Friday, April 17, 2015

Is Stan Druckenmiller Bullish on China?

Shuli Ren of Barron's reports, Stan Druckenmiller Bullish On China, Sees No Rate Hike In 2015: Emerging Markets Rally?:
In an interview with Bloomberg TV, billionaire investor Stan Druckenmiller said he was bullish on China and did not expect the Federal Reserve Bank to raise interest rates in 2015.

Druckenmiller talked about the spillover effect from a China stock market rally and China’s economy will pick up later this year. Bloomberg reported:
Chinese stocks have soared with the Shanghai Composite Index doubling in the last 12 months.

“Whenever I see a stock market explode, six to 12 months later you are in a full blown recovery,” he said.
After all, if retail investors, who are propelling 90% of the market turnover, are feeling richer from their stock investments, they may want to spend more and jump start the economy again.

The veteran investor also does not expect the Federal Reserve to raise interest rates this year:
“My fear is that we won’t see anything for a year and a half,” Druckenmiller, speaking of an interest rate increase, said in a Bloomberg Television interview. “I have no confidence whatsoever that we’ll see a rate hike in September or December.”
You can watch the entire 40-minute interview on the Bloomberg website (click here to view it).

In a morning note, Goldman Sachs seems to echo the sentiment, though on paper, the bank would have to be more conservative. Goldman now sees the Fed to raise rate this September, with rising probability of a December rate hike (hint, hint!). After all, the U.S. economy is not there yet, wrote analyst Charles P. Himmelberg:
The unemployment rate has only just reached the 5.5% level reached at the start of the 1998 and 2004 hiking cycles, and it is still comfortably between its 4.3% and 6.6% levels that marked the starts of the respective hiking cycles in 1999 (a surprisingly low-inflation period) and 1994 (a stubbornly high-inflation period). This comparison fails to account for differences in the magnitude of long-term unemployment, which is considerably higher today than in past cycles.
If Druckenmiller is right, is it possible that emerging markets will have a broad-based rally and outperform the S&P 500 for a change?

According to Goldman Sachs, which looked at historical stock performances, for emerging markets to broadly outperform, we need two conditions: a China bull and a dovish Fed. See my April 8 blog “Can A China Rally Lift Other Emerging Markets?“.

Year-to-date, the iShares MSCI Emerging Markets ETF (EEM) returned 10.6%, the Vanguard FTSE Emerging Markets ETF (VWO) rose 11.2%, versus the SPDR S&P 500 ETF Trust‘s (SPY) 2.8% gain. The iShares China Large-Cap ETF (FXI) jumped 25.5%, the Deutsche X-Trackers Harvest CSI 300 China A-Shares ETF (ASHR) rose 25.8%.
Take the time to listen to Stan Druckenmiller discussing Fed policy and a lot more here. Here is the accompanying Bloomberg article to that interview:
Stan Druckenmiller is betting on the unexpected.

The billionaire investor, who has one of the best long-term track records in money management, is anticipating three market surprises: an improving economy in China and rising oil prices. He also doesn’t expect the Federal Reserve to raise interest rates in 2015, a move most investors are forecasting will happen in September after six years of keeping them near zero.

“My fear is that we won’t see anything for a year and a half,” Druckenmiller, speaking of an interest rate increase, said in a Bloomberg Television interview. “I have no confidence whatsoever that we’ll see a rate hike in September or December.”

Druckenmiller, who now runs a family office after closing his Duquesne Capital Management hedge fund in 2010, has repeatedly criticized the Federal Reserve for keeping interest rates near zero for too long. He told an audience at the Lost Tree Club in North Palm Beach, Florida, on Jan. 18 that monetary policy has been reckless.

“I’m not predicting a crash,” Druckenmiller, whose hedge fund returned 30 percent annualized over three decades, said in the television interview. “I’m just saying the risk reward of going early is better than going late.”
Financial Engineering

Extra-low rates are driving companies to take on debt and instead of deploying the cash to build businesses, they’re using it to finance mergers, repurchase stock at record levels and pursue leveraged buyouts -- practices he called “job reducers.”

“Every month that goes by we have more and more financial engineering,” he said.

Druckenmiller, who’s worth $4.4 billion, according to the Bloomberg Billionaires Index, is bullish on China, even as the country’s leaders are targeting a 7 percent growth rate this year, the lowest since 1990.

Chinese stocks have soared with the Shanghai Composite Index doubling in the last 12 months.

“Whenever I see a stock market explode, six to 12 months later you are in a full blown recovery,” he said.

A recovery in China, the world’s second-biggest economy, would influence securities and commodities prices around the globe, said Druckenmiller. For instance, it would send German government bond prices lower, boost European exporters and lift the price of oil, he said in a separate interview.
Oil Prices

Druckenmiller anticipates oil prices -- which plunged about 50 percent since June -- will rise by next year after companies slowed production and exploration.

Duquesne Family Office sold its retail and airline stocks, which benefit from lower oil prices, and has bought equities that benefit as energy prices climb, such as LyondellBasell Industries NV. The world’s biggest maker of polypropylene plastic rose as much as 3.1 percent today to $96.18, the highest price since October. He’s also buying crude futures.

In more conventional bets, Druckenmiller said that U.S. and Japanese stocks will continue to climb. He’s also wagering that the U.S. dollar will continue to strengthen against the euro, saying the European currency could eventually trade at 80 cents compared with about $1.06 today.

Greece will “probably” exit the euro zone, Druckenmiller said. There won’t be contagion though, given that banks don’t own Greek debt anymore and Mario Draghi, the European Central Bank President, has quantitative easing at his disposal.

“I prefer to see Greece stay in the euro zone, for a lot of economic market reasons and humanitarian reasons, but as a market participant I think it’s way overanalyzed.”
I agree with Druckenmiller, Greece is overanalyzed which is why I stopped covering it after my last comment on the big fat Greek squeeze. The country is now entering the twilight zone, no thanks to the left-wing lunatics who are running it to the ground and barely scraping by to pay off their creditors (but Greeks voted these clowns in and sadly, they deserve their fate!).

Anyways, my attention has shifted away from Greece/ Grexit and on to the China bubble which is why I find Druckenmiller's bullish stance on China very interesting. As always, I worry less about what gurus are saying on TV and focus more on their book, ie. their actual positions. Druckenmiller is one of the gurus I track every quarter and here are the top positions for his family office as of Q4 2014 (click on image below):


As you can see, among his top positions in Q4 were biotechs like Biogen (BIIB) and Celgene (CELG), but also Facebook (FB), Home Depot (HD) and Goldman Sachs (GS), all of which have performed very well since 2009.

But when I drilled down to look at Druckenmiller's top holdings, I didn't see any emerging market index shares or China shares (apart from Alibaba which got crushed). In fact, if you look at his sector weightings below, you'll see negligent exposure to energy (XLE) or commodity shares (GSG). Most of his top holdings as of the last quarter of 2014 were in services, healthcare (mostly biotechs), technology and financials (click on image below):


For a big China and emerging markets bull, I'd say Mr. Druckenmiller is playing up the buyback and biotech bubble a lot more than the China bubble. That might have changed in Q1 but my point is simple, always focus on what these gurus are buying and selling, not what they're saying on TV.

Having said this, the article states he is buying crude futures and there is no denying that shares of the iShares MSCI Emerging Markets ETF (EEM), the Vanguard FTSE Emerging Markets ETF (VWO), the iShares China Large-Cap ETF (FXI) and  Deutsche X-Trackers Harvest CSI 300 China A-Shares ETF (ASHR) have all jumped big thus far in 2015. The same can be said of individual emerging market companies like Petrobas (PBR) and especially PetroChina (PTR) which are surging higher. Even Freeport McMoran (FCX), the copper mining giant, is showing signs of life lately, which is bullish for a global recovery.

