Canadian public pension plans are seen as leading investors in high-profile asset classes such as private equity and infrastructure.
But lost in the background is that many Canadian public plans have much larger investments in more staid asset classes, particularly fixed income.
“The perception of Canadian plans and the reality might be a little bit different,” said David Long, senior vice president and chief investment officer, asset-liability modeling, derivatives and fixed income, at the C$63.9 billion ($49.1 billion) Healthcare of Ontario Pension Plan, Toronto. “Canadian plans aren't acquiring high-profile assets to take on risk. They're taking them on because they're attracted to bond-like cash flows.”
Among Canadian pension plans with sizable fixed-income investments are:
nHOOPP, which has about C$60 billion in mostly Canadian government and provincial fixed income under the plan's liability hedging strategy, according to Mr. Long;
nThe C$171.4 billion Ontario Teachers' Pension Plan, Toronto, which had C$69.1 billion, or about 40% of its assets in fixed income;
nThe Ontario Municipal Employees' Retirement System, Toronto, which had C$25.4 billion, or roughly one-third of its total C$77 billion, in the asset class; and
nOPTrust, which manages the assets of the C$18.4 billion Ontario Public Service Employees Union Pension Plan, Toronto, and had a fixed-income allocation of 28.4%, or roughly C$5.23 billion, as of Dec. 31.
Allocations from OTPP, OMERS and OPTrust are as of Dec. 31 and are according to their annual reports.
Overall, Canadian pension plans with more than C$10 billion in assets had an aggregate 29% of total assets in fixed income, with an aggregate 24.5% of total assets in Canadian equity, both as of Dec. 31, according to a survey by the Canadian Institutional Investment Network.
In comparison, U.S. defined benefit plans among the 200 largest retirement plans surveyed by Pensions & Investments had an aggregate 23.2% of assets in fixed income as of Sept. 30, 2015.
Hugh O'Reilly, president and CEO at OPTrust, said, “We have a significant fixed-income allocation primarily because it guards against interest-risk and also provides a source of liquidity in times of distress.”
HOOPP also uses its fixed-income allocation as a hedge against risk, which, Mr. Long said, differs from how many U.S. public plans use fixed income in their investment strategies.
“There are different reasons why U.S. and Canadian funds invest in fixed income,” Mr. Long said. “At HOOPP, why we own a large amount is to hedge the inflation risk and interest-rate risk of our liabilities over 50 years. The U.S. uses fixed income more on the liquidity side.”
Most of HOOPP's fixed-income allocation is in Canadian government bonds, along with a small amount of real return. Mr. Long referred to the Canadian and U.S. fixed- income markets as “a mixed picture” in terms of yield.
“Canadian rates have been so low for years,” said Mr. Long. “The U.S. Treasury yield is higher than comparative Government of Canada securities, so the rate is lower by about 50 basis points, but in large part, the government bond market in Canada is provincial bonds, which have a higher yield than Treasuries, 30 to 40 basis points. Overall, there's no clear yield distinction, the differences are relatively small.”
HOOPP needs an annual 6% return to cover its long-term funding, Mr. Long said. “If we can get close to that with just a little risk, that's a good thing for us. If we get 3% (return) from fixed income, half our task is taken care of; the rest is taking on other exposure. But fixed income starts us at a base that gets us halfway there. Even at 60%/40% (equity and bond), based on current conditions, that still won't nearly get us to 6%.”
Mr. O'Reilly said OPTrust has been looking at changing its overall investment strategy and the role of fixed income within it.
“The priorities are, one, continue to do what we do well in private equity, real estate, infrastructure; two, protection from interest rate sensitivity; three, base our whole strategy on being able to pay what we've promised our members, and four, to take our funded position and outperform with lower volatility, to use risk purposefully and efficiently,” Mr. O'Reilly said.
Also, OPTrust is looking to improve its cost and execution in fixed income by shifting to internal bond, derivative and foreign-exchange management.
Doing so, he added, “also lets us be an active participant in the market and keep on top of economic trends.”
OPTrust expects to execute its first trades by the end of the third quarter, but it won't be fully integrated for another 18 months, said Karen Danylak, OPTrust spokeswoman.
HOOPP's Mr. Long said that so far, the capacity issue involving fixed-income availability globally is not an issue, particularly in Canadian fixed income, but it could be if the current trend in Canada toward more liability hedging strategies continues. n
