Why Liberals’ pursuit of Canada’s pension billions keeps falling flat

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Shortly after he was elected Canada’s 23rd prime minister, Justin Trudeau gathered the country’s top pension officials in a conference room in downtown Toronto for a roundtable discussion on infrastructure. To most in attendance that day in November 2016, the government’s intention was clear.

Canada’s major pension plans had prospered and were among the most powerful investors on the planet, in control of hundreds of billions of dollars of investable capital. Many of them had developed an expertise in infrastructure and had been scooping up projects — things like toll roads, ports and power plants  — from South America to Europe to Australia. The Liberals, meanwhile, had stormed back into power with promises to modernize and improve Canada’s aging infrastructure as part of a major undertaking to boost productivity and jobs and lift the Canadian economy.

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If, the thinking went, just a little more of the expertise and financial firepower present in that room could be redirected toward projects at home — perhaps ones aligned with government priorities — it might be a win-win, stretching federal dollars further while allowing pensions and the private sector to profit at the same time.

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To say those much-touted plans fell flat might be an understatement. The vehicle the government believed would make them a reality, the soon-to-be created Canada Infrastructure Bank, has since gone through multiple iterations without delivering the kind of partnerships originally envisioned. But the desire to court the country’s financial heavy-hitters and leverage their deep pockets for the national interest has persisted, turning into something of quixotic obsession for Trudeau’s Liberals.

The latest episode began with November’s Fall Economic Statement, in which Finance Minister Chrystia Freeland called for Canada’s globe-trotting pension funds to invest more of their $3 trillion in assets in their home market. The pension funds would be working “collaboratively” with the government, she promised, to “create an environment that encourages and identifies more opportunities for investments in Canada by pension funds and by other responsible investment pools, while helping to deliver secure pensions for Canadians.” It was a message she reiterated March 7, the day after a group of 90 business leaders, including the CEOs of major telecom, energy and grocery companies, wrote an open letter to her and provincial finance ministers calling for rule changes and incentives to keep more pension money at home.

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Freeland’s language has suggested a level of comfort that might have come from a long relationship. But though there have been discussions about strategies and investment mandates over the Trudeau government’s more than eight years in power, its relationship with the country’s financial powerhouses has been uneasy and at times fraught due to fundamental misunderstandings and intransigence on the part of the government, according to sources who have participated in years of discussions dating back to those earliest days in Toronto.

The focus of that first meeting, the Canada Infrastructure Bank (CIB), was a signature Liberal campaign initiative to which then-finance minister Bill Morneau pledged $35 billion of federal money in 2016. Envisioned as a public-private investment vehicle, Morneau told Canadians that each of those dollars would trigger $4 to $5 in private funding from institutional investors such as pensions.

He also promised that “transformative projects” would be funded over the next 10 years that might not otherwise get built, creating thousands of jobs. Priority projects were to include public transit, green infrastructure, clean power, broadband and trade and transportation.

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But by 2021, four years after its launch, just $1.23 billion, or 3.5 per cent of the $35-billion mandate, had been invested, according to a March 23, 2021 report published by Parliamentary Budget Officer Yves Giroux, who noted there was no evidence that private investment had been leveraged at all and that the CIB had been operating like any other government agency.

One of the earliest Trudeau government fumbles in courting the big pensions, according to a source who is still active in the pension world and spoke on condition that they would not be identified, was that it began with the expectation that the large pension funds would invest billions of dollars in early-stage projects — such as building overflow channels to stop the Red River from flooding Winnipeg every year — that would take years to generate revenue.

“I would say in general that this was thrown together without much thought and they seemed to be unaware that pension funds had not been involved in greenfield infrastructure projects,” said the source, using the industry term for projects built from scratch.

“Pension funds almost exclusively invest in operating assets,” he said, a key fact that appeared to be lost on government.

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In 2015, just a year before the pension fund heads were called to Trudeau and Morneau’s summit in Toronto, three of Canada’s largest funds — the Canada Pension Plan Investment Board, the Ontario Teachers’ Pension Plan Board and the Ontario Municipal Employees Retirement System (OMERS) — had teamed up to buy Chicago toll-road operator Skyway Concession Co. for US$2.8 billion.

Teachers’ was, at the time, also the largest private investor in airports in Europe, with holdings in London, Copenhagen, Brussels, Bristol and Birmingham. Meanwhile, Quebec’s Caisse de dépôt et placement, which was one of the first Canadian pension funds to invest in infrastructure, had amassed global holdings in airports, ports, highways, wind farms, energy transmission systems, water distribution and passenger transportation systems, according to a 2017 World Bank report that highlighted notable holdings such as the Eurostar high-speed train service and Heathrow Airport.