So what is going on? Is there a full blown rally in emerging markets and if so, why is it happening? Is it because Wall Street economists see a more dovish Fed in the months ahead or is it because the fundamentals in China and other emerging markets are slowly but surely improving? It certainly can't be the latter because China's economy is losing altitude fast, which doesn't portend well for other emerging markets like Brazil.

This is why I'm extremely cautious with these huge breakouts. They're powerful countertrend rallies that the algos on Wall Street love to play from time to time but that's all they are, countertrend rallies destined to fizzle out. If you're playing the global recovery theme via China/ emerging markets shares as well as via energy (XLE), oil services (OIH) and commodity shares (GSG), you will likely be very disappointed. There will be pops and drops but the trend will be lower for a very long time.

Not surprisingly, U.S. stocks opened sharply lower on Friday, following a global decline in equities on renewed concerns in Greece and new Chinese trading regulations, amid U.S. inflation and consumer data. UBS' Art Cashin spoke about all these concerns on CNBC earlier today (watch below).

And one technical analyst, Yacine Kanoun, managing director at PivotHunters, told CNBC the correction on S&P and the German DAX has already started. Listen to his comments below but take this technical mumbo jumbo with a shaker of salt in these increasingly computer driven markets where things can pivot on a dime.

Finally, Marc Faber, editor and publisher at The Gloom, Boom & Doom Report, says China's true growth rate is a maximum of 5 percent, not 7 percent, which is why he thinks its markets are an accident waiting to happen. Listen to his comments, very good overview of hot money flows into China.



Thursday, April 16, 2015

Fully Funded CAAT Gains 11.5% in 2014

The Colleges of Applied Arts and Technology (CAAT) Pension Plan announced an 11.5% net return  for the year ended December 31, 2014, which increased the Plan's net assets to $8 billion from $7.1 billion in the previous year with a going-concern funding reserve of $773 million:
The CAAT Pension Plan today announced a 11.5% rate of return net of investment management fees of 77 basis points for the year ended December 31, 2014.The Plan’s net assets increased to $8 billion from $7.1 billion the previous year.

In its valuation filed as at January 1, 2015, the CAAT Pension Plan is 107.2 % funded on a going-concern basis with a funding reserve of $773 million.

During the past five years, the Plan has earned an annualized rate of return of 10.5% net of investment management fees.

Contributions to the CAAT Plan were $417 million in 2014, while net income from investments was $808 million. The Plan paid $369 million in pension benefits for the year.

The CAAT Pension Plan has 40,000 members – 24,700 are employed in the Ontario college system, which comprises 24 colleges and 12 associated employers, and 15,300 members who are retired or have a deferred pension.

The average annual lifetime pension for retired members and survivors is $25,800. In 2014, members on average retired at age 62.4 after 23.3 years of pensionable service.

“We continue to work diligently to earn and keep the trust of members and employers,” says Derek Dobson, CEO of the CAAT Pension Plan. “The security of existing benefits and the sustainability of the pension plan at stable and appropriate contribution rates is our primary focus.”

The 11.5% rate of return net of investment management fees outperformed the policy benchmark by 1.4%, adding value of $96 million.

The CAAT Plan seeks to be the pension plan of choice for single-employer Ontario university pension plans interested in joining a multi-employer, jointly sponsored plan in the sector. The postsecondary education alignment and similar demographic profile of university and college employees makes the university plans an ideal fit with the CAAT Plan’s existing asset and liability funding structures. The CAAT Plan has been in discussions with individual universities, employer and faculty associations, and government officials, about building a postsecondary sector pension plan that leverages the Plan’s infrastructure and experience, reducing costs and risks for all stakeholders.

Created at the same time as the Ontario college system in 1967, the CAAT Plan assumed its current jointly sponsored governance structure in 1995. The CAAT Plan is a defined benefit pension plan with equal cost sharing. Decisions about benefits, contribution rates, and investment risk are also shared equally by members and employers. The Plan is sponsored by Colleges Ontario on behalf of the college boards of governors, Ontario College Administrative Staff Association (OCASA), and Ontario Public Service Employees Union (OPSEU).

The 2014 CAAT Pension Plan Annual Report will be available on the Plan website by May 11.

Read more about the 2015 Valuation
2014 Investment performance
Shared governance is the key to stability
From the three links above, I'd say the key to CAAT's success is without a doubt their shared risk/ governance model:
The CAAT Pension Plan is a jointly-governed pension plan. This means that employers and employees together share responsibility for the stability and security of the Plan (including the cost). This governance model fosters cooperation and flexibility, and encourages prudent and responsible decision-making.

The Sponsors of the Plan (OCASA and OPSEU representing employees and Colleges Ontario representing employers) appoint representatives to the Board of Trustees and Sponsors’ Committee.
As far as investment performance, net of fees, the Plan managed to deliver a solid return of 11.5% last year, beating its benchmark (policy) portfolio by 1.4%. I want to take a minute here to go over their policy portfolio using information from CAAT's 2013 Annual Report.

As you can see below, the benchmarks they use for their policy portfolio are very clear and in my opinion, these are the benchmarks all Canadian pensions, including our revered top ten, should be using to gauge value added (click on image below from page 18 of the 2013 Annual Report):


And here was the value added for each asset class in 2013 (click on image below from page 18):


As I was reading CAAT's 2013 Annual Report last night in bed (I know, I'm weird but I sleep like a baby!), a few things struck me. First, CAAT severely underperformed its Private Equity benchmark in 2013 because the benchmark (MSCI All Cap World Index + 3%) isn't easy to beat, especially when global stocks are surging. Also, the J-curve effect in Private Equity makes it harder to beat this benchmark because these investments are valued at acquisition-cost and it takes several years to realize gains on these investments.

The second thing I noticed was the strong, if not unbelievable, outperformance of their Canadian equity portfolio in 2013, with a value added of 7.8%. Now, I don't know which external managers they used to deliver such incredible gains over the S&P/ TSX Composite but one Canadian pension fund manager did tell me that according to Mercer, the median Canadian equity manager outperformed the TSX by 6% in 2013:
Canadian equities returned 7.3 per cent in the fourth quarter which brought the 2013 return to 13.0 per cent. The median returns were 8.3 per cent for the quarter and 19.0 per cent for the year.

For the year:
  • The best performing S&P/TSX sectors were Health Care (+72.1 per cent), Consumer Discretionary (+43.0per cent) and Industrials (+37.5 per cent). The worst performing sectors were Materials (-29.1 per cent), utilities (-4.1 per cent) and Telecom Services (+13.1 per cent).
  • Large cap stocks (S&P/TSX 60 Index) returned 13.3 per cent, outperforming small cap stocks (S&P/TSX SmallCap Index) which returned 7.6 per cent during 2013.
  • Value stocks outperformed growth stocks as measured by the S&P Canada BMI Value and Growth indices, which returned 17.2 per cent and 9.1 per cent respectively in 2013.
What else did Mercer state in its Q4 2013 report? It was a pretty good year for pensions and balanced funds:
A typical balanced pension portfolio returned 12.8 per cent in 2013. The median return offered by managers of the Canadian Pooled Balanced Universe was 6.5 per cent for the quarter and 16.2 per cent for the year.
Of course, if you look closely at CAAT's asset mix, you will notice they are a lot more diversified than the typical balanced fund. Julie Cays, Kevin Fahey and Asif Haque, my former colleague at PSP, are doing a great job managing investments at CAAT.

