Welcome to the ‘fishbowl’: As CPPIB assets grow, increased scrutiny may be the new normal

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Mark Machin faced a virtual grilling last June, when the then-chief executive officer of the Canada Pension Plan Investment Board logged on for a meeting of the House of Commons finance committee.

For about two hours, federal politicians peppered Machin with questions: What is the position of CPPIB vis-a-vis China? Would the Crown corporation consider an environmental audit of its investments? What percentage of the now-$476-billion CPP fund was in Quebec compared to the rest of Canada?

“I think the country has been really well served by the simplicity of the mandate we were given back in the CPPIB Act in 1997, which is to maximize returns without undue risk of loss,” Machin told the committee at one point, according to a transcript. “Then it was left to a professional board of directors and management teams over the years to figure out how to do that.”

Yet last week offered another reminder that Canada’s biggest pension fund is always being watched by its political masters.

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After nearly five years in the CEO role, CPPIB announced Friday morning that Machin had resigned following the revelation that he travelled to the United Arab Emirates and received a COVID-19 vaccination there. Finance Minister Chrystia Freeland spoke to the pension board’s chair the same day and “made clear that Canadians place their trust in CPPIB and expect it to be held to a higher standard,” a spokesperson told the Post.

CPPIB may operate at arm’s length from both federal and provincial governments, but its directors are appointed by the federal finance minister in consultation with the provinces and a nominating committee. And while the investment manager may see its mandate as relatively straightforward, the organization’s increasing importance and influence means carrying out its objectives is becoming more and more fraught with pitfalls of both the political and public-relation variety.

Pension adviser Keith Ambachtsheer says the recent exit and replacement of CPPIB’s CEO was a test of its governance, and one that the organization passed. What comes next, however, is an interesting question.

“The bigger that fund gets, the more that it becomes a public entity,” Ambachtsheer said in an interview. “The reality is that organization, more and more, is going to live in … sort of the fishbowl environment of Canada, just by its very nature.”

The CPPIB Act’s safeguards to protect against political interference remain in place, but scrutiny from the public and from elected officials is an “evolving phenomenon,” according to Michel Leduc, CPPIB’s head of public affairs and communications.

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The three reasons for this, Leduc said, are increasing financial literacy when it comes to the role of capital markets, the growing size of the CPP fund and changing expectations the public has for corporations.

“Political leaders, even with our independence, they still expect us to do our homework,” Leduc said. “And that means being available to Canadians.”

The CPP fund is set to keep on growing, which means the scrutiny of CPPIB’s investments is likely to grow as well.

The bigger that fund gets, the more that it becomes a public entity

Keith Ambachtsheer, pension adviser

From Canadian roots has grown a global organization that had more than 1,800 employees in nine offices around the world as of mid-2020. CPPIB’s strategies also go beyond simply stock-picking or bond-buying to pad Canadians’ retirements, as it has put billions into other kinds of investments both at home and abroad, such as infrastructure and private-equity plays.

The approach helped guide the pension fund to an annualized five-year return of 9.7 per cent as of Dec. 31, as well as a 16.4 per cent return for the nine-month, pandemic-stricken period that preceded it. CPPIB ended its third quarter with net assets of $475.7 billion, up $19 billion from the previous quarter’s end.

“Our governance structure and clarity of mandate are internationally recognized as a leading example, for other countries to emulate, of sound management of national retirement plans,” Machin told the committee back in June.

Yet CPPIB’s success cuts both ways. Blooming into a massive institutional investor makes your investments noticeable. A 2019 Economist article on the organization was titled “Moose in the market,” and that moose has been spotted dabbling in areas in which some might prefer it not tread at all.

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Under Machin’s watch, CPPIB’s allocation to Asia rose from roughly $56.2 billion, or 17.7 per cent of the fund’s net assets as of March 31, 2017, to around $120.3 billion and 25.3 per cent as of the end of 2020.

