this summer that it will retrieve up to half its assets from external managers, while AP2, the Swedish pension scheme, dropped mandates from external managers earlier this year. AP2 has moved more than $6bn from asset managers to internal investment staff over the past three years.

Railpen, the £25bn UK pension scheme, also said last year it had achieved £50m of annual cost savings by cutting the number of external equity managers it worked with from 17 to two, and managing more money internally.

The active industry has come under pressure for failing investors with poor returns and high fees in an era of low interest rates where returns are more difficult to come by.

Last month the UK regulator sharply criticised the industry for charging high fees and generating significant profits despite failing to beat benchmarks.

There is nothing new or surprising about ATP’s decision to significantly cut its traditional external managers. There is a crisis in active management that has roiled the industry and many large institutional investors are bringing assets in-house, especially in the more traditional mandates where they can significantly cut costs and gain the same or better performance.

And it’s not just large pensions that are cutting external managers. Attracta Mooney of the FT reports, CIO of £12bn pension pot threatens to cull external managers:

Chris Rule, the man charged with investing £12bn on behalf of more than 232,000 current and former local authority workers in England, begins his meeting with the Financial Times earlier this month by apologising.

Standing in his office in Southwark in the south of London, he explains the air-conditioning is on the blink. It is a crisp, cold January evening, but Mr Rule’s small office, located in a building that also houses London Fire Brigade’s headquarters, is sweltering. It has been all day.

The building managers are on the case, he says, but for now the only way to cool down is to resort to shirt sleeves and big glasses of cold water.

Mr Rule seems unperturbed, if a little hot. It is hard to imagine that many chief investment officers across London would so easily shrug off such an uncomfortable office environment. But the father of three has other things on his mind, namely the radical overhaul happening across the UK’s local authority pension funds.

In 2015 George Osborne, the chancellor at the time, called on the 89 local authority retirement funds across England and Wales to create six supersized pension pots or “British wealth funds”.

The plan was that these funds would work together to reduce running costs and invest more in infrastructure. Since then, proposals for the formation of eight local authority partnerships have been put forward to the government for approval.

Mr Rule is the chief investment officer of one of these pools: the Local Pensions Partnership, or LPP, which was set up to oversee the combined assets of the London Pensions Fund Authority and the Lancashire County Pension Fund. The two pension schemes’ plans for a partnership predates Mr Osborne’s proposals, but his demands cemented their efforts.

Mr Rule says: “People [across local authorities] have done a lot of heavy lifting over the past 12 months and got the sector massively further forward than many stakeholders or commentators would have believed was possible in that space of time.”

Last month, LPP received the seal of approval from the government, when Marcus Jones, the UK minister for local government, signed off its plans. But the minister flagged some concerns, not least the size of the fund. LPP is short by almost half the £25bn figure Mr Osborne indicated he wanted the pooled funds to manage.

“It is no secret that the minister would like us to be that magic £25bn [in assets]. But it is important to realise that we are up and running; we are live today,” Mr Rule says.

LPP, which began operating in April 2016, is one of the few local authority partnerships that is already functioning. It has also received regulatory approval from the UK’s financial watchdog, unlike the majority of the other local authority pots.

Mr Rule’s job at LPP is highly pressured, especially at a time when record-low interest rates are hurting returns and driving up liabilities for retirement schemes. LPP has been tasked with undertaking the majority of the work that the two local authority funds once did, from asset allocation to pension administration.

The 38-year-old is at pains to stress that LPP has already used its increased scale to reduce costs for its two founding funds, despite falling far short of the desired level of assets.

The partnership has a far bigger allocation to infrastructure than other local authority pools. “At the size we are, we are already getting significant discounts when we are negotiating with third-party managers,” he says.

The former Old Mutual fund manager is now focused on axing asset managers in favour of running more money internally in order to cut costs.

“Our intention is to expand our internal capability, develop new internal strategies and therefore be able to insource more of the assets. That is clearly where we get the greatest fee savings, because we can operate at a much lower cost.”

Last November, LPP launched a £5bn global equity fund, consisting of the pooled cash of the LPFA and LCPF. About 40 per cent of the assets are managed internally by LPP, while a trio of fund houses — MFS, Robeco and Magellan — run the remaining 60 per cent.

