After a year of turbulent markets, the Colleges of Applied Arts and Technology pension plan has released its 2018 annual report, noting assets held steady compared to 2017 at about $10.8 billion, with a slight return of 0.5 per cent net of fees in 2018.CAAT Pension released a valuation statement which contains the full report here. The CAAT Pension Plan stands 120% funded on a going-concern basis, with a funding reserve of $2.6 billion, based on its latest actuarial valuation as at January 1, 2019.
This is down from 2017’s investment return of 15.8 per cent.
Despite the lower return, the plan improved its funded status, which sits at a healthy 120 per cent on a going-concern basis as of Jan. 1, 2019. “The plan remains strong despite uncertain times,” said Derek Dobson, the CAAT’s chief executive officer and plan manager, in a press release. “Our long-term assessments continue to project that the plan will remain resilient well into the future. The funding reserves provide important protection against difficult-to-predict economic or demographic shocks.”
These results bring the CAAT plan’s annualized five-year net rate of return to 8.7 per cent and its 10-year annualized net return to 9.9 per cent.
“Over the past two years, the asset mix of the investment fund has shifted slightly away from public equities to private equity and real assets in response to the findings of the 2016 asset-liability modelling study,” the report said. “These long-term investments are a good fit for the long-term nature of the plan’s liabilities and its risk tolerance, given its ability to manage through periods of short-term volatility. During 2018, progress was made moving private equity and real asset allocations closer to their targets of 15 per cent and 20 per cent, respectively.”
Of note, the CAAT plan moved away from viewing Canadian equity as a standalone allocation in its asset mix policy in 2018, with its remaining Canadian equity exposure becoming part of the global developed equity class.
“In 2019, the asset mix policy will again be examined by means of an asset-liability modelling study that will employ updated assumptions about future asset-class returns, market risks and plan member demographics,” the report said.
Beyond investments, 2018 was a significant year for the CAAT as it launched its second plan design, DBplus, and welcomed several employers into the plan, including the Youth Services Bureau of Ottawa, the Canadian Collegiate Athletic Association, Lambton Student Administrative Council, the Shareholder Association for Research and Education and Torstar Corp.
Despite the improvement in the funded status, the Plan governors determined that allocating additional reserves to further strengthen benefit security is the most prudent option at this time. These funding reserves maintain the Plan’s resilience and cushion it against future economic or demographic shocks.
On Friday, I had a chance to speak to Derek Dobson, CAAT Pension Plan's CEO, as well as Julie Cays, the Plan's CIO.
Before I discuss our conversation, please take the time to carefully read CAAT's 2018 Annual Report as I will be incorporating some material from this report. It is a very well-written and transparent report and is packed with a lot of insights on the Plan.
Let me begin with Julie as we covered investments and then I'll cover Derek's insights on the Plan's funded status and membership growth.
Julie told me the Plan’s assets stood at $10.8 billion at the end of 2018 and its investment strategy is implemented through a mix of external investment manager relationships as well as private market fund investments and co-investments.
As shown below, the Plan gained 50 basis points last year, neating its benchmark by 1.6% (click on image):
As shown above, the major underperformance came in Emerging Markets, down 12.2%, underperforming the EM Index by 5.3%.
Now, last year wasn't a good year for EM stocks but there's another reason why the Plan significantly underperformed here:
The Emerging Markets Equity portfolio has been structured to focus on stocks whose performance will be driven mainly by growing domestic consumer demand within emerging markets. This implies an overweight to consumer, health care, financials, and e-commerce sectors, and an underweight to commodity sectors. This positioning detracted value in 2018 as consumer driven sectors underperformed.Conversely, Private Equity added 24.9% signifcantly outperforming its benchmark by 23.2%.
Julie told me that Private Equity returns come from fund investments and co-investments which are ramping up fast at CAAT.
They hired more people internally to help with co-investments, get help from expert external partners like CBRE Caledon led by David Rogers and CAAT's board has given them flexibility up to a certain amount to move quickly on co-investments and even when they need board approval on re-ups and co-investments over a certain amount, they get it quickly.
Thats's the key to a successful co-investment program. You need internal expertise, great external partners and a board that allows you to be nimble and move quickly when opportunities arise.
This is especially critical for CAAT because right now, its allocation to Private Equity stands at 9% of total assets, which is on the low end of their target range, and over time they're looking to raise it to 15% of assets (click on images):
Scaling into private equity is getting tougher and tougher as is maintaining your target allocation which is why Julie is very happy their co-investment program for PE and infrastructure is running very well (target alocation for Real Assets is 20% from current 17%).
It's a critical part of the long-term strategy and Kevin Fahey, Director of Private Market Investments, is doing a great job overseeing the program as well as maintaining key relationships with funds and strategic partners.
