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Table of contents

The 2019 Global Investment Conference was held at the Fairmont Empress
Hotel in Victoria, B.C. April 3-5, 2019.
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  • 2019 Global Investment Conference www.investmentreview.com

Shaping the future — the path forward for pensions

by Yaelle Gang

Pension plans have found themselves in the late stages of the economic cycle, but no one knows when the cycle will turn. There has also been geopolitical uncertainty. It is hard to prepare for the future, as there’s a risk in starting to play defence too early, but there’s also a risk in waiting too long. Plans have also found themselves in a persistently low interest rate environment. Many investors are looking outside of Canadian borders across asset classes to find returns. This comes with various risks and considerations. At the Global Investment Conference in April 2019, expert speakers shared their insights and approaches on topics including incorporating environmental, social and governance factors and how to best capture growth in emerging markets. The conference was jam-packed with important information for Canadian pension plan sponsors to consider incorporating into their decision-making.

by Yaelle Gang

Pension plans have found themselves in the late stages of the economic cycle, but no one knows when the cycle will turn. There has also been geopolitical uncertainty. It is hard to prepare for the future, as there’s a risk in starting to play

defence too early, but there’s also a risk in waiting too long. Plans have also found themselves in a persistently low interest rate environment. Many investors are looking outside of Canadian borders across asset classes to find returns. This comes with various risks and considerations. At the Global Investment Conference in April 2019,

expert speakers shared their insights and approaches on topics including incorporating environmental, social and governance factors and how to best capture growth in emerging markets. The conference was jam-packed with important information for Canadian pension plan sponsors to consider incorporating into their decision-making.

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  • 2019 Global Investment Conference www.investmentreview.com

Keynote speaker

Ambassador Bruce Heyman,

Former United States
Ambassador to Canada

Is USMCA dead in the water?

What's next for the trade agreement between Canada, Mexico and the United States?

While Canada and the U.S. used to be best friends, that friendship is now on rocky ground, said Bruce Heyman, former U.S. ambassador to Canada who served under former president Barack Obama.

“When I left, I felt our relationship was in good hands, and you can imagine how jarring it has been for me over these last two years to see headlines in the world where it says ‘Canada U.S. Trade war,’” he noted.

The North American Free Trade Agreement has been politically toxic in the U.S., he said. “NAFTA actually is the reason for a large part of why [Donald Trump] got elected,” Heyman said, noting that in the Midwest during the early days of NAFTA, many jobs were lost because a number of factories moved away to Mexico to reduce labour costs. And although job loss today is largely due to automation, many people assume it’s due to NAFTA.

Conversations about updating NAFTA began before Trump’s inauguration and timing was important to consider, he said. “If you’re a trade representative, you know that a trade deal is the toughest vote in Congress. It’s the hardest thing. Maybe next to a health care bill.”

However, the deal wasn’t finalized during the optimal time around mid-terms and now that it’s finalized, it’s up to the Democratic-run Congress to pass. Yet Nancy Pelosi, speaker of the House of Representatives, has made it clear that the deal will not pass unless certain changes are made, Heyman added.

“This deal as it’s currently written will not pass. It’s dead on arrival,” Heyman said.

There’s a provision in NAFTA that the president can withdraw from the current NAFTA with six months’ notice, said Heyman. And he thinks Trump may do this. “It will not surprise me if you hear that the president has made the notification six months in advance of the withdrawal from NAFTA.”

Yet, it’s unclear whether he has the authority to actually withdraw, Heyman noted. “And that will be a fight between Congress and the President.”

While this is all unfolding, what’s clear is there are storm clouds ahead, he said. “There’s a lot of distraction going on politically on both sides of the border right now but very soon people are going to start saying, ‘Wow, this is actually not going to pass.”

Even if the deal does get fixed up, no one will want to vote on it in 2020 so there will be a short window to pass it potentially in fall of 2019, he added.

While Canada and the U.S. used to be best friends, that friendship is now on rocky ground, said Bruce Heyman, former U.S. ambassador to Canada who served under former president Barack Obama.