Morgan Stanley, Harris Associates and Baillie Gifford, which previously ran equities for the pension funds, were axed as a result. This move is expected to save £7.5m a year in investment management costs. The trend of cutting managers is set to continue as part of Mr Rule’s aim of running around half of LPP’s assets internally, up from a third currently.

The managers most at risk are those running equities: Mr Rule would like to manage about 80 per cent of LPP’s investments in stock markets internally.

But he adds: “I would never expect to be 100 per cent internal. There will always be areas that we want to go and get [external] expertise for.

“We are only going to allocate money internally where we believe that is better than anything we can get externally. There is no point saving £5m in costs if it costs us £30m in returns.”

If LPP manages more money itself, it needs to grow its investment team. There are 25 investment staff positions at LPP, almost double the combined size of the now-defunct investment teams at the two founding pension funds. Some of the LPP positions, however, are yet to be filled.

Mr Rule admits that convincing employees to switch from private sector asset management, where higher salaries are the norm and offices have working air con, is a difficult task.

“If they don’t care about anything apart from money, we are going to have a challenge attracting and retaining them because there is always going to be someone that will pay more than us,” he says. “We can offer people a degree of autonomy that perhaps they would not have in a traditional asset manager.”

As Mr Rule continues to extol the virtues of a career in a local authority pension fund, it starts to become clearer why he left the private sector.

“There is always a bit of a conflict with an asset management firm, and I say that having worked all my career in asset management firms. As an individual, sometimes it can cause you to question the merit of what you are doing,” he says. “We are the asset owner. It is not about how we can generate fee income and profitability for the [company]. We have a different lens we look through.”

For a young 38-year old buck, Mr. Rule has huge responsibilities but at least he gets the name of the game. When you work for an asset management firm, it’s all about gathering assets. This goes for firms working on traditional mandates (beating a stock and bond benchmark) and it also goes for elite hedge funds shafting clients on fees.

When you work for a pension, your objective is to maximize the overall return without taking undue risk and in order to achieve this objective, pensions need to cut costs wherever they can, especially in a low return/ low interest rate world.

Rule is right, pensions can’t go 100% internal but many are cutting costs significantly wherever they can. And I agree with him when he states the following: “We are only going to allocate money internally where we believe that is better than anything we can get externally. There is no point saving £5m in costs if it costs us £30m in returns.”

Go back to read an older comment of mine when Ron Mock was named Ontario Teachers’ new leader where I went over the first time we met back in 2002 when he was running Teachers’ massive external hedge fund program:

Ron started the meeting by stating: “Beta is cheap but true alpha is worth paying for.” What he meant was you can swap into any index for a few basis points and use the money for overlay alpha strategies (portable alpha strategies). His job back then was to find the very best hedge fund managers who can consistently deliver T-bills + 500 basis points in any market environment. “If we can consistently add 50 basis points of added value to overall results every year, we’re doing our job.”

He explained to me how he constructed the portfolio to generate the highest possible portfolio Sharpe ratio. Back then, his focus was mainly on market neutral funds and multi-strategy funds but they also invested in all sorts of other strategies that most pension funds were too scared to invest in (strategies that fall between private equity and public markets; that changed after the 2008 crisis). He wanted to find managers that consistently add alpha – not leveraged beta – using strategies that are unique and hard to replicate in-house.

The key message? Beta is cheap!! Why pay some asset management firm big fees especially in traditional stock and bond mandates when most of them are incapable of beating an index over a long period? The same goes for hedge funds charging alpha fees for leveraged beta? Why pay them a ton of fees when they too consistently underperform a simple stock or bond benchmark over a long period? That too is insane!

Now, I know the arguments for active management. We went from a big alpha bubble which deflated to a mega beta bubble where the BlackRocks, Vanguards and a whack of Robo-advisors are inflating a giant beta bubble, indiscriminately shoving billions into ETFs, and it’s all going to end badly.

Moreover, just like François Trahan of Cornerstone Macro who was in Montreal last week, I am openly bearish and you’d think in a bear market active managers will outperform all these beta chasers, but it’s not that simple. Most active managers will perform even worse in a bear market, incapable of dealing with the ravages of a brutal decline in stocks.

