Active Investing Adds Billions to Canada’s Pensions Annually

Analysis shows a passive strategy could have cost CPPIB nearly C$50 billion since 2006-2007.

Canada’s state pension funds would have taken in tens of billions of dollars less in returns during the past 11 or 12 years had it used a passive management approach instead of an active one, according to analysis from Canada’s parliamentary budget officer (PBO).

In response to parliamentary interest, the PBO analyzed the investment performance of the Canada Pension Plan Investment Board (CPPIB) and the Public Sector Pension Investment Board (PSPIB) to determine whether their active management strategies resulted in higher returns compared to a passive strategy.

The PBO compared the actual returns of the CPPIB and the PSPIB from 2006-07 until their most recent annual reports, which was 2018-19 for the CPPIB, and 2017-18 for the PSPIB. All transaction costs and management fees associated with actively managing the funds were removed from the annual returns, while operating expenses were assumed to be the same under either approach for both the CPPIB and the PSPIB.

The passive portfolio used by the PBO was comprised of two large public equity and fixed income indices, and the baseline scenario used a weight of 70% equity and 30% fixed income. The PBO also performed the analysis using hypothetical portfolios with different allocation weightings, including one that had 85% equity and 15% fixed income, and another that had 55% equity and 45% fixed income.

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In all three scenarios, the PBO found that the CPPIB’s actual net returns outperformed the returns of the hypothetical passive strategies. For the baseline scenario, total net assets under management at the end of the analysis period were C$48.4 billion ($36.4 billion) higher than they would have been under the passive strategy. This represents an average additional annual return of 1.2%.

For the higher and lower equity weighting scenarios of 85% and 55%, respectively, total net assets under management at the end of the period were C$31.5 billion and C$66.7 billion higher, which accounts for an average additional annual return of 0.6% and 1.8%, respectively.

However, the analysis found that the PSPIB’s actual net returns were roughly the same as the returns of the passive strategy, and in one case, the passive strategy outperformed the fund.  

Compared to the baseline scenario of a 70/30 equity/fixed income split, total net assets under management at the end of the period were C$1.7 billion higher than they would have been under the passive strategy, which is the equivalent of an average additional annual return of 0.3%. The portfolio with a 55/45 equity/fixed income split would have returned C$9.8 billion, or 0.9%, less than the actual results. But the hypothetical passive portfolio with 85% equity and 15% fixed income would have outperformed the PSPIB’s actual results by C$6.1 billion lower, or 0.4%.

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CalPERS Commits More than $1 Billion To PE

However, new co-investment program won’t be discussed this month as expected, and the fate of proposed direct-style private equity program also remains unclear.

The California Public Employees’ Retirement System (CalPERS) has committed $1.15 billion to two private equity funds, shows agenda material for the system’s June 17 investment committee meeting.

The biggest commitment—$750 million—went to Blackstone Capital Partners VIII, while $400 million went to Stone Point Capital’s Trident VIII.

The Blackstone fund has raised more than $22 billion from institutional investors. The Trident fund is raising $6.5 billion.

The investment staff of the $357.6 billion CalPERS, the largest pension plan in the US, made the commitments under delegated authority in March, the agenda material shows.

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The $26.6 billion CalPERS private equity program is the largest of any pension plan in the US.  The program has been shrinking due to the difficulty CalPERS is having in obtaining allocations to some of the new funds managed by top-performing private equity firms. CalPERS is facing increasing competition from other pension plans and institutional investors, all who want to be in the hot private equity asset class.

CalPERS statistics show that the pension plan’s overall weight to private equity is 7.5% as of March 31, below its interim policy weight of 8%. The 8% allocation has shrunk from 10% just several years ago.

Meanwhile, the retirement plan’s efforts to build a new co-investment program and a direct-style investment program for the private equity asset class remain on hold.

At its May investment committee meeting, Chief Investment Officer Ben Meng said he was hoping to present a plan to the investment committee at its June meeting to restart the co-investment program. The agenda material for the meeting, however, shows that no new co-investment plan is scheduled to be presented.

Sources familiar with CalPERS operations tell CIO that the plan won’t be presented now until the pension system’s August investment committee meeting. The sources say that Meng wants to wait until CalPERS’s new private equity director Greg Ruiz starts this summer before presenting the plan. The private equity division has been without a director since Real Desrochers left the fund in 2017 to join Chinese bank CITIC.

CalPERS spokeswoman Megan White said she could not comment on why the co-investment plan is not scheduled to be presented at this month’s meeting.

Meng has been a big proponent of co-investments, which allow institutional investors to make an investment into a target company alongside a private equity fund. The co-investments usually carry no fees, unlike the up to 2% management fee and 20% profit split CalPERS pays to be a limited partner in a private equity fund.

Meng, who started in January, has disclosed that the pension system stopped making new co-investments in 2016, even as investment returns were increasing. Around 5% of the pension plan’s private equity program is in co-investments

The stop of the co-investment program came under the administration of former CalPERS CIO Ted Eliopoulos, who has not commented on why the program was halted.

Another private equity initiative that would entail CalPERS investing upwards of $20 billion in a direct-style private equity program is also on hold. It’s expected that Meng won’t go forward with the program until Ruiz starts.

CalPERS investment officials have proposed forming two investment organizations, one called Horizon and the other called Innovation.

Horizon would take stakes in established companies, similar to what Warren Buffett does with Berkshire Hathaway. Innovation would take stakes in late-stage firms in the venture cycle in the health, natural sciences, and technology fields.

The investment committee has given the CalPERS investment staff the go-ahead to recruit investment teams for the new organization. Once investment teams were potentially in place, Meng and Ruiz would present a final plan to the investment committee.

The committee would need to cast a final authorizing vote before the direct-style investment organizations could begin operations.

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