Beta Boosts CPPIB's Q2 FY2010 Results

Submitted by Leo Kolivakis, publisher of Pension Pulse.

CPPIB released its second quarter results for fiscal year 2010. The CPP Fund is up $7.2 billion to $123.8 billion:

The
CPP Fund ended the second quarter of fiscal 2010 on September 30, 2009
at $123.8 billion compared to $116.6 billion at the end of the first
quarter on June 30, 2009. The $7.2 billion increase in assets after
operating expenses this quarter consisted of $5.4 billion in investment
income, reflecting a 4.6 per cent rate of return, and $1.9 billion in
CPP contributions not needed to pay current pension benefits.

For
the six-month fiscal year-to-date period, the CPP Fund has increased by
$18.3 billion from the $105.5 billion level of the prior fiscal year
end of March 31, 2009. This increase in assets after operating expenses
is comprised of $5.4 billion in CPP contributions and $13.0 billion in
investment income reflecting a 12.0 per cent rate of return. The CPP
Fund is now above the previous highest year-end level which was
recorded on March 31, 2008.

“The
continued strength in the public equity markets has been the major
factor in the CPP Fund’s increase of over $13 billion of investment
income since March 31, 2009,” said David Denison, President and CEO,
CPP Investment Board. “We are pleased with the Fund’s performance this
quarter and year to date. At the same time, we remain focused on
performance over the long term in line with our long investment
horizon.”

“In the second quarter we continued to execute
our long-term strategy and were able to capitalize on current market
conditions by making a number of significant public, private and real
estate investments. We expect these investments will be a strong source
of investment income over the long term.”

In just over 10 years
since the CPPIB began investing in April 1999, the Fund has generated
$37.2 billion in investment income reflecting an annualized rate of
return of 5.2 per cent. Another relevant measure is the four-year
annualized investment rate of return through September 30, 2009 which
was 2.3 per cent representing $8.3 billion in investment income.

Long-term Sustainability

In
July 2009, the Chief Actuary reaffirmed that the CPP is sustainable
throughout the 75-year timeframe of his 2007 report; the Chief Actuary
will publish a new projection for the CPP in 2010.

The Chief
Actuary of Canada estimates that a 4.2 per cent real rate of return, or
approximately 6.2 per cent on a nominal basis, over the span of the
75-year timeframe covered by his 2007 report, is required to sustain
the plan at the current contribution rate.

“Although our
four-year results are currently below this long-term rate of return, we
remain confident the CPP Fund will generate returns in excess of this
4.2 per cent threshold over its long investment horizon,” said Mr.
Denison.

Asset Mix

At September 30,
2009, equities represented 55.8 per cent of the investment portfolio or
$69.2 billion. That amount consisted of 44.6 per cent public equities
valued at $55.3 billion and 11.2 per cent private equities valued at
$13.9 billion. Fixed income, which includes bonds, money market
securities, other debt and debt financing liabilities represented 30.7
per cent or $38.1 billion. Inflation-sensitive assets represented 13.5
per cent or $16.6 billion. Of those assets, 5.6 per cent consisted of
real estate valued at $6.9 billion, 4.8 per cent was infrastructure
assets valued at $5.9 billion, and 3.1 per cent was inflation-linked
bonds valued at $3.8 billion.

CPPIB's strong results in Q2
of FY2010 is all about beta. The rally in stocks boosted the returns of
most pension funds that are overweight stocks in their asset mix. CPPIB
happens to have 45% of its assets in public equities so we shouldn't be
surprised with these results.

There were a few articles that covered these results. Karen Mazurkewich of the National Post reports that markets boost Canada Pension Plan's return:

After
navigating the public equities turbulent waters at the beginning of the
year, the Canada Pension Plan Investment Board has eased into calmer
waters. Its second quarter results reveal a $5.4-billion growth in
investment income which represents an overall 4.6% rate-of-return.

While
fixed income "has done well," the growth was largely due to public
equities markets, according to David Denison, president and chief
executive of CPPIB. The public equities market has had a significant
run-up, but those returns were moderated somewhat from foreign exchange
effects, he added.

The fund, which also added $1.9-billion of
contributions this quarter, now reports that the overall assets under
management have hit $123.8-billion, which exceeds the level the fund
reached before the economic crisis.

"We
are happy that returns are positive, but we weren't unduly influenced
by the commentary of last year's performance because we had the
conviction of our strategy," said Mr. Denison.

While it's too
early to determine how valuations of the fund's private-equity and real
estate holdings have fared to date, Mr. Denison said they are seeing
more of their private-equity partners working through public offerings
of their underlying investments.

CPPIB is hoping to benefit
from the IPO of Dollar General Corp. which if it raises close to
US$800-million will be one of the largest IPO's this year. CPPIB has a
direct holding in Dollar General and is also invested in the U.S.
private-equity firm KKR, which took Dollar General private in 2007.

Meanwhile,
CPPIB is still trolling for infrastructure assets, said Mr. Denison,
adding that despite market improvements, there are still opportunities
in the asset class.

Earlier this month, CPPIB and the Ontario
Teachers' Pension plan made a A$6.7-billion over for the Australian
toll-road operator Transurban Group. That offer was rejected by
Transurban as “incomplete, highly conditional and non-binding." No
doubt the Canadian pension plans are sharpening their pencils for a
second go around. Mr. Denison would not comment on the offer.

Weren't
unduly influenced by the commentary of last year's performance because
you had conviction in your strategy? What strategy? What conviction?
With an asset allocation of 45% in public equities and 11% in private
equities - by far one of the more aggressive asset mixes among the
large pension funds - it's all about beta. If equity markets tank next
quarter, so will CPPIB's performance.

To hammer in the point on beta, which is not unique to CPPIB, I note that Bloomberg reports the following:

Canadian
pension funds posted investment gains of 14.3 percent in the first nine
months of the year, RBC Dexia estimated. Canada’s benchmark Standard
& Poor’s/TSX Composite Index rose 9.8 percent in the quarter, and
surged 51 percent from a March 9 low.

“I don’t
think any market observer, us included, would predict the same level of
equity-market appreciation over the next three or six months as we’ve
seen over the past six months,” Denison said. “But we’re all seeing
positive signs of economic recovery on a global basis.”

As
far as private markets, CPPIB does not report the performance of these
assets on a quarterly basis so we will have to wait until the end of
their fiscal year (March 31st) before we find out how they fared in
real estate, private equity and infrastructure investments.

Reuters reports that Canada Pension Plan sees acquisition opportunities:

"We
do see continued opportunities for us to make investments, particularly
in the private market, private equity, infrastructure and real estate,"
CPPIB President and Chief Executive David Denison told Reuters in an
interview after the fund's quarterly results were released.

"We have seen infrastructure assets that come available in large part
because some of those assets were overleveraged in their existing
structures and need fundamentally to be restructured. We think there
are more of those that we'll have an opportunity to look at," he said.

"We think there is opportunity in real estate yet to come to the
market, particularly in the United States, so we'll be focused on that."

There
will be plenty of opportunities to snap up US commercial real estate but
I would really appreciate it if CPPIB can clearly publish its
benchmarks governing all asset classes, including private markets.

If
Canadians' pension contributions are going to used to compensate
CPPIB's senior managers for performance, let's make sure they're being
evaluated against proper benchmarks that accurately reflect the risks
they're taking in all asset classes, especially in private markets. And
let's pay senior managers bonuses for delivering alpha, not beta.

Comments

[Anonymous]

In other words our management fee this year will be worth more than last year and we hope it continues next year. But it really doesn't matter because we get paid regardless of performance!