Unfortunately, CAAT's 2014 Annual Report will only be made available by May 11th, which makes it impossible for me to delve deeply into their latest results. I highly recommend CAAT adopts a new approach of making available its annual report at the same time as it releases its results, just like Ontario Teachers' does (everyone should do this so we can properly examine their results).

Having said this, as you can see below, CAAT has been posting solid returns over the last six years years, beating its policy portfolio (click on image below from page 17 of the 2013 Annual Report, figures are as of end of December, 2013):


And since CAAT is growing but still a relatively small plan, its approach is to farm out most of its investments to external managers. Not surprisingly, one of their biggest investments is an allocation to Bridgewater's Pure Alpha II Fund which is up 14% so far this year mostly owing to a big bet on the surging greenback (all of which I predicted back in October 2014; Ray is on my distribution list).

CAAT has the advantage of being fairly small relative to its bigger Canadian peers, and unlike HOOPP, its managers have opted to farm out most of their investments (read more about the CAAT and Optrust edge). This strategy works when you are able to choose the right managers but it also poses risks, the least of which is manager selection risk, and they have to make sure they negotiate the fees carefully because as they grow, so do those fees, increasing the costs of the plan.

Even now, CAAT is forking over fees to external managers but if they gt to be ten times their size, those fees can pay some nice salaries to bring some of those assets internally. As the plan grows in size, so will those fees, and so will the pressure to bring more assets internally.

Again, CAAT's investment team has been posting solid returns, adding value over its policy portfolio over the last five years. Moreover, its governance model has allowed it to beef up its fully funded status, which is what ultimately counts. Also, as Julie Cays, CAAT's CIO, once told me, there is a lot of knowledge leverage that goes along to allocating money to top global funds.

Late today, Julie shared this with me:
Our fees were 77 basis points – which incidentally includes over 20 basis points paid as fees for outperformance to managers with performance based fee arrangements. Once our annual report is available I’d be happy to chat about 2014.
I look forward to reading CAAT's 2014 Annual Report when it becomes available by May 11th. Those of you who want to learn more about CAAT should take the time to carefully read its 2013 Annual Report and listen to its senior managers discuss the plan's results and characteristics here.

Also, CAAT is an excellent multi employer defined-benefit plan which adheres to the highest standards of pension governance. I highly recommend all Canadian universities seriously consider having their defined-benefit plans managed by CAAT. Don't just look at their returns, which are excellent, think of the advantages of pooling your assets with those of other university pension plans and having those assets managed by professional pension fund managers who will properly diversify across public and private markets.

Below, an introduction to the CAAT Pension Plan and OCASA's role. CAAT desperately needs to update its videos on YouTube and allow embed codes on their latest videos on their website (all public pension funds need to get with the times, we live in 2015, not 1995!!).

Wednesday, April 15, 2015

Norway to Invest More in Private Markets?

Saleha Mohsin and Mikael Holter of Bloomberg report, Norway Starts Process to Open Wealth Fund to Infrastructure:
Norway’s government kicked off a process that could open its $880 billion wealth fund to invest in infrastructure and to increase its share of real estate to spread risk and boost returns.

The government appointed an expert group that will report back no later than November 2015, according to a statement from the Finance Ministry.

“It’s important to consider the effect on expected returns and risk of opening up for unlisted infrastructure and increasing investments in real estate,” Finance Minister Siv Jensen said in an interview after a press conference.

The government has so far hesitated to let the fund expand into unlisted investments such as infrastructure. The fund is mandated by the government to hold about 60 percent in stocks, 35 percent in debt and 5 percent in properties. The investor, which gets its capital from Norway’s oil and gas wealth, has been lobbying to be allowed to move into new assets such as private equity to boost returns.

The government increased the so-called tracking error, or the amount it can deviate from its benchmark, to 1.25 percent from 1 percent after the fund in January requested a change to 2 percent. It raised the environment-related investment mandate to as much has 60 billion kroner ($7.4 billion) from 50 billion kroner and introduced a new rule to exclude companies “whose conduct to an unacceptable degree entails greenhouse gas emissions.”
Expanding Oversight

It also proposed to expand the central bank’s board by one more deputy governor to improve oversight and broaden the institution’s competence on investment management. The fund is a part of the central bank, which now has one permanent deputy governor and one governor.

“The Norwegian central bank has two extremely heavy assignments: one is more traditional central bank duties, the other is the management” of the fund, Jensen said during a press conference in Oslo. “The best answer in the short term is to expand the board with one deputy governor.”

Debate has been swirling over whether tighter oversight is needed for the fund, which owns 1.3 percent of global stocks, as it looks at broadening its asset base. Control of the wealth fund is split across various units in the government and the central bank.

Norway’s biggest opposition party, Labor, will support the proposal to add a deputy governor, said Torstein Tvedt Solberg, a lawmaker on parliament’s Finance Committee.

“The steps they are taking are very good,” he said.

The government also decided to follow the advice of a report it mandated last year not to exclude investments in companies producing coal or other fossil fuels.

Labor criticized that decision, vowing to seek a parliamentary majority to override the government on coal investments, Tvedt Solberg said.

The expert group on infrastructure is comprised of Stijn Van Nieuwerburgh, a professor of finance at New York University’s Leonard N. Stern School of Business, Richard Stanton, a professor of finance and real estate at the Haas School of Business, University of California, Berkeley and Leo de Bever, a former Bank of Canada official and pension fund executive.
Elizabeth Pfeuti of Chief Investment Officer also reports, Former AIMCo CEO Finds New Role:
The former CEO of the Alberta Investment Management Corporation (AIMCo) is to join a panel of experts to advise the world’s largest sovereign wealth fund on how to invest in—and make more from—real estate and infrastructure.

The three-strong group will include Leo de Bever, who oversaw significant investment in real assets at AIMCo, Professor Stijn Van Nieuwerburgh of New York University and Richard Stanton, professor at the University of California, the Norwegian government announced today.

In December, the Norwegian Finance Ministry said it would assess whether its 5% cap on real estate investment should be increased, as well as whether to permit the Norway Pension Fund-Global to invest in unlisted infrastructure. At the end of the year, just 2.2% of its $885 billion was held in real estate.

“The investment strategy of the fund has evolved gradually over time, based on comprehensive professional assessments,” said Norway’s Minister of Finance, Siv Jensen. “Such will also be the case for the current review of real estate and infrastructure investments.”

The government also announced it would be reviewing the investment advice given to the fund.

“Norges Bank and Folketrygdfondet have managed the Government Pension Fund Global and the Government Pension Fund Norway, respectively, in a sound manner over time,” the minister said. “We will build on that. In this report, the government proposes new steps to further develop the investment strategy of the two funds.”

The report, which is being submitted to parliament, proposes that the tracking error for the global fund against its benchmark be increased to from 1% to 1.25%. This will be accompanied by new requirements in the investment mandate for the fund, including supplementary reporting of the risk involved in asset management, the minister said.

Additionally, the central bank is to appoint a committee to review the Central Bank Act and the governance of Norges Bank. This group, led by a former governor of Norges Bank, “must take into account Norges Bank’s responsibility for the management” of the fund, the minister said.

Last year, Norges Bank announced a shake-up of the fund’s hierarchy and asset class silos. Two new CIO positions were created alongside that of a chief risk officer.
So the world's biggest sovereign wealth fund is slowly moving more assets into real estate and looking to invest in infrastructure and possibly private equity. Among their advisers, they hired an industry veteran with deep knowledge of infrastructure to inform them on how to proceed.

They sure picked the right people to advise them but in this bubbly environment where every large global pension and sovereign wealth fund is chasing private market assets to enhance their yield, it won't be an easy task, especially for a mega fund with $890 billion under management.

Moreover, like most global investors, the Oslo-based fund is trying to navigate uncharted terrain as central banks across the world push out stimulus to protect economic growth and spur inflation.

