Finance Committee on May 30th, 2019

[The Chair, Liberal, Wayne Easter]

I call the meeting to order.

Today we'll be hearing from the Canada Pension Plan Investment Board, pursuant to Standing Order 108(2), which is the study of the Canada Pension Plan Investment Board. We hear from them at least annually.

With us today we have Mr. Machin, who is the President and CEO, and Mr. Leduc, who is the Senior Managing Director and Global Head of Public Affairs and Communications. I believe members have received their report as well.

I believe, Mr. Machin, you have an opening statement. We'll start there and then go to questions. We have basically an hour.

Welcome.

[Mark Machin, President and Chief Executive Officer, Canada Pension Plan Investment Board]

Good morning, Mr. Chair and members of the committee.

This is now my third time appearing before this committee since assuming the role of President and Chief Executive Officer at the Canada Pension Plan Investment Board. This meeting has become an important milestone on the CPPIB's calendar. It furthers the CPPIB's public accountability through Parliament along with the tabling of the organization's annual report.

I am accompanied by my colleague Michel Leduc, who is our Senior Managing Director and Global Head of Public Affairs and Communications.

CPPIB is a strong believer in the value of our public accountability and transparency. While we operate at arm's length from government, CPPIB is subject to rigorous accountability requirements, which are laid out in the CPPIB Act.

We go beyond our legislated requirements and make every effort to ensure federal and provincial stewards, as well as Canadians, are kept informed of our activities. As you know, we released our 2019 annual report earlier this month. It contains a wealth of information about our organization's activities over the course of the last year and key data related to our performance.

Both Michel and I welcome the opportunity to discuss with parliamentarians how CPPIB invests the funds entrusted to it and our role in helping ensure the Canada Pension Plan remains sustainable for future generations.

CPPIB invests in a well-diversified global portfolio composed of multiple asset classes with different sources of returns and different risk levels. This approach clearly comes through as our investment teams take advantage of our international reach and competitive strengths.

Our fiscal year began on a positive note, with global equity markets rising broadly. We then faced a public equity market downturn in our third quarter, followed by a sharp rebound in our fourth quarter of this fiscal year.

Geopolitical risks are more acute, with unpredictable potential outcomes witnessed around the world. Uncertainty caused by the U.S.-China tensions and Brexit are putting a drag on global economic growth. Against these difficult market conditions, our investment departments worked creatively to find, assess and execute on new investment opportunities.

Another factor reshaping the global investment environment is climate change. As a long-term investor, we seek to be a leader in understanding the risks and opportunities stemming from climate change. We've developed a comprehensive climate change program to ensure those risks are effectively considered throughout our portfolio, consistent with our investment objectives.

We launched our inaugural green bond, becoming the first pension fund to do so globally.

CPPIB maintains its focus on our long-term investment strategy and objectives. We've gradually built a diversified, global investment platform and are focused on executing a multi-year strategy. These are key drivers of our financial performance and our future success.

CPPIB has a critical public purpose: to help Canadians build financial security in retirement. To achieve that objective, our mandate is clear: to invest the assets of the CPP fund with a view to achieving a maximum rate of return without undue risk of loss, having regard to the factors that may affect the funding of the plan.

I'm pleased to report that in fiscal 2019, CPPIB achieved a net nominal return of 8.9% as the fund grew to $392 billion. This represents an increase of $35.9 billion compared to last year, $32 billion of which were gains due to investment income, with $3.9 billion from net CPP contributions.

While these are strong annual results, our focus is on contributing to the long-term sustainability of the fund. The fund achieved 10-year and five-year annualized net nominal returns of 11.1% and 10.7% respectively. All of our performance results are reported net of all costs.

In 2006, CPPIB made a strategic decision to move away from largely passive investments toward an active management strategy. The purpose was to capitalize on our inherent comparative advantages of scale, certainty of assets and long-term investment horizon.