“When I left, I felt our relationship was in good hands, and you can imagine how jarring it has been for me over these last two years to see headlines in the world where it says ‘Canada U.S. Trade war,’” he noted.

The North American Free Trade Agreement has been politically toxic in the U.S., he said. “NAFTA actually is the reason for a large part of why [Donald Trump] got elected,” Heyman said, noting that in the Midwest during the early days of NAFTA, many jobs were lost because a number of factories moved away to Mexico to reduce labour costs. And although job loss today is largely due to automation, many people assume it’s due

to NAFTA.

Conversations about updating NAFTA began before Trump’s inauguration and timing was important to consider, he said. “If you’re a trade representative, you know that a trade deal is the toughest vote in Congress. It’s the hardest thing. Maybe next to a health care bill.”

However, the deal wasn’t finalized during the optimal time around mid-terms and now that it’s finalized, it’s up to the Democratic-run Congress to pass. Yet Nancy Pelosi, speaker of the House of Representatives, has made it clear that the deal will not pass unless certain changes are made, Heyman added.

“This deal as it’s currently written will not pass. It’s dead on arrival,” Heyman said.

There’s a provision in NAFTA that the president can withdraw from the current

NAFTA with six months’ notice, said Heyman. And he thinks Trump may do this. “It will not surprise me if you hear that the president has made the notification six months in advance of the withdrawal from NAFTA.”

Yet, it’s unclear whether he has the authority to actually withdraw, Heyman noted. “And that will be a fight between Congress and the President.”

While this is all unfolding, what’s clear is there are storm clouds ahead, he said. “There’s a lot of distraction going on politically on both sides of the border right now but very soon people are going to start saying, ‘Wow, this is actually not going to pass.”

Even if the deal does get fixed up, no one will want to vote on it in 2020 so there will be a short window to pass it potentially in fall of 2019, he added.

*Note: After Heyman presented at the conference, the U.S. and Canada reached a deal to lift the U.S. steel and aluminum tariffs, the Mexican government passed a labour reform bill and both Canada and Mexico have made moves toward ratifying the new trade deal.
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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Ashish Tiwari,

executive vice-president

PIMCO

Positioning your portfolio for an uncertain
business cycle turn

It’s late in the business cycle. While no one knows exactly when the cycle will turn, investors face key asset allocation and policy decisions, said Ashish Tiwari, executive vice-president at PIMCO’s Newport Beach Office.

Asset owners face key risks at each stage of the cycle, he said. For example, before the cycle turns there’s a risk of de-risking too early, in the downturn, there is liquidity and loss risk, and then in the recovery stage, there is the risk of missing opportunities.

The questions for plans to ask at this time are whether they are overexposed to equity risk and what it means for the overall loss a portfolio may be subjected to. If a plan is comfortable with its level of equity exposure, it can take a defensive posture, he said, noting historical evidence shows that small caps tend to underperform large caps in a recession.

Investors can also consider equity replacement strategies, including equity long-short strategies or taking equity risk higher up in the capital structure through private credit or alternative credit sectors, he noted.

The second risk in a portfolio is liquidity, Tiwari said, noting there will be unanticipated cash flow needs, including a pickup in the pace of capital calls from existing private market commitments.

Investors can address this risk by becoming more capital efficient and combining existing liquid exposures to free up capital. Another way to address plan‑level liquidity needs is improving diversification. Instead of having only fixed income as the sole diversifier, plans can look to add strategies, such as alternative risk premia, trend following and global macro, which have the potential to deliver a low to negative correlation to equities. “The idea is [to] diversify your diversifiers.”

The third risk, according to Tiwari, is timing risk, as the cost of being too early can be substantial. “If you got out of the equity markets one year before the eventual peak, in 2008 you would have missed out on 18 per cent returns.”

As timing is difficult, investors can put steps in place so they have the ability to act quickly after a large correction in the market, he noted. “One of the things we’re seeing some leading investors around the world embrace is this whole idea of contingent capital investing, which is [when] you pre-commit, or you earmark, some capital to invest in risk assets conditional on a large market event. And the definition of what that market event is, and how much markets have to correct by, that is something that you, as an asset owner, control.”