Interestingly, the Fund is pouring a bigger share of its cash into Africa in a bid to capture some of the fastest growth in the global economy.

As far as its investment strategy, Norges Bank Investment Management spells it out clearly on its website:
The Government Pension Fund Global seeks to take advantage of its long-term outlook and considerable size to generate high returns and safeguard Norway’s wealth for future generations.

The fund holds 60 percent of its assets in equities, 35 percent to 40 percent in fixed income and as much as 5 percent in real estate. The investments are spread globally outside of Norway.
Long-term returns

Norges Bank Investment Management seeks out exposure to risk factors that are expected to generate high returns over time and identifies long-term investment opportunities in specific sectors and companies.

The fund invests for future generations. It has no short- term liabilities and is not subject to rules that could require costly adjustments at inopportune times. The fund can withstand periods of great volatility in capital markets and is able to exploit opportunities that arise when other investors are forced to make short-term decisions.

A good long-term return depends on sustainable economic, environmental and social developments. Environmental, social and governance risks are considered in the fund’s management and exercise of ownership in companies.
Indeed, Norway plans to drop investments in companies emitting unacceptable amounts of greenhouse gases in a sharpening of environmental rules for its $890 billion sovereign wealth fund, the Finance Ministry said on Friday.

Also, the FT reports the Fund will usher in a new era in corporate governance when it begins to disclose in advance how it will vote at companies’ shareholder meetings, in a bid to become a more active investor:
Petter Johnsen, chief investment officer for equity strategies at the oil fund, told the Financial Times that the main goal was to increase transparency – one of the main requirements of the Norwegian government.

However, he added: “It is not a solicitation or a direct encouragement on how others should vote but of course we realise that by doing this – pre-disclosing our voting intentions on relevant or notable cases where we have firm views – that we could increase our influence as a shareholder.”
When I wrote my infamous report on the governance of the federal public service pension plan for the Treasury Board back in 2007, I cited Norway as an example of a global leader in terms of governance. I hope they are able to maintain a high level of transparency as they shift more assets into private markets but this won't be easy if they choose to invest in funds or co-invest with top private equity funds which are secretive by their very nature. Still, Norway's mega fund is a huge player and I'm sure these PE funds will cede a lot to it in terms of disclosure and fees (trust me, they will bend over backwards for Norway, especially now).

You can read the latest annual report governing Norway's sovereign wealth fund here. It provides detailed information on all their investments, including their investments in real estate. In terms of infrastructure, they will likely invest directly just like CPPIB and other large Canadians pension funds are doing but given their size, pricing discipline will be extremely important when they look at huge deals. They may need to partner up with other large global funds to invest in this space initially.

Like other huge sovereign wealth funds, Norway's mega fund has advantages over large global pensions because it's only focusing on long-term performance, not managing assets with regard to liabilities. But its sheer size poses huge governance and investment challenges because its managers need to scale into very big deals or else they won't achieve their allocation, especially if public markets keep soaring to record highs.

One area where Norway is steering clear of is hedge funds. I'm sure the Bridgewaters of this world have approached it but so far Norway's mega fund isn't following the United Nations and the rest of the pension herd into hedge funds, which is why it's outperforming all of them since the financial crisis erupted in 2008 (does a sovereign wealth fund with a long, long view really need to enrich grossly overpaid hedge fund managers?!?).

Finally, Susan Ormiston of the CBC recently reported that Norway’s sovereign wealth holds lessons for Canada, outlining how Norway's riches have led the tiny country on a much different path than the one chosen by other governments, including Alberta. The conservatives in that province immediately criticized her report, stating Alberta is not Norway, but the reality is Alberta bungled up its oil wealth and it will pay a heavy price for not following Norway more closely (watch the CBC clip on how Norway became rich on oil below).

Tuesday, April 14, 2015

United Nations of Hedge Funds?

Lawrence Delevingne of CNBC reports, World peace through hedge funds? Ask the UN:
One of the largest pension funds in the world is close to using hedge funds, a move many of its peers have already made.

The United Nations Joint Staff Pension Fund, which managed $52.4 billion as of January on behalf of more than 190,000 participants, is in the final stages of deciding how it will add to its mix of alternative investments.

The U.N. is considering investing directly in external money managers or using a broader fund of hedge fund structure—or both—according to a person familiar with the situation. Either way, the pension staff views hedge funds as an important portfolio diversification tool that would add to current alternative investments in private equity funds and a non-hedge fund vehicle managed by Ray Dalio's Bridgewater Associates.

Buck Consultants, an external advisor to the pension plan, is set to complete a study as early as this summer that will recommend the best approach to investing in hedge funds for the first time, including in what amount, according to the person.

A spokesman for the U.N. secretary-general declined to comment on the hedge fund plans. Buck, which is owned by Xerox, also declined to comment.

The U.N. has so far stayed clear of hedge funds even as many large institutional investors have embraced them.

The California Public Employees' Retirement System, the nation's largest pension fund, made waves in September when it said it planned to cut most of its hedge funds. But industry assets have continued to climb thanks to fresh cash from other pensions, endowments and other institutional investors.

"They would be well served by adding hedge funds," said Michael Weinberg, a hedge fund expert who teaches a class on pension investing at Columbia Business School. "Many other pensions have already seen their value either to improve returns with the same risk as stocks or bonds, or similar returns to them with less risk."

Money from institutions represents 66 percent of the capital invested in hedge funds, according to the Managed Funds Association. Pensions represent the highest percentage of that at 39 percent, according to recent Preqin data. Of the pensions that do invest in hedge funds, public plans allocate an average of 7.8 percent of their portfolios to them; for private sector plans it's 10.5 percent, according to Preqin.

A previous target for alternative investments in the U.N. plan was 6 percent of assets. That figure is being updated by Buck, but a 4 percent allocation to hedge funds, for example, would be more than $2 billion. Tereza Trivell is head of the U.N.'s alternative investing unit.

The U.N. fund, whose investments are led overall by recent appointee Carol Boykin, has 63.5 percent of assets in stocks and 24.5 percent in fixed income, according to a report on the portfolio as of December. It also has 5.2 percent in real assets like real estate, timberland and infrastructure. Just 3 percent is in alternatives, including private equity, commodities and the "risk parity" strategy.

The risk parity allocation is managed by Bridgewater through its All Weather strategy. Dalio pioneered the concept, a conservative mix of asset classes that is designed to perform in any economic environment over the long term. Bridgewater also happens to be the largest manager of hedge funds, which are more trading-oriented and charge higher fees.

A spokesman for Bridgewater declined to comment on if the firm was being considered for the U.N.'s likely hedge fund allocation.

The U.N. pension is more than 90 percent funded, meaning it is still slightly short of having all the cash necessary to fund payments it has promised. That amount is better than many other pensions. The average corporate and public pension plan is about 80 percent funded, according to data from consulting firms Mercer and Wilshire Associates.

The U.N. fund averaged a return of 6.18 percent from 2004 to 2014, according to U.N. materials. That outperformed its policy benchmark return of 5.84 percent (a mix of 60 percent stocks and 31 percent bonds), but was behind global stocks (6.6 percent).

The HedgeFund Intelligence Global Index, representing all hedge fund strategies, gained 5.83 percent net of fees over the same 10-year period.

Funds of hedge funds, the other means in which the U.N. is considering accessing the strategy, are vehicles that allocate to various independent managers for an extra layer of fees. They are a way to gain exposure to multiple hedge funds at once without the hassle of independently selecting and monitoring each manager.

Funds of funds have declined in popularity in recent years given relatively muted returns and concerns around their oversight of managers (some were invested in the Bernard Madoff Ponzi scheme. Click on image below to see funds of funds performance).