In those days, Trudeau and Morneau, alongside Minister of Infrastructure Amarjeet Sohi, were able to entice the Canadian pensions with one pitch: replicating a program in Australia in which existing infrastructure was turned into a money maker — for example adding tolls to an existing roadway — and then sold to institutional investors. The government could then use the money it received for the roadway to build early-stage infrastructure projects. But though the pension fund executives were keen, they also saw flaws, namely that much of the infrastructure in Canada is owned by provinces and municipalities, not the federal government. And when it came to infrastructure Ottawa did own, such as airports, senior pension executives said they found the government hesitant to make a deal for fear it would cost them votes.

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“There was some question around whether the Canadian public would support such a program,” one source said.

Another pension executive at the time, who also spoke on condition that he would not be identified because he continues to have dealings with government, backed up what others described in behind-the-scenes details of the government’s reticence to privatize. He said institutional investment professionals assured Trudeau and the government — as they had other governments around the world — that the public would come onside with privatization so long as the government put safeguards in place to ensure continuity of operations and rules around rate-setting that would have to be followed.

I told Trudeau all of this. He did a decent impression of listening

source

An additional point they made clear is that institutional investors such as pensions were different from governments in that they would need to be compensated for the risks they were taking. They would also require long-term predictability around factors that influence returns, such as tax and trade policy and regulation.

“I told Trudeau all of this,” said one source. “He did a decent impression of listening.”

Despite the initial reluctance, Ottawa commissioned a study on the privatization of several Canadian airports at the urging of the pension officials. The government retained investment bank Credit Suisse AG to analyze options for Canada’s eight largest airports in Vancouver, Montreal, Toronto, Edmonton, Calgary, Ottawa, Winnipeg and Halifax.

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That report was in government hands by 2017 and, soon after, speculation emerged that Toronto’s Pearson International Airport alone was worth $5 billion. In a separate analysis, the C.D. Howe Institute estimated that Pearson could be worth $6 billion, and that all eight airports could be worth as much as $17 billion.

Institutional investors were lining up to buy and pensions were at the front of the pack.

In a December 2016 interview with BNN television, Ontario Teachers’ CEO Ron Mock said his fund already had stakes in European and Australian airports and that such investments were widely accepted. He thought Canadians would ultimately come around to the idea of pension funds and private equity players investing in domestic airports.

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But soon after, in media interviews, Trudeau threw cold water on the expectation that stakes in the airports would be sold to large Canadian pensions or the infrastructure arm of Brookfield Asset Management Ltd.. The pensions got the message.

“It was quite apparent that they weren’t interested in selling,” said a source who remains active in pension management today.

There was little incentive to do much with the Canada Infrastructure Bank, meanwhile, which has seen a fair amount of turnover since its launch in June 2017. Heavy hitters including initial chair Janice Fukakusa and then her replacement Michael Sabia are gone, as is inaugural CEO Pierre Lavallée, a former senior executive of the Canada Pension Plan Investment Board. CIB’s latest announcement was an agreement to fund small-scale Indigenous developments such as roads, utility connections and water treatment with a $100-million commitment to be matched by First Nations Bank of Canada.

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As of Dec. 31, the CIB had invested $11.6 billion, with some institutional money, including a partnership with Enwave, which is partially owned by the Ontario Teachers’ Pension Plan and another with the Caisse on Montreal’s light-rail Réseau express métropolitain (REM). But more than seven years after the $35 billion pledge, it remains a long way from the scope originally envisioned.

In November 2023, Ontario launched its own infrastructure bank, and the CIB issued a news release pledging to partner with the newly created investment vehicle. Notably, there were no pension funds or institutional investors included in a list of partners in the release.

Jim Leech, who was CEO of the Ontario Teachers’ Pension Plan Board until 2014 and spent more than half a decade as head of the fund’s multi-billion private equity arm, sees the mismatch between what the Trudeau government has said it wants and what Canadian governments are prepared to sell as a big stumbling block to more investment in Canada by Canadian pension funds.

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“They don’t have the political will to cross the Rubicon,” he said. “For some reason or other they think Canadian voters think that airports (and roads and ports) were part of the tablets that came down with Moses that said they have to be owned by the government.”

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Without large-scale investments like those, he said, there’s not much hope of the Canada Infrastructure Bank attracting big pension money.

Pension officials say there was some smoothing out of early concerns that the government would be too hands on, with government agencies choosing the infrastructure bank’s projects. But while that “difficulty” was overcome, project size remains a problem for Canadian pensions.