My former colleaugue at PSP, Asif Haque, is the Director of Public Markets. Julie told me there's a small-cap bias and emerging markets focus on consumers in public equities and even though it's volatile in any given year, this is where they feel they will get the requisite long-term returns.
In terms of hedge funds, she told me "there are two large mandates" through a portable alpha structure ("you can guess who they are") and they're happy with these mandates even if returns for absolute return funds have been challenging.
Interestingly, she agreed with me that alpha is going to increasingly come from private markets which is what will be taking up most of her time going forward but also said that CAAT's relatively smaller profile allows it to play in the mid-market space.
I told her that I wrote recent comments profiling Peloton Capital Management and the Canadian Business Growth Fund and totally agree there are great opportunities in the mid-market space for a plan like CAAT.
In terms of currency risk, I note most of the exposure is to the USD, and CAAT hedges 50% of its currency exposure so that detracted from returns last year (click on image):
Julie didn't talk currencies with me but we did talk about the big risks she's worried about. She told me we are still living the after-effects of the Great Financial Crisis (GFC) and is not sure how all this unconventional measures to stimulate the economy will be weened off as policymakers try to normalize rates. She also told me they're paying close attention to China (listen to Lacy Hunt on MacroVoices here, he shares interesting insights on China).
We ended up talking about governance. Julie is Vice-Chair of the Canadian Coalition of Good Governance (Marcia Moffat is the Chair), and she told me they're working hard to educate boards and engage them on ESG matters. In particular, how to be ESG compliant and how to manage and disclose ESG risks.
I told her I read an interesting article about companies pushing back on pension engagement and proxy voting and was worried the politicization of ESG investing would impact pensions but Julie told me they're getting the message across that responsible investing is in everyone's best interest.
We talked about how Canadian funds scored high in this year's responsible investing rankings and while she wasn't surprised, but she added: "European pensions, in particular Dutch and Scandinavian pensions, are years ahead of anyone when it comes to responsible investing."
I then started asking questions about funding and membership growth and she referred me to talk to Derek Dobson about that, so I did.
Derek is an expert in plan design and funding policies. On his profile, it states he is an Associate of the Canadian Institute of Actuaries (CIA) with a degree in mathematics from the University of Waterloo and has 25 years of experience in the pension industry, and it shows. He really knows his stuff.
We began by talking about the main difference between CAAT's DB Plus and OPTrust Select which began welcoming new members last week.
Derek rightly noted that OPTrust Select is aimed at the broader public sector, charitable and not-for-profit groups that do not have a workplace DB pension plan whereas DBPlus is designed to meet the unique needs of members who work part time or on contact.
Basically, DBplus is a defined benefit (DB) pension plan design with a fixed contribution rate for members, matched dollar for dollar by employers. Members of DB Plus who work part time or on contract will enjoy a DBplus lifetime pension based on their actual earnings each year, rather than an annualized average over a five-year period.
According to Derek, OPTrust is one design, has a fixed contribution rate of 3.5% whereas CAAT's DB Plus allows for a flexible contribution rate of 5% to 9%.
But he stated both pension plans have the same goal, namely, to offer affordable defined-benefit plans to people who don't have one now.
He referred to HOOPP's study, The Value of a Good Pension, and specifically stated you get a better bang for your retirement buck under the Canada pension model (click on image):
As you can see, you get 3x the payout in a Canada pension model relative to an RRSP.
As far as CAAT's funded status, he referred me to the valuation report and told me they are extremely transparent in their funding policy (click on images):
The Plan is 120% funded on a going concern basis but they reduced the discount rate to 5.5% (3.5% real) to increase the reserves and be more prudent.
Derek told me since he got to CAAT in April 2009, they never missed a full payment and never had to implement conditional inflation protection, a lever they can implement if needed as they adopted a shared-risk model.
He said they are gaining new members and are in discussion with professional associations, unions, and private corporations to gain more members (click on image):
Interestingly, after listening to him speak, I can't understand why any coporations would cut their DB plan or offload the risk to an insurer before talking to CAAT Pension Plan.
CAAT offers an all in one solution. DB Plus is very simple, efficient and transparent.
Derek told me he hasn't been marketing DB Plus aggressively but word of mouth is raising awareness and he's been busy meeting meeting many potential new members.
After talking to Derek and Julie, I am gaining a new perspective on CAAT. It has the potential to grow a lot faster than I orginally imagined.
Below, CAAT's webinar going over 2017 results. On Thursday, CAAT will have another presentation going over 2018 results and when it is made public, I will embed it below.
Let me end by thanking Julie Cays and Derek Dobson for taking the time to speak with me.