The U.N. pension fund was the 71st largest by assets, according to a 2014 Towers Watson ranking (click on image below).

So the United Nations Joint Staff Pension Fund is the latest large pension fund to discover the "diversification benefits" of hedge funds (insert roll eyes here). I'm sure their consultant will provide them with a polished report touting how great hedge funds are and they will likely invest via a few funds of funds as well as invest directly in brand name funds like Bridgewater to show their board of directors just how responsible they are, investing with a well known global macro fund with a stellar track record.

Don't get me wrong, Bridgewater is an excellent fund, which is why it's the largest hedge fund by far. In another CNBC article, Hedge funds take hit playing beat-up oil sector, Delevingne provides YTD performance data on some brand name funds (click on image below):


As you can see, Bridgewater's Pure Alpha II is up almost 15% thus far this year. Not bad for a global macro fund managing $170 billion in assets. Bridgewater is a wet dream for large global allocators looking for scalability and excellent risk-adjusted returns. This is why Ontario Teachers' Pension Plan and other large investors are heavily invested with them.

But I get nervous when I see these large mega funds attracting such huge inflows of capital. Maybe Ray Dalio has found the holy grail of investing but in my experience, all hedge funds including Soros Fund Management and Bridgewater, have experienced a serious drawdown at one time or another. This is especially true of so-called hedge fund titans that rise quickly and fall even  quicker.

The other problem I have with Bridgewater, and I'm not shy to state it, is it collects 2 & 20 or 1.5 and 15 (for very large investors) on $170 billion! Do the math, this means Dalio and company collect a little over $3 billion in management fees alone just for turning on the lights. No wonder he's now the richest man in Connecticut and #60 on the Forbes' list of billionaires with a net worth of $15.4 billion and growing fast. He can easily afford serious and complex upgrades to the fund's wooded campus in Connecticut.

So what? He and others at Bridgewater built a great investment fund and deserve the spoils of their hard work, right? Not that easy. As I stated in my interview with The Financial Repression Authority, a lot of these overpaid hedge fund gurus catapulted into the list of billionaires because they were the chief beneficiaries of the financialization of the economy and more importantly, the extraordinary shift of public pension assets into alternative investments.

And as much as I love Ray Dalio -- having been among the first in Canada to invest in Bridgewater back in 2002 while working at the Caisse and going head to head with him on why deflation is the ultimate endgame when I worked at PSP back in 2004 -- he and many other so-called hedge fund and private equity "gods" are a product of their era. They have ridden this alternatives wave to super fabulous wealth but unlike true entrepreneurs like Ray Kroc, Sam Walton, Bill Gates or Steve Jobs, they offer society very little by comparison. They are glorified by the media but that's the problem,  they're just glorified asset gatherers charging huge fees to their clients sometimes offering great returns, sometimes not so great returns. The media loves schmoozing with them but I openly question what they offer in terms of broad economic and social benefits.

Don't get me wrong, I know they employ many people but on a much larger scale, this employment is insignificant and they are part of the inequality problem pensions and sovereign wealth funds are fueling, which is ultimately very deflationary for our developed economies. The United Nations should smoke that in their hedge fund pipe!

As far as the U.N. pension fund, the long-term performance is nothing great but the problem there isn't lack of hedge funds, it's lack of proper governance (read this article from aiCIO). If there was ever a place fraught with political interference and unending political meddling by nation states wanting to appoint their candidates to key positions in internal committees or an investment board, the United Nations is it.

So now the U.N. pension fund is going to jump into hedge funds. Big deal! They're going to be part of the pension herd getting raped on fees with little to show for it (especially if they invest via funds of funds). My advice to the pension fund managers overseeing this activity is to carefully read my comment on Ontario Teachers' 2014 results. More importantly, if you're not willing to commit the proper resources to investing in hedge funds, forget about them altogether and focus your attention on investing in top real estate and private equity funds where alignment of interests are much better than hedge funds. But even in these less liquid alternatives, things are frothy and very challenging.

I realize there are outstanding hedge funds and some performed extremely well in 2014. A lot of people will tell me to look at performance net of fees, which is what really counts. True, but if you're paying hundreds of millions in fees for investment activities you can do internally or should be doing internally, there is something out of whack with your governance model. Period.

Finally, this from a reliable source at the U.N.:
I am not sure how the DRAFT actuarial study was leaked to the press, but it certainly was premature and ill advised. Normally, investment recommendations, including significant changes in the asset allocation, would be made by the RSG or investment professionals in IMD (the Investment Management Division) and discussed in meetings with the Investments Committee. The Investments Committee doesn't meet until the middle of May and as far as I know, the actuarial report has not been finalized, so the full analysis and discussion of Hedge Funds has yet to take place.

Actuaries give many projections of potential results based on plausible forecasts of the future, but they are all guesses, based on prior statistical data. Their tidy graphs are the result of data smoothing, meaning that actuaries assume away any shocks and jolts that occur in the markets (especially in recent times). Because the actuarial projections are only hypothetical scenarios which are heavily biased to input assumptions, it is dangerous to rely solely on actuarial projections for investment decision-making.
Below, James Stewart, Columnist/CNBC Contributor, The New York Times, asks why people are still investing so heavily in hedge funds when the returns have been so poor. Umm, perhaps because the pension herd is too dumb to think on its own and instead blindly follows the lousy advice of useless investment consultants shoving them in the same brand name alternatives funds gathering assets or worse still, the latest hot hedge funds destined to underperform.

And CNBC's Kate Kelly discusses how smart money is playing the energy sector. It's funny how she neglects to mention Pierre Andurand's Andurand Capital which she covered in her book and whose outlook on oil is spot on thus far this year. Reuters reports that Andurand Capital was up 13.5 percent at the end of February.

Lastly, protesters disrupt a hedge fund conference in New York City. I hate these silly hedge fund conferences, most of which are a total waste of time and money but they're great for sharks like Tatiana and her crew over at MCM Capital Management as they love to prey on ignorant and gullible investors. Maybe these protesters should move their protests to the United Nations of hedge funds.


Monday, April 13, 2015

All Fees, No Beef?

Patrick McGeehan of the New York Times, Wall Street Fees Wipe Out $2.5 Billion in New York City Pension Gains:
The Lenape tribe got a better deal on the sale of Manhattan island than New York City’s pension funds have been getting from Wall Street, according to a new analysis by the city comptroller’s office.

The analysis concluded that, over the past 10 years, the five pension funds have paid more than $2 billion in fees to money managers and have received virtually nothing in return, Comptroller Scott M. Stringer said in an interview on Wednesday.

“We asked a simple question: Are we getting value for the fees we’re paying to Wall Street?” Mr. Stringer said. “The answer, based on this 10-year analysis, is no.”

Until now, Mr. Stringer said, the pension funds have reported the performance of many of their investments before taking the fees paid to money managers into account. After factoring in those fees, his staff found that they had dragged the overall returns $2.5 billion below expectations over the last 10 years.

“When you do the math on what we pay Wall Street to actively manage our funds, it’s shocking to realize that fees have not only wiped out any benefit to the funds, but have in fact cost taxpayers billions of dollars in lost returns,” Mr. Stringer said.

Why the trustees of the funds — Mr. Stringer included — would not have performed those calculations in the past is not clear.

Mr. Stringer, who was a trustee of one of the funds when he was Manhattan borough president before being elected comptroller, said the returns on investments in publicly traded assets, mostly stocks and bonds, have traditionally been reported without taking fees into account. The fees have been disclosed only in footnotes to the funds’ quarterly statements, he said.