Having said this, there will always be a market for good active managers, whether they are traditional asset management firms or elite hedge funds or private equity funds, so whenever pension fund managers think they are better off outsourcing assets to obtain their actuarial rate-of-return target, they should do so and gladly pay the fees (as long as they are not getting the big shaft on fees).

Pension fund managers don’t mind paying fees when they get top performance and great alignment of interests, but when they don’t, they just bring assets internally and cut costs, even if that means lower returns on any given year (over the long run they are better off with this strategy).

An example of where it makes sense to outsource assets, especially in illiquid markets, is in a recent deal involving the UK’s Universities Superannuation Scheme. Dan Mccrum of the FT reports, UK universities pension plan in novel deal with Credit Suisse:

The pension plan for UK universities has snapped up most of a $3.1bn portfolio of loans to asset managers, in a collaboration with Credit Suisse which highlights the shifting roles of banks and investors in the continent’s capital markets.

The £55bn Universities Superannuation Scheme has agreed to provide debt financing to private equity and asset management groups that have raised so-called direct lending funds. These funds make loans to medium-sized businesses, displacing traditional bank lending.

It comes as Credit Suisse undertakes a reordering of its business designed to reduce activity which requires large commitments of capital, in favour of advising clients in return for regular fees.

In the first deal of its kind for a UK pension fund, the collaboration begins with the Swiss investment bank offloading most of a portfolio of loans and loan commitments made in 2014 and 2015, typically lasting five to seven years. The bank, which retains a small portion of the original lending, will manage the pool of loans and arrange new financing for USS on the same basis.

Ben Levenstein, head of private credit and special situations for USS, said the pension fund allocates a quarter of its capital to investments where it can earn a higher income than equivalent securities in public markets, which can be easily bought and sold. “We do have a tolerance for illiquid assets,” he said.

The $3.1bn of existing lending commitments to groups such as GSO Capital Partners, part of the alternative investment group Blackstone, will eventually be backed by around $6bn of lending to medium-sized businesses, in competition with commercial banks.

“Non-bank lending is a structural shift in capital markets, and the asset managers want a funding source not reliant on bank financing,’’ said Jonathan Moore, co-head of credit products in Europe, the Middle East and Africa for Credit Suisse.

Several years of very low interest rates have forced pension funds to search for unusual sources of income, at the same time as regulatory changes have caused many banks to conserve capital. Since 2013, $119bn has been raised for direct lending, by more than 200 investment funds, according to Preqin, a data provider.

The funds typically lend to businesses with earnings before interest, taxes, depreciation and amortisation of less than €50m, too small to access public debt markets. A borrower might expect to pay 600-800 basis points above interbank borrowing costs, for a five-year loan.

Asset managers boost investment returns by raising debt against the funds. The lending commitments arranged by Credit Suisse are so-called senior loans, financing half the value of the underlying portfolio at low risk. The typical cost of such funding is around 250-300 basis points over interbank borrowing costs, according to participants in the market.

While the deal may be a model for institutional investors to follow, USS is unusual among large UK pension schemes which offer defined benefits to members in retirement. USS remains open to new members and continues to make new investments as contributions flow in.

Private debt is a huge market, one which many Canadian pension funds have been pursuing aggressively through private equity partners, in-house managers or by seeding new credit funds run by people that used to work at large Canadian pensions. In this regard, I’m not sure how “novel” this deal between Credit Suisse and the UK’s Universities Superannuation Scheme really is (maybe by UK standards, certainly not by Canadian ones).

Lastly, it is worth noting that while many pensions are rightfully focusing on cutting costs and insourcing assets wherever they can, large endowments funds like the one at Harvard, are moving in the opposite direction, adopting Yale’s model which is based on outsourcing most assets to top external asset managers.

The key difference is that top US endowments have a much shorter investment horizon than big pensions and they allocate much more aggressively to illquid private equity, real estate and hedge funds. They have also perfected the outsourcing model which has served many of them well and have developed long-term, lasting relationships with top traditional and alternative asset managers.