Finance Committee on Nov. 1st, 2016

[Francesco Sorbara, Liberal, Vaughan—Woodbridge, ON]

Thank you. The report is based on a certain assumption of a mix of the assets between equities, fixed income, or real assets, as they're called.

With regard to operating expenses—and I'm going to put that not just under operating expenses but the whole umbrella—my personal view of CPPIB, even in working in the private sector side in dealing with the process, is that CPPIB is probably one of the best run—if not the best run—fund manager or asset manager in the world. It is a model, I believe, for dealing with retirement issues and beneficiaries, especially in light of the demographics that the western world is facing. When I say that, I say that here in Canada. for the first time ever, this year we have have more retirees than people under 15.

On the expense side, I'd like you to comment on this. The CPPIB has done a great job on operating expenses and maintaining that. On external management fees, can you provide some colour on the trend there and what is going on with external management fees? I see that in 2016 there was $1.3 billion in external management fees paid. Could you give some perspective on that, please?

[Mark Machin]

Yes. First of all, I want to say thank you for your kind comments on CPPIB's performance so far. We very much appreciate that.

With respect to external management fees, and considering my earlier comments, the external management fees are driven by two major areas. One is our investment in private equity funds, where we have relationships with about 77 external fund managers. Similarly, then, the second area is on the public market funds side, where we have about 57 external portfolio management relationships.

In these two areas, if we believe that it's challenging for us to build sufficient internal expertise, with all the costs involved internally, and we compare that with the external returns and all those costs, if we think we can make more money for our pensioners, more money for the contributors and beneficiaries externally, then we'll make that decision.

On that $1.3 billion, we report all of our results net of all that cost. It's net of all of that cost, so for the pensioners, our 7.3% ten-year return is after all of that cost.

[Francesco Sorbara, Liberal, Vaughan—Woodbridge, ON]

Of course, and I have one quick follow-up.

[The Chair, Liberal, Wayne Easter]

You have two minutes.

[Francesco Sorbara, Liberal, Vaughan—Woodbridge, ON]

Thank you.

On page 24 of the 28th actuarial report, there was one thing that I was very happy to see. Obviously we need to look at things in constant dollars, just because something in 2050 may be 20 times bigger than it is today. You have to give perspective. I was happy to see the virtual standstill in operating expenses. With the additional CPP contributions from 2019, you'll have $99 million in expenses relating, and then it trends down and stabilizes on a percentage basis. I am very happy with that.

I'd like to ask just a general question. The Bank of Canada governors come out with “lower for longer”, in that companies need to expect lower returns when they're looking at their WACC calculation, or the cost of capital. That also has the implication for pension funds, in that in the future pension funds may expect or may have to anticipate lower returns. Could you give your perspective on what the Bank of Canada governor and the deputy governor have spoken about in the last few months in relation to returns for CPPIB going forward?

[Mark Machin]

Thank you.

Let me just comment on those operating expenses on page 24 of the 28th actuarial report. They relate to the administrative cost of the CPP itself, but yes, they do level off, and there is an efficiency in that. That's different from the CPPIB costs.

On the lower-for-longer point, this is a challenge. It is a challenging investment environment globally given global central banks' activity, whether it's in Japan, Europe, the U.S., Canada, or other countries. Interest rates have been driven to low levels and are likely to stay low for a while. We have to find ways of making sure that we continue to have reasonable returns, and therefore, diversification across both geography and asset type is important, as is strategy.

We have a broadly diversified portfolio. We have 25 different investment strategies that we implement. We have investments through some private investments in 42 different countries, so we try to diversify to avoid having all our eggs in one basket or having to depend too much particularly on the low interest rates.

[Edwin Cass]

I would point out that it is recognized, certainly by the Office of the Chief Actuary, that returns will be lower than what he expected even in the last actuarial report—and they are at 26. It's something we're cognizant of. It's a primary reason why we still aggressively insist upon diversifying the fund and trying to raise the risk-adjusted returns over time to try to combat some of the effects of the changing demographics globally.

[Francesco Sorbara, Liberal, Vaughan—Woodbridge, ON]

Thank you.