The stakes in this arena are huge. The city’s pension system is the fourth largest in the country, with total assets of nearly $160 billion. It holds retirement funds for about 715,000 city employees, including teachers, police officers and firefighters.

Most of the funds’ money — more than 80 percent — is invested in plain vanilla assets like domestic and foreign stocks and bonds. The managers of those “public asset classes” are usually paid based on the amount of money they manage, not the returns they achieve.

Over the last 10 years, the return on those “public asset classes” has surpassed expectations by more than $2 billion, according to the comptroller’s analysis. But nearly all of that extra gain — about 97 percent — has been eaten up by management fees, leaving just $40 million for the retirees, it found.

Figuring out just how big a drag the fees were on the expected returns of the funds overall was not easy, Mr. Stringer said.

Scott Evans, the comptroller’s chief investment officer, had to work backward from the footnotes in the reports to estimate just how much had been paid each year to a long list of Wall Street firms that managed investments in the public markets. He then calculated that those fees, combined with the significant underperformance of the investments in private assets like real estate, amount to a whopping negative — a drag of more than $2.5 billion — since the end of 2004.

Leaders of unions whose members have stakes in the funds said they expected the analysis to lead to changes.

“The fees are exorbitant and we’re not getting a good return on our money,” said Henry Garrido, executive director of District Council 37 and a trustee of the New York City Employees’ Retirement System. “That’s an insane process to keep doing the same thing over and over.”

Mr. Garrido said he saw Mr. Stringer’s emphasis on the high fees as a continuation of the efforts of his predecessor, John C. Liu, to improve controls over the managers of the pension funds.

Michael Mulgrew, the president of the United Federation of Teachers, said he was happy that his union’s pension fund, the Teachers’ Retirement System of the City of New York, had been performing well. But he said the fees paid to some managers were “ridiculous” and should be renegotiated if those managers are retained.

“Education’s always being put under reform; maybe some of these financial practices should be put under reform as well,” Mr. Mulgrew said. He praised Mr. Stringer for taking aim at a line of business that has been very lucrative for Wall Street.

“You are talking about messing with a practice that they don’t want messed with,” Mr. Mulgrew said. “I give the comptroller credit. He’s jumping feet first into this one.”
I thank Josh Brown, the Reformed Broker, for bringing this story to my attention. If you ever needed proof that the governance at U.S. public pensions is all wrong, just refer to this article to see how useless investment consultants have effectively hijacked the entire investment process to direct U.S. public pension assets to a bunch of overpaid hedge fund and private equity managers.

On Wall Street, it's all about fees, which is why I commend New York City Comptroller Scott M. Stringer for releasing an analysis by his office showing that Wall Street money managers failed to provide value to the City’s pension funds over the last 10 years.

And a fraction of that $2.5 billion in external fees could have being used more wisely, like hiring experienced money managers to manage assets across public, private and absolute return/ hedge fund strategies internally, saving these NYC pensions billions in fees, not to mention they would have performed a lot better. But to do this properly, these U.S. public pensions need to first implement the right governance model and compensate their public pension fund managers properly.

I personally think every single public pension fund in the world, including our coveted top ten pensions in Canada, should include their own analysis in their annual report clearly demonstrating how much added value all their external money managers are providing after fees. More importantly, there should be laws passed forcing all public pensions to list all their external managers and the fees they pay them (and they should do the same for brokers, consultants, service providers, etc.).

Immediately, a lot of people, including the folks at Ontario Teachers and HOOPP, will object and say "we don't want to share that information for competitive reasons." I couldn't care less what they or other large pensions claim, it's high time they are all held accountable to the highest level of transparency.

My philosophy is simple: if you're a public pension, you should be held accountable to the highest level of disclosure and provide detailed information on all investments and fees paid out to external money managers and service providers. The same goes for all internal investment activities, we need a lot more transparency on costs and performance. Period.

I know this will irk many secretive pension fund managers and even more secretive hedge fund and private equity managers but I really think it's high time politicians all around the world pass serious laws to introduce a lot more transparency and accountability to public pensions, forcing them to disclose a lot more than they're currently publicly disclosing.

As for hedge funds, this article just exposes why it's high time to transform their fees. There is a reason why CalPERS nuked its hedge fund program and why other large pensions followed suit. When they did their own internal analysis, they probably found they weren't getting the performance after fees or it was an investment activity that was too operationally taxing for them and they weren't willing to commit the needed resources to properly invest in hedge funds.

Whatever the case, in a historically low rate, low return world where global deflation increasingly looks like a real possibility, global pensions are putting the screws on their external money managers, especially high fee alternative investment managers charging them alpha fees for leveraged, sub-beta  returns. And I expect this trend to continue as the institutionalization of alternative investments gathers ever more steam.

When it comes to external money managers, especially those high fee hedge funds and private equity funds, investors have got to ask themselves one question: "Where's the beef???"

Speaking of beef, where are your donations and subscriptions to this incredible blog? Get to it folks, you have no idea how lucky you are to read very insightful, timely and free comments from the world's best, most under-rated, under-appreciated and humble (lol) senior pension and investment analyst!! -:)

Thursday, April 9, 2015

Resurrecting Global Bubbles?

Irwin Kellner, MarketWatch's chief economist, wrote a comment at the end of March, What will burst the stock market’s bubble?:
The consensus on Wall Street is that stocks will continue to rise ... until they stop. So the question now is: What can stop the market’s bull run?

This is especially pertinent in light of Monday’s surge. The Dow Jones Industrial Average gained a whopping 264 points to close at 17,976. This was the biggest increase in eight weeks.

The best way to answer the question posed in the headline is to determine what has not stopped the bull so far. Here are some items that come to mind:
  • Europe’s problems have not;
  • Greece’s issues have not;
  • China’s slowdown has not;
  • The Middle East has not;
  • terrorism has not;
  • deflation has not;
  • falling oil prices have not;
  • the strong dollar has not;
  • the Ukraine conflict has not;
  • domestic politics have not;
  • the Federal Reserve might — but a rate increase is already priced into the market.
That said, our central bank has been supporting the stock market to an unprecedented degree since the economy took a tumble a number of years ago, so any increase in rates might have some unexpected side effects.

Keep an eye on corporate profits. Expectations for earnings in the first quarter, which is now coming to a close, are not high to begin with. Most analysts are looking for little or no growth compared with last year.

But even these estimates could wind up being too optimistic, since many assume that the economy grew by 2% or more in the first quarter. But as I said in my column of March 3, the severe weather may have reduced the first quarter’s rate of economic growth by a percentage point or more.

That could take a big toll on profits. For example, if first-quarter earnings fell from their year-earlier levels, it would be the first four-quarter drop in six years.

What really makes traders nervous is that this market has not had a 10% correction in three years. The stock market’s rise last year was the sixth annual gain and the longest skein since 1999.

Stocks have risen this fast in six years only twice before: in 1993-99 and 1923-29. Both instances were followed by a bear market and a recession.

Until this happens, party on!
There are an unusual number of articles on stock and bond market bubbles popping up everywhere, which basically tells me things are getting bubbly all around the world, not just the United States.

The bubble that worries me the most is the China bubble. Bloomberg just published an article on how the world-beating surge in Chinese technology stocks is making the heady days of the dot-com bubble look tame by comparison. Nothing like a billion people speculating on Chinese tech stocks to drive up shares to the stratosphere! No wonder China bears are throwing in the towel.

The bubbles, or supposed bubbles, that worry me the least? The buyback and biotech bubbles everyone is fretting about as well as the bond bubble that Julian Robertson is worried about. He should listen to the new bond king, DoubleLine's Jeffrey Gundlach, to understand why this time is really different.

