Quebec's Caisse takes different path on energy

Caisse de Depot et Placement du Quebec, Montreal, which oversees investments of Quebec's public pension funds, is focusing on distribution instead of production as a way to gain returns from energy when oil prices are sinking.

Its most recent deal, announced May 1, was the joint acquisition (with General Electric Co.'s GE Energy Financial Services) of Southern Star Central Corp., owner of a U.S. natural gas pipeline.'

The co-investment is part of the Caisse's C$11 billion in infrastructure investments, or 5% of total assets. In contrast, the Caisse has 3% in direct investment in energy.

Caisse de Depot has C$225.9 billion ($185.7 billion) under management.

Infrastructure investments at the Caisse returned 13.2% in 2014, said Maxime Chagnon, Caisse spokesman. No performance for direct energy investments was available because the Caisse doesn't disclose returns beyond broad investment categories, Mr. Chagnon added. But the S&P Oil & Gas Exploration and Production Select Industry index was down 29.42% last year, while the S&P/TSX Capped Energy index of Canadian firms returned-16.36%.

In an interview at the money management firm's Montreal office, Roland Lescure, executive vice president and chief investment officer, and Macky Tall, senior vice president, infrastructure and private equity, both said the Caisse's focus on energy distribution has proven to be a successful buffer against oil-price declines.

“What we look for is stable cash flow. We only look at what an investment will provide from a distribution level,” Mr. Tall said.

Short-term oil-price fluctuations don't come as a surprise, said Mr. Lescure. “We identify the fundamentals and risks of all our investments. Energy is no different,” he said. “But we don't forecast when things like price changes will happen. You don't get to be a C$220 billion-plus fund by forecasting anything. If you do, you'll be wrong. In the long run, we think oil will be around $70 a barrel. Even when the price went to $110, we still looked at $70. It led us to prefer those companies that could weather when prices decrease.”

Mr. Lescure said the 3% of Caisse assets with direct exposure to oil are in “quality energy stocks” — low production cost, high return — and focus on volume instead of price. “We still think oil will rebound, but we won't forecast when.”

The focus on energy distribution has been long term, Mr. Tall said. Among the Caisse's deals:

• a 15% stake in AES US Investments Inc., parent of Indianapolis Power & Light Co., for $244 million. The deal was announced in January. The Caisse will invest $349 million in IPL in exchange for a 17.65% equity stake; IPL will use the money to help fund a $1.4 billion capital expenditure program to reduce its coal usage to about 44% by 2017, from 74%.
• a $400 million investment, made in 2013, in Invenergy Wind LLC, Chicago, a portfolio of wind farms in the U.S. and Canada.
• a 16.5% interest in Colonial Pipeline Co. and Colonial Ventures LLC, bought from ConocoPhillips for $850 million in 2011. Colonial operates a refined petroleum pipeline carrying 2.3 million barrels daily from the Gulf of Mexico to the northeastern U.S.

Mr. Tall said Caisse officials look at energy distribution investments the way they do infrastructure, private equity and real estate — through a 10- to 20-year horizon. “We're analyzing all the risks, including market and political, and look at real estate and infrastructure specifically as inflation-sensitive investments,” Mr. Tall said.

Most of the Caisse's C$11 billion in infrastructure is done with strategic partners “who share our long-term operational goal,” Mr. Tall said. As with GE Energy Financial Services, the Caisse's co-investor in Southern Star, its strategic partners “have deep pockets and are willing to share their knowledge and share the financial risk. ... Whatever way we decide to invest, whether direct or through partnerships, we know the risk and return and are comfortable with both.”

A lot of the research Caisse staff does on companies extends beyond cash flow and return. “We go way beyond financial experts to hire chemical engineers, energy experts, compliance experts,” Mr. Lescure said. “The world of using just certified financial analysts has come to an end. We're now hiring people who've worked in the real world, in the areas we're looking to invest.

“The real risk is the loss of capital. That's where our testing comes in,” Mr. Lescure added, saying research on investments could take a year or more to complete. “The investment process is the backbone of this. Macky doesn't just say, "I want to buy a port.' He comes to the overall investment team. We argue before we decide what to do. It's checks and balances that ensure we won't lose capital.”

But Jim Keohane, president and CEO of the C$65 billion Healthcare of Ontario Pension Plan, Toronto, questions whether using distribution investments to mitigate losses on direct energy is successful — and beyond that, whether infrastructure investing is cost-effective right now.

“We have no infrastructure at all,” Mr. Keohane said.

“Not that we wouldn't; it's just that given the valuations we see, there are better things we can do with our money. Current valuations are very rich; how do you make money off that? The prices are nonsensical to justify going into it now. It's fraught with risk such as sovereign risk and regulatory risk, very highly levered, with a much higher risk than I think many people appreciate. In our opinion, infrastructure should have a risk premium over real estate, but it doesn't, so we'll stick with real estate.”