CPPIB measures the performance of its active management strategy against rigorous market-based benchmarks. These reference portfolios represent passive portfolios of public market indices.

CPPIB has generated $29.2 billion of compounded dollar value added since we started to build and operate our active programs. In fiscal 2019, active management produced returns that were $6.4 billion higher than the passive alternative.

We believe actively managing the fund is prudent, responsible and consistent with our statutory objectives. We remain confident that this approach will continue to generate value-building growth for generations to come.

However, in some periods we anticipate the fund will experience negative performance, and periodic drops in value are consistent with the deliberate balancing of risk and returns in the portfolio. We need to take a prudent amount of risk in order to deliver strong long-term performance over multiple generations.

Finally, I'll update the standing committee on the additional CPP.

After extensive preparation over the last two years, our new investment framework for the additional CPP was successfully launched, with the first transfer received and invested in January.

The centrepiece of our preparatory work was the careful design of an investment structure that allows CPPIB to meet its statutory objectives, while taking into account the unique features of additional CPP.

As the base and additional CPP have different actuarial funding requirements, they therefore have different risk profiles. There are no changes to the risk-return profile of the base CPP, while the additional CPP will have a more conservative risk target due to its fully funded nature. Most importantly, our structure ensures both portions efficiently draw on the proven global investment platform that we already had in place.

It has now been 20 years since we received the first $12 million to invest on behalf of Canadian contributors and beneficiaries. To achieve our public purpose and help ensure that the CPP remains sustainable, CPPIB must continue to perform as an organization. We have a strategy in place to ensure that we're prepared for the range of possible investment environments in the future.

On behalf of my colleagues, I again thank the House of Commons Standing Committee on Finance for inviting us today. I look forward to our discussion, and we're pleased to answer any questions.

[The Chair, Liberal, Wayne Easter]

Thank you very much, Mr. Machin. Also, thank you for the annual report.

We'll go to five-minute rounds throughout, starting with Ms. Bendayan.

[Rachel Bendayan, Liberal, Outremont, QC]

Thank you, Mr. Chair.

Mr. Machin, thank you for your testimony this morning.

You certainly noted the strong annual results of this year and the health of the CPP and the CPP expansion. It's good news for Canadians.

I have a few questions with respect to the investments made or located in Canada.

Could you describe some of the criteria used by the CPPIB in selecting infrastructure assets and the extent to which that would include or favour infrastructure assets located in Canada?

[Mark Machin]

Absolutely.

We like investing in infrastructure. It is aligned with competitive advantages and the characteristics of what we're trying to achieve with the investment, which is long-term investment.

We like the long-term stability of infrastructure investments. In particular, we like places where there are highly predictable regulatory regimes, highly predictable tax regimes, a highly predictable long-term framework around those assets, and we like long-term concessions.

Most importantly, though, we like scale investments, because in order to manage the cost of running the fund, we can't have enormous teams on standby in many different countries around the world. We have to focus the attention where the big opportunities are. Generally, in infrastructure we're looking for investment opportunities of over $500 million in size. We tend to focus time and attention where there's a consistent pipeline of opportunities of $500 million or more, where we can see what's coming this year, next year and the next few years, and be prepared to assess those opportunities.

We like the infrastructure investments that we have in Canada today. Highway 407 around Toronto is our largest investment in infrastructure globally. It's one of our largest investments in any asset class globally. We also have renewable power assets in Ontario, the joint venture with Enbridge, and energy-related infrastructure assets in Alberta.

We have a range of infrastructure investments in Canada, which we like, and we'd love to see more scale opportunities in Canada, as elsewhere.

[Rachel Bendayan, Liberal, Outremont, QC]

You gave some examples of infrastructure investments in Ontario and Alberta, but do you have any examples for Quebec?

[Mark Machin]

I don't think we have any scale investments in Alberta in direct infrastructure. Two of our largest investments in Quebec are related. There's WSP. We're a major shareholder in WSP. We own about $1.5 billion of that company, and I guess that's related to infrastructure in that it's an engineering-related company.