In June, Machin was pressed about CPPIB’s approach to China. This followed the administration of then-U.S. President Donald Trump pushing a retirement savings fund for federal employees to halt plans to invest in Chinese stocks, citing national security concerns.

“It’s very important for us to thoroughly understand all the risks of investing in any market, not just at an individual security level or an individual company level but also the risks of the market overall and where they might be going,” Machin said. “We spend a lot of time understanding those risks.”

CPPIB would soon gain first-hand knowledge of the sort of operating risks of the Chinese market.

Machin was asked in June about CPPIB’s approximately US$600-million investment in Chinese fintech firm Ant Group Co., which he said the organization was “quite comfortable with,” according to the committee transcript.

CPPIB was probably poised to reap a considerable return on the investment before an initial public offering of Ant was scuttled by Chinese regulators this past fall, just days before it was supposed to happen. The suspension of the IPO came after Ant’s billionaire founder, Jack Ma, made a speech critical of the country’s regulatory system.

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Leduc said the organization does not comment on specific holdings. He did, though, say that CPPIB evaluates geopolitical risk as part of its investing process. 

“That’s why we exist,” he said. “We exist to expose the fund to capital markets and to take risks in order to achieve, over time, over generations, above-average returns.” 

Institutional investors worldwide are also facing growing pressure to choose environmental, social and governance-friendly options. That is true of CPPIB, which faces a double burden due to Canada’s large oil and gas sector. Snubbing domestic firms could spark a backlash, but if it does invest in energy, it runs the risk of pushback from climate-conscious investors and environmental advocates.

Machin said in June that the organization does consider ESG factors, and that it has “committed to being a leader among asset owners in understanding the risks posed and opportunities presented by climate change.” 

That doesn’t mean CPPIB will be totally able to avoid scrutiny. A legal analysis released by the Canada Climate Law Initiative last September questioned whether the fund’s approach to managing the financial risks of climate change were consistent with the best interests of beneficiaries and contributors. 

“I think that there should be a nationwide discussion about what principles today should be shaping the investments,” said Cynthia Williams, the author of the report and the Osler Chair in Business Law at York University’s Osgoode Hall Law School. 

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There is also private member’s legislation set to be debated next week, Bill C-231, which would require that CPPIB’s investment policies ensure, among other things, that the organization does not back a company if there is reason to believe it has committed human, labour or environmental rights violations.

The bill’s sponsor, NDP MP Alistair MacGregor, said similar rules have been applied successfully to Norway’s massive government pension fund. He also said his legislation would not mean that politicians would suddenly be making day-to-day investment decisions for the CPPIB and its nearly half-a-trillion dollars in net assets.

“That’s the kind of money that can move markets, depending on where it’s invested,” MacGregor said. “With the power that comes from that size, I think also comes great responsibility.”

Ambachtsheer was involved with the creation of CPPIB back in the 1990s — at a time when the CPP was seen as unsustainable — and said that right from the start, there were questions around how to position the organization with respect to potential political interference. Ultimately, the decision was made to set up the investment manager at arm’s length from government, so that it would be “immunized” from such forces.

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Again, though, that does not mean scrutiny from lawmakers will just disappear, or that it should. Ambachtsheer, for instance, said there is, in many cases, a “political element” when it comes to the investment decisions regarding the energy sector.

The sort of issues that institutional investors need to deal with are not going away anytime soon either, such as low interest rates that continue to drive an ongoing search for decent returns. CPPIB’s strategy has also evolved from a passive one to that of an active manager that dives into diverse markets and complex transactions.

Such moves come with their own unique set of challenges, including recruiting and paying people to do the work. Prior to joining CPPIB, Machin had worked at investment bank Goldman Sachs Group Inc., and prior to his exit, received approximately $5.4 million in compensation for the organization’s 2020 fiscal year.

“That’s the nature of the beast,” Ambachtsheer said. “It’s complex, it’s challenging. And so far, so good.”

Financial Post

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