[The Chair, Liberal, Wayne Easter]

Thanks to all of you.

We're going to five-minute rounds.

Mr. Albas.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

Thank you, Mr. Chair.

I want to pick up where Mr. Cass left off. Obviously, there's a lot of pressure on the board to produce returns. When you say that it's more important now than ever to look at diversification, let's be clear what that is. That means moving money outside of Canada, correct?

[Mark Machin]

Diversification means a number of things. It means having broad geographical exposure. Or it can be mean broad sector exposure and broad strategy. It means a number of things. Today, we have just under 20% invested in Canada. When we look at the global public market index, Canada represents just under 3% of the global market index. It's very substantially overweighted in Canada today.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

The importance of this is that diversification means that we're basically able to invest those funds outside Canada's economy, so if Canada's having a recession we don't see the same pressures on those monies if they're invested outside of Canada. Is that correct?

[Mark Machin]

Yes, that's important. As I said in my opening remarks, given that we're very heavily exposed in terms of wage growth, demographics, and longevity in Canada, it's important to diversify.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

Further to Mr. Sorbara's comment, though, on the Governor of the Bank of Canada, who has again lowered the bank's expectations for economic growth, the second argument for seeing more of the funds invested abroad on behalf of Canadians is that there's more growth potential. Is that correct?

[Mark Machin]

Again, having a broad diversification is important. Ultimately when we look at an investment, we look at the returns versus the risks. Growth is one factor we look at, but it's not always the case that high growth creates value, so—

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

If we were to reverse course, let's say, and parliamentarians decided that we wanted to see more investment here in Canada, you would say that this may not be in the pension fund's best interests.

[Mark Machin]

I think it's always in our interest to see a bigger array of potential investment opportunities that we can assess on behalf of our pensioners. If we can find investments that have good returns versus the risk involved, if we can maximize returns without undue risk of—

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

That's a nice way of saying it would be a high-risk strategy, though, if we put those kinds of constraints on the board's ability to diversify and grow.

[Mark Machin]

Oh yes. If there were an actual constraint imposed on where we could invest, a constraint imposed on diversification, then that would be a challenge.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

Let's say it wasn't a legal constraint. Let's say that there was political pressure or even just a general sentiment by Canadians that there should be investments in Canada. Would you think that the governance structure you touted earlier would push back against such moves?

[Mark Machin]

I'll let Mr. Leduc add a bit on this, but, yes, as I said before, the governance framework that has been set up for CPPIB has worked extremely well, where we're at arm's length from government but accountable to it.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

I'd like to change subjects, if you don't mind, sir. I'd like to talk—

[The Chair, Liberal, Wayne Easter]

I'll not take your time away, but Mr. Machin said in his remarks that “the best long-term strategy depends on strong, independent governance and the clarity of [the] mandate”. In quoting that, I think that's where you're at in this discussion.

Go ahead.

[Dan Albas, Conservative, Central Okanagan—Similkameen—Nicola, BC]

Thank you, Mr. Chair.

Sir, you've talked about the importance of transparency in keeping the public trust. I believe you've done that. Your organization has done that in many ways, but again, as with everything else, better is always possible.

Mr. Andrew Coyne, who is a nationally syndicated columnist with the National Post, or with Postmedia, and who is also on the CBC quite frequently, has had two articles, I believe, that have asked some very pointed questions about the active management strategy and its current and rising costs, and whether or not this strategy is best for pensioners.

That's an open-ended question. I have not seen any response publicly to Mr. Coyne, but again, I'd like to hear, first of all, why there hasn't been a public response, and second, what it is, because I'd like you to give it now if possible.

[Mark Machin]

I will let Mr. Leduc address the public response, because I believe we have made public responses to a variety of his articles.

We believe that active management, net of all of the costs over time, will benefit our pensioners and contributors and create additional value. When you look at it over the last 10 years, you see that we've created over $17 billion of additional value for our pensioners, over and above what the passive alternative would have been. We think active management has created a lot of value over the last 10 years, and we have a high conviction that it will continue to do so.