As for stocks, there are countless skeptics out there warning us that "by any objective measurement, the stock market is currently well into bubble territory," showing us terrifying charts like "The Buffett Indicator." It is a chart that shows that the ratio of corporate equities (stocks) to GDP is the second highest that it has been since 1950.  The only other time it has been higher was just before the dotcom bubble burst (click on image):


The only problem with "The Buffett Indicator" is that the Oracle of Omaha ignores it and recently stated in a CNN interview that stocks "might be a little on the high side now, but they've not gone into bubble territory."

So why are people so nervous? Well, there are a lot of reasons to worry but I think a lot of underperforming hedgies, financing blogs like Zero Edge which endlessly warns us of impending doom and gloom, have just read the macro environment wrong after the 2008 crisis. And they still don't understand that central banks around the world will continue to fight global deflation at all cost even if that means  resurrecting global bubbles.

Go back to read my comment on unwinding the mother of all carry trades, it's still alive and well. And as Sober Look notes in another excellent comment, demand for dollar funding in the Eurozone is likely to remain elevated as the area provides extraordinarily cheap financing while access to quality fixed income product has become increasingly limited. This just means the mighty greenback will keep surging.

So now all eyes are on the Fed. New York Federal Reserve President William Dudley said on Wednesday the Fed could still hike rates in June despite a weak start to the year, if economic data pick up over the next two months.

Sure, if the economic data improve over the next couple of months, the Fed will likely raise rates in June, but I agree with those who say it will be making a monumental mistake if it opens this window prematurely. Moreover, I agree with Brian Romanchuk of the Bond Economics blog, the Employment Situation Report for March was at best mediocre and there is no reason for the Fed to hike rates this year.

But don't discount a major policy blunder from the Federal Reserve which will wrongly interpret domestic and international data as a lot stronger than they truly are. That's what worries me and this is why I fear that deflation will eventually come to America, wreaking havoc on 401(k)s and private and public pensions.

Despite all these concerns, I'm sticking to my Outlook 2015, knowing full well that even though it will be a rough and tumble year, the opportunities still lie in small caps (IWM), technology (QQQ and XLK) and biotech shares (IBB and XBI) and the risks still lie in energy (XLE), materials (XLB) and commodities (GSG). 

A little warning to all of you playing the monster breakouts in iShares China Large-Cap (FXI) and  iShares MSCI Emerging Markets (EEM). Don't overstay your welcome no matter how tempting it might be thinking there is a global economic recovery underway. If the Fed does raise rates this summer, these markets will get clobbered.

Below, in a wide ranging interview with CNN, Warren Buffett discusses why stocks aren't cheap but they're not in bubble territory. The Oracle of Omaha also discusses his views on inequality and minimum wage. Fascinating interview, listen to his views.

Also, Tiger Management chairman and co-founder, Julian Robertson discusses the U.S. economy and bond bubbles. Mr. Roberston also thinks the U.S. dollar will continue to strengthen (second clip), which in my opinion buys the Fed time to stay put.

Third, while the Federal Reserve contemplates increasing interest rates, former Clinton Treasury Secretary Larry Summers said Thursday that policymakers should be more concerned about acting too early than acting too late.

Finally, take the time to listen to a discussion I had last week with Gordon T. Long of The Financial Repression Authority. I cover a lot of topics that others typically ignore, including how pension poverty is deflationary and will keep rates low for a very long time.

I am taking another long weekend to celebrate Orthodox Easter which is our most important religious holiday. I'm not a particularly religious person but I do enjoy this time of year and the church ceremony celebrating the resurrection of Christ.

"Kalo Pasxa" ("Happy Easter") and “Xristos Anesti!” (“Christ is Risen!”) to all my fellow Orthodox Christians (watch this clip featuring Irene Papas and Vangelis). Another clip that was sent to me over the weekend was one of Petros Yaitanos singing Christos Anesti. Enjoy!






Wednesday, April 8, 2015

Accounting Changes Worry Federal Unions?

Kathryn May of the Ottawa Citizen reports, PS pension plan accounting changes spark pre-election concerns:
The federal government is changing the way it accounts for its employees’ pension plans — a change that would indicate the plans have a nearly $100-billion deficit.

The government says the move will have no impact on Canada’s finances or the viability of the plans.

But that doesn’t stop Canada’s 17 federal unions from worrying that this accounting change could spark a political blowback.

They fear that those who believe public sector pensions are too rich will exploit this deficit — even though it is only on paper — to lobby for further reductions or reforms to the pension plans of Canada’s public servants, military and RCMP.

Ron Cochrane, co-chair of the joint union/management National Joint Council, said the unions were briefed on the change and accept that it is an “accounting matter.”

But he said they can’t help but question why the government is making the change now — months before an election — after handling the accounting in the same way since the 1920s.

“The unions’ big concern is optics and whether this will become a feeding frenzy for the Conservative base and those institutes that favour changing public servants’ pension plans,” said Cochrane.

“It has no impact on anyone and everything stays the same, but that doesn’t mean it might not be used to give more fodder for Conservative supporters to make hay and push for changes.”

The change will have no impact on the government’s finances because the employee pension obligations have been accurately recorded in the federal budget and the Public Accounts, which is the government’s overall financial statement.

Treasury Board President Tony Clement wouldn’t comment until the reports have been tabled. The annual report and financial statement for the public service pension plan is expected to released Tuesday.

Stephanie Rea, a spokeswoman for Clement, confirmed the change will have no “financial implications” for the government. It will not affect the deficit or government plans to balance the budget in 2015.

She said the change is one of “presentation” only, and was done to bring the plan’s financial statements in line with public sector accounting standards as urged by Auditor General Michael Ferguson and the federal comptroller general.

The unions were also assured the change would have no impact on the plan, its viability, the contributions employees make or the benefits paid to more than 700,000 public servants and pensioners.

So, just what is the government doing?

The federal pension plan has two accounts, one for pension contributions that employees made before 2000, and another for ones made after 2000.

The pre-2000 account, known as the superannuation account, was created in the 1920s as an internal account to keep track of employees’ contributions, interest and benefit payments. It had no cash.

By the 1990s, this account began racking up a massive surplus that became the centre of a long court battle to decide if the surplus was real or not and who owned it, ending up in the Supreme Court of Canada.

Meanwhile, in 2000, the government passed legislation to create a new pension plan that was invested in the market and managed by the Public Service Investment Board.

The government began publishing financial statements for the combined plans in 2004. They included the superannuation accounts as “assets” along with the investments managed by the Public Service Investment Board. This was an interim step until the Supreme Court issued its decision.

By 2012, the Supreme Court decided federal employees were not entitled to the surplus and the accounts were nothing more than “ledger accounts” with no real cash or assets.

With the lawsuit resolved, Treasury Board decided that removing the superannuation account’s notional “assets” from the financial statements would more accurately reflect the fact the account was only a ledger account. It would also bring them in the line with accounting standards.

It consulted widely with pension experts, the administrators who run the military and RCMP plans.

Ferguson also raised the red flag that if the accounting wasn’t brought in line with standards, his office would issue a qualified opinion on the plan’s financial statements — a black eye on their credibility and the government’s management.

The size of the superannuation account will now be recorded as a note to the plan’s financial statement to be released Tuesday. If the change was applied to last year’s financial statements, removing the notional assets would increase the size of the plan’s deficit to more than $96 billion.

Robyn Benson, president of the Public Service Alliance of Canada, said the chief actuarial reports show the pension plan is adequately funded and viable but that the accounting change could confuse and mislead Canadians.

“The decision by the government to unilaterally remove the superannuation account from the Public Service Pension Plan’s financial statements is therefore unnecessary. Making billions disappear overnight is an attempt by the government to mislead the public on the viability of public sector pensions.”