“There’s not the opportunities because things like toll roads, ports, airports, they’re taken out of the equation … or the rules aren’t reliable, that’s why they’re not investing here,” Leech said. “There aren’t the opportunities that people feel safe and comfortable to make.”

The latter point touches on a deeper problem that he says predates Trudeau’s reign and stretches across levels of government and across the country. Canadian governments, Leech says, have a history of announcing surprising and disruptive changes to policy in a manner that has left a lasting imprint on pension executives who, first and foremost, look for steady and reliable returns to meet obligations to retirees decades in the future.

More than 20 years ago, Leech recalls, the investment team at Teachers’ joined a consortium in the $850-million purchase of TransAlta Corp.’s transmission business, which delivered electricity to a large swath of Albertans. But not long after the deal closed in 2002, the provincial regulator responsible for the power utility determined that the rate-setting mechanism needed to change as a result of the pension’s ownership stake. The revision essentially cut in half returns for the investor group that included SNC-Lavalin International Inc. (now Atkins Réalis) and Australia’s Macquarie Group, Leech recalled.

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“I remember at the time saying, like, ‘Why would I invest in Canada if that’s what you’re going to do?’” he said.

Teachers’ sold the stake.

Just a couple of years after the whipsaw change in Alberta, Ontario’s Liberal government under Dalton McGuinty launched a series of legal actions aimed at rolling back tolls on Highway 407 — an expressway that had been sold via a 99-year lease to a consortium of private investors, including Quebec’s Caisse de dépôt, SNC-Lavalin and Spanish construction company Grupo Ferrovial.

“They intended to change the rules partway through the game,” Leech said, adding that Canada’s reputation as an investment destination has suffered long-lasting damage from the legal challenges — even though they were subsequently dropped in 2006.

“That decision reverberated around the world. I don’t think they understood how that decision was a big black mark on Canada and is still a big black mark on Canada,” Leech said. “That fact that they tried to change the rules post the investment tells other investors around the world not to invest here.”

Though Canada Pension Plan Investment Board bought into the 407 highway when the dust had settled, Leech said it speaks volumes that Canadian pensions are not larger investors here because there are practical reasons for them to want to invest at home. Among them are issues with foreign currencies, whose fluctuations can affect results or require resource-consuming hedging strategies.

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“They start with a bias they’d rather be in Canada than anywhere else, so are the conditions there for the investor? What is our tax policy? What are our trade policies? All of those sorts of things,” he said.

Fixing those conditions is the way to get more investment money to flow, he said.

“It isn’t telling OMERS (or Teachers’ or the Canada Pension Plan Investment Board) to invest a bunch of money in Canada.”

Executives at large Canadian pension funds have said there are myriad reasons they don’t put a lot more money in the home market.

Michel Leduc, senior managing director and global head of public affairs at CPPIB, for example, points out that the CPP Investments’ fund already has a much higher percentage invested in the country — 14 per cent — than Canada’s 2.5 per cent share in global capital markets.

Leduc said broad diversification outside Canada makes sense because CPP beneficiaries are already exposed to “risks” in the country — from trends in everything from mortality and fertility to immigration and the economy.

“The only way to mitigate the concentration risk of these ‘domestic’ factors is through diversification,” he said. “Look at Norway,” he added, noting that Norges Bank Investment Management, which operates the world’s largest sovereign wealth fund, does not invest at all in its home country. As indicated on its website, Norges Bank “holds shares, bonds and real estate all around the world, but invests only abroad so that the Norwegian economy does not overheat.”

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Still, Leduc did not write off further investments in Canada, noting that geopolitical developments over the last five years have made the country a more attractive market on a risk-adjusted basis.

“So, is 14 per cent the right weight? It is well above 2.5 per cent although the right opportunities that fit our scale, horizon, and factors could be interesting,” he said.

Evan Siddall, chief executive of Alberta Investment Management Corp., said AIMCo invests nearly half the assets of client portfolios in Canada. However, with $158 billion in assets under management to invest on behalf of pensions and endowments in the province, AIMCo recently opened offices in Singapore and New York to diversify and boost returns through global investments.

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The success of the Canadian model of pension investing, which has been in place since the 1990s, relies on this, he said, as well as independence from political influence of any kind, “or even the perception of it.” If the federal government truly wants large direct investments to happen, Siddall said steps should be taken to free up large-scale infrastructure assets that are of interest around the world to pensions including AIMCo.

“Our Canadian economic exposure is already high so if the government of Canada wants pension funds to invest in Canada, privatize some of these assets that we might want to invest in from an infrastructure point of view … airports, toll roads, bridges, ports, pipelines,” he said. “These are all the types of things we invest in.”