We also have a significant investment in Canadian National Railway.

[Rachel Bendayan, Liberal, Outremont, QC]

Okay.

Mr. Chair, do I have time for one more?

[The Chair, Liberal, Wayne Easter]

Yes, you do.

[Rachel Bendayan, Liberal, Outremont, QC]

To what extent do you take into account environmental, social and governance factors in your investment decisions?

[Mark Machin]

That's very important to us. In fact, we publish every year a detailed review of how we take into account those ESG factors. We publish a sustainable investment report every year, going through all the detail of how we incorporate those factors. It is something that we take into account for every investment that we make, whether it's an infrastructure investment, a private equity investment or a public market investment.

[Rachel Bendayan, Liberal, Outremont, QC]

Thank you very much.

[The Chair, Liberal, Wayne Easter]

Do you have a quick one on hand?

[Rachel Bendayan, Liberal, Outremont, QC]

No, that's it.

[The Chair, Liberal, Wayne Easter]

Mr. Kmiec is next.

[Tom Kmiec, Conservative, Calgary Shepard, AB]

Thank you, Mr. Chair.

Could you give me about a two-minute warning, because I want to skip subjects?

According to the Library of Parliament, you had 368 employees in 2007-08. In 2017-18 you had 1,498 employees.

Can you explain why this immense increase in staff has happened at CPPIB? Is this all part of the move from passive to active investment?

[Mark Machin]

I'd say there are two or three factors that affect the growth in the number of people. One is the increase in the size of the assets that we have under management over the time frame.

If I take 2010 to 2019, our assets increased from $127 billion under management to the $392 billion today. That would be the first thing.

The second thing, as you point out, is that active management does take more expense to actively manage, to have the skill to outperform the passive alternative, so we need the teams that have the expertise to do better than average after all the expense. It's really critical that we are performing after all the expense.

When we build teams, when we start a new strategy, it has to be proved out over time that they have the skilled performance over time. It's not in every quarter, but over some longer period of time that they're demonstrating skill versus what we could just do passively—

[Tom Kmiec, Conservative, Calgary Shepard, AB]

I'm sorry to interrupt you. For the total operating costs, then, for 2018-19, would you happen to have those numbers? What is the expected total operating cost of the CPPIB?

[Mark Machin]

Yes, the total operating cost is about 32 basis points of cost, which has remained steady as—

[Tom Kmiec, Conservative, Calgary Shepard, AB]

I'm just asking for absolute numbers, not the percentage, because your operating cost has gone up more than 100%.

[Mark Machin]

Yes, exactly.

The total operating expense is $1.2 billion, so 32.8 basis points of operating expense, which is in line with a five-year average, versus the assets under management.

[Tom Kmiec, Conservative, Calgary Shepard, AB]

According, again, to the Library of Parliament, over the past 10 years, the net contribution amounts.... For all the Canadians who are watching this, in case they're worried about their investment, the net is the total amount collected by the Government of Canada and put in, less the total amount withdrawn as contributions. That's the net. It's been going down every single year that I can see here. It went from $7 billion in 2007-08, and it's down in 2017-18 to $2.7 billion. That would be the difference that's being added to the basic amount. Then there's the investment income that you have, and the investments that you make are based on that net contribution amount.

What was it then in 2018-19, and what does the future hold for the fund? I ask because if that ever goes negative, it means the taxpayer is going to have to put in more money. The Government of Canada would have to make up the difference, would it not?

[Mark Machin]

No, with respect, that's not how it works.

That tailing-off of net inflow has been anticipated by the Office of the Chief Actuary for many years now, and it's made up by investment returns. Gradually, over a long period of time, on the base CPP, more of the benefits need to be supported by investment return, but it's a relatively modest amount over time.

[Tom Kmiec, Conservative, Calgary Shepard, AB]

Okay.

[Mark Machin]

On the additional CPP—