The public service pension plan is the biggest in the country and critics, ranging from the groups like the Canadian Federation of Independent Business and the C.D. Howe Institute have assailed it as under-funded and unaffordable.

The Conservatives introduced reforms to the pension plan in 2012 that’s aimed at saving $2.6 billion by 2018 and an ongoing $900 million a year. Reforms included jacking up contribution rates so employees pay half and raising the retirement age to 65 for new hires from age 60.
I read this article last week and basically thought these public sector unions are making a mountain out of a molehill and they're whining about nothing. They lost the Supreme court case and clearly can't claim the surplus is theirs. Moreover, many pension experts said these surpluses need to be looked at from an accounting perspective or a solvency perspective - not on a going concern funding perspective. It just makes sense to remove these surpluses from the books.

Having said this, I'm not exactly a fan of the Harper Conservatives when it comes to pensions. I basically don't trust them because they foolishly pander to the financial services industry and refuse to enhance the CPP for all Canadians.

Importantly, when it comes to pension policy, I give the Harper Conservatives a failing grade. They just don't understand the benefits of defined-benefit plans for our economy and keep taking dumb measures like increasing the TFSA contribution limit which won't really help anyone but high income Canadians with a lot of discretionary income at their disposal. These aren't the people that need help when it comes to retiring in dignity and security.

But I got a bone to pick with these public sector unions too. I've had the fortunate (or unfortunate) opportunity of working at large pension funds, Crown corporations and federal government organizations and I've never seen more self-entitled people than when I worked at the government. It would drive me crazy when people were telling me, a contract worker with Multiple Sclerosis, how "they were counting the days to their retirement." That type of attitude isn't uncommon in these federal government organizations but I don't really blame them as the Harper Conservatives totally demoralized our civil service with their asinine across the board cutbacks.

If it was up to me, the retirement age at all federal government organizations, with exception of the Armed Forces and RCMP, would be raised to 67 or even 70 years old to address longevity risk and I would introduce real risk-sharing in these plans just like Ontario Teachers' Pension Plan and Healthcare of Ontario Pension Plan did at their plans.

I'm actually shocked that these unions are worried about irrelevant accounting changes and not focusing on how the Auditor General of Canada dropped the ball on the operational audit of PSP Investments. I didn't see one person scream and shout about the shenanigans going on at PSP which included an embarrassing case of legal but unethical tax avoidance.

Welcome to wacky world of Ottawa where everyone is quiet as long as their sacred pensions remain intact. But if you dare reform pensions for the better, all hell breaks loose.

I think a lot of Canadians worrying about never being able to retire are sick and tired of hearing about public sector employees whining about their defined-benefit pensions. Get real, grow up and realize how good you have it even if you're contributing to your pensions.

I'm no fan of the Harper Conservatives, the CFIB, the C.D. Howe Institute, the Fraser Institute and most other institutes that claim we can't afford public pensions. But I'm increasingly annoyed by these grossly self-entitled civil servants who cry foul every time we dare reform their pensions for the better, like introducing more transparency and accountability to the way we measure unfunded liabilities.

Having said this, let there be no mistaking my stance on defined-benefit versus defined-contribution plans. I know the brutal truth on DC plans, they will only exacerbate pension poverty down the road, which is why I keep harping on Harper and the big boys in Ottawa to enhance the CPP for all Canadians once and for all.

I leave you with an excellent article from Adam Mayers of the Toronto Star on how good pensions help keep your community afloat:
The pension divide in Canada is a yawning public sector-private sector gap.

In the private sector, 76 per cent of employees don’t have a pension of any kind. In the public sector, 86 per cent do and they usually have the best kind.

By best kind, I mean a defined benefit plan where you receive a monthly amount for life when you retire. You don’t have to worry about how to invest the money or what it’s invested in. You can sleep easily at night.

Only 10 per cent of those in the private sector have this kind of plan and many are now grandfathered. In their place, companies are offering defined contribution plans – if they offer anything at all – which match money contributed by employees. Retiring employees have to figure out how to turn that cash into a reliable stream of income, a source of stress and anxiety

The gap is a growing source of friction, with some critics enviously eyeing public sector pensions and saying they are unaffordable and unfair. Far too generous. Wind them up, they say.

But would that really be a good idea?

If you own a business in Cobourg or Orillia, or St. Catharines or Collingwood, or for that matter in Toronto, the answer is no. You may wish you had as good a deal as your neighbour the teacher, the firefighter or nurse, but don’t wish their pension away.

The money they are paid is a huge economic energizer in the community where they live. The money they spend on groceries and restaurants, at the hardware store or taking yoga and fitness classes is greasing the local wheels.

A study by The Boston Consulting Group (BCG) commissioned by four of Ontario’s biggest pension plans, took a look at the relationship between pension income and the health of communities.

The 2012 study found that on average 14 cents of every dollar of income in Ontario communities come from pensions. The biggest chunk of that pension cash comes from defined benefit plans. The rest is from RRSPs, Canada Pension Plan and other supports like Old Age Security (OAS). That cash keeps smaller communities afloat because the money the defined benefit pensioners spend is someone else’s income.

In Toronto, pensions contribute 11 cents of every dollar of income in the city, the study found. In Elliot Lake, it is 37 cents, in Cobourg 27 cents, in Orillia, 24 cents and St. Catharines, 23 cents.

The four pension plans funding the research were Ontario’s biggest –Healthcare of Ontario Pension Plan (HOOPP), Ontario Municipal Employees Retirement System (OMERS), OPSEU Pension Trust (OPTrust) and Ontario Teachers’ Pension Plan (OTPP).

They were looking for support for the argument that defined benefit pension plans offer a lot more than cash in a pensioner’s pocket. Rather, they help with social cohesion and reduce pressure on government programs.

Here are some of the findings:
  • In 2012, Canadian defined benefit plans paid out $72 billion to 3.5 million pensioners.
  • Most of this money is spent where they live.
  • In Ontario, 7 per cent of all income in our towns and cities, or $27 billion, is derived from defined benefit pensions.
  • That $27 billion generated $3 billion in federal and provincial income tax, $2 billion in sales taxes and $1 billion in property tax on an annual basis.
  • Seniors with defined benefit plans are confident consumers because the predictable income stream allows them to better plan their affairs.
  • Defined benefit plans offer a broader social benefit, because people who get them rely less on benefits like the Guaranteed Income Supplement (GIS) to the tune of $2 to $3 billion a year.
“These pensions are an important part of income in their communities,” says Jim Keohane, HOOPP’s CEO. “You get different spending patterns because you don’t have to worry about running out of money.”

The study offers a six-point plan to encourage better pension coverage for all Canadians, something everyone wants but everyone is struggling with how to do it.

So we need more of them, not less.

The study concludes with some suggestions including:
  • Make workplace pensions mandatory to force savings. The coming Ontario Retirement Pension Plan is an example of how that might happen, as is Britain’s Nest (National Employment Savings Trust.)
  • Don’t wait. Governments should do something now, whether enhancing the CPP or going another way.
  • Share the risk between employees and employers, so that pensioners aren’t left managing their money alone.
The study won’t reduce public sector pension envy, but it does explain why these plans are important. We need more like them, not less. The trick is finding a way for that to happen.
As I discussed recently in my comments on America's attack on public pensions, America's pensions in peril, and why the great 401(k) experiment has failed, we need to introduce retirement policies that bolster public pensions for all our citizens, not just those that work in the public sector. Good pension policy makes for good economic policy.

Below, a discussion I had last week with Gordon T. Long of The Financial Repression Authority. Take the time to listen to this discussion. Admittedly, some of you will find parts of our discussion confusing but I cover very important topics that others typically ignore.