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His take is more moderate than Leech’s, but both say it’s a question of presenting the right opportunities, rather than forcing investment.

Malcolm Hamilton, a veteran actuary and pension expert, said some of the arguments on both sides of the debate fall flat because employing leverage to compete and invest around the world carries risk.

Still, he said, compelling large pensions to invest in Canada creates its own set of problems.

For starters, the market capitalization of the companies listed on the Toronto Stock Exchange is about $4 trillion. If large pensions were to start buying up stakes, it could give their boards “an undue influence on the governance of Canadian corporations,” Hamilton said.

Moreover, forcing this money to be invested in Canada would expose the investments further to government policy changes, affecting returns.

“If the retirement savings of Canadians are held captive in Canada, why would the government feel constrained in its decisions about corporate tax rates and business regulation?” Hamilton said.

The lack of enthusiasm from pension officials and loss of momentum at the Canada Infrastructure Bank have apparently done little to dim the Liberal government’s fascination with harnessing pension dollars.

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In late 2022, Industry Minister François-Philippe Champagne went public with a plan to convince Canadian pensions to finance the building of dozens of electric battery plants in Canada and lease them back to the automotive industry. It came as a surprise to pension executives.

Around the same time, Freeland shocked the pensions by abruptly ending a popular real-return bond program they relied on to meet inflation protection built into their plans. Higher interest rates made the program more expensive for the federal government but, without it, pension funds are forced to look for similar securities outside Canada — and that introduces new currency risk.

Jo Taylor, the current CEO of the Ontario Teachers’ Pension Plan, said he is disappointed the bond program is gone and continues to speak to government officials about restarting it. He declined to say whether the resurrection of Canadian real returns bonds could be used as a bargaining chip in exchange for more investment in Canada.

“All I can say is that I keep asking to see if it’s an area where they’d like to reopen it as a product,” he said in a March 12 interview. “They have their point of view (but) I’d just love to have the opportunity to do more of it, which is Canadian (dollar) denominated.”

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Hamilton suggested Freeland’s latest efforts to convince the pension giants to put more of their investment dollars in the home market — and the support this has won in pockets of the business community — are signs that there are problems at play in the Canadian economy.

“If the business environment is healthy and the opportunities are compelling, why would we have trouble persuading Canadian pension funds, or foreign pension funds, to invest in Canada?”

If the business environment is healthy and the opportunities are compelling, why would we have trouble persuading Canadian pension funds, or foreign pension funds, to invest in Canada?

Malcolm Hamilton

The added push from dozens of leaders in corporate Canada to get more pension money into the domestic economy — including arguments that such investment could bring down the cost of capital for businesses — have drawn counter-arguments from pension managers, who shot back that the plan could compromise future financial returns for pensioners and jeopardize the investment model that has made Canada’s pension giants the envy of the world. After all, The Economist dubbed Canadian pensions Maple Revolutionaries in 2012 and a report by World Bank staff and pension security firm Common Wealth five years later said the Canadian pension model was a blueprint for any country that wanted to create “world-class” pension organizations.

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“I think it is self-serving when you see who it comes from,” Jeff Wendling, chief executive of the Healthcare of Ontario Pension Plan (HOOPP), said of the letter, noting that the CEOs who signed it are the heads of energy, telecom and grocery chains that would benefit if rules were changed so pensions would invest in them.

“The Canada model is, around the world, it is respected and regarded as one of the best models and it’s very much around independent governance and the clear focus on the beneficiary, the pensioner. And I think it’s dangerous to get in the way of that.”

Wendling said his infrastructure team speaks often with federal and provincial government officials and they remain open to discussions about investment.

“But we need to generate good returns to make sure we can pay those pensions,” he said. “That means we have to have a broader set of investments to look at.”

The Ontario Municipal Employees Retirement System (OMERS) issued a statement on March 7, the day after the open letter was published, that touted the benefits of diversification and spelled out exactly what further investment in Canada would take.

“We remain very interested in finding new and exciting investment opportunities in Canada that meet our required risk and return profile,” OMERS said. “We have communicated to both our provincial and federal governments our willingness to work with them to unlock both an environment, and specific opportunities, that encourage such investments.”

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With an April 16 budget now looming and a federal election due next year, there may soon be answers to questions of how far Ottawa is willing to go to pin down the pensions.

But as Leech notes, so far the government is still offering little of what actually appeals to them as investors.

“Canadian pension plans are some of the most sophisticated investors in the world,” he said. “What they’re going to do is look for the best opportunities and invest in companies; they’re not going to create them.”

• Email: bshecter@postmedia.com

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