It’s late in the business cycle. While no one knows exactly when the cycle will turn, investors face key asset allocation and policy decisions, said Ashish Tiwari, executive vice-president at PIMCO’s Newport Beach Office.

Asset owners face key risks at each stage of the cycle, he said. For example, before the cycle turns there’s a risk of de-risking too early, in the downturn, there is liquidity and loss risk, and then in the recovery stage, there is the risk of missing opportunities.

The questions for plans to ask at this time are whether they are overexposed to equity risk and what it means for the overall loss a portfolio may be subjected to. If a plan is comfortable with its level of equity exposure, it can take a defensive posture, he said, noting historical evidence shows that small caps tend to underperform large caps in a recession.

Investors can also consider equity replacement strategies, including equity long-short strategies or taking equity risk higher up in the capital structure through private credit or alternative credit sectors, he noted.

The second risk in a portfolio is liquidity, Tiwari said, noting there will be unanticipated cash flow needs, including a pickup in the pace of capital calls from existing private market commitments.

Investors can address this risk by becoming more capital efficient and combining existing liquid exposures to free up capital. Another way to address plan‑level liquidity needs is improving diversification. Instead of having only fixed income as the sole diversifier, plans can look to add strategies, such as alternative risk premia, trend following and global macro, which have the potential to deliver a low to negative correlation to equities. “The idea is [to]

diversify your diversifiers.”

The third risk, according to Tiwari, is timing risk, as the cost of being too early can be substantial. “If you got out of the equity markets one year before the eventual peak, in 2008 you would have missed out on 18 per cent returns.”

As timing is difficult, investors can put steps in place so they have the ability to act quickly after a large correction in the market, he noted. “One of the things we’re seeing some leading investors around the world embrace is this whole idea of contingent capital investing, which is [when] you pre-commit, or you earmark, some capital to invest in risk assets conditional on a large market event. And the definition of what that market event is, and how much markets have to correct by, that is something that you, as an asset owner, control.”

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  • 2019 Global Investment Conference www.investmentreview.com

Michelle Dunstan,

portfolio manager and senior research analyst

AllianceBernstein

Contrarian ESG investing

While environmental, social and governance investing means different things to different investors, many investors are flocking to the same opportunities and should consider taking a contrarian approach instead, said Michelle Dunstan, portfolio manager and senior research analyst at AllianceBernstein.

Most global sustainable funds are focused on the same set of companies and they display similar characteristics, Dunstan said. They are more likely to invest in AAA-rated companies and are overweight in developed markets and underweight in emerging markets. As well, when it comes to sector, these funds are overweight in health care, consumer and technology, but underweight in energy and mining, she added.

“The other thing we found is because these funds are so focused on the same set of unambiguously good companies, they tend to be priced at a premium,” she said.

There are challenges when looking at ESG-evaluated companies using rating scores, she said. Dunstan highlights one example that mixes different factors into a single score. As well, in the example, the ratings are backward-looking, only updated once a year and mostly are reflective of the averages every five years, she said. Rating agencies also focus on what’s disclosed. “That biases this in the favour of large companies and developed market companies that can actually deal with this.”

There are two gaps to finding good ESG companies that investors can take advantage of, Dunstan said. The first is finding unrecognized improvers, which are companies that strive to do better, but because the ratings are very mechanical and backward-looking, they’re not yet being recognized as having a good ESG score.

The second is finding neglected enablers, she said, noting that investors crowd into the same set of companies. Rather than just looking at industry champions, they can look further down the pipeline to benefit from the trends, for example, companies that produce technology or materials that go into the consensus champions.

“ESG is hard,” Dunstan said. “It’s time-consuming, and while rating agencies are improving and getting better at what they’re doing, they are still not caught up with the realities of how companies operate. So by taking a contrarian approach, we cannot only make the world a better place, but potentially provide better investment outcomes for our clients.”

While environmental, social and governance investing means different things to different investors, many investors are flocking to the same opportunities and should consider taking a contrarian approach instead, said Michelle Dunstan, portfolio manager and senior research analyst at AllianceBernstein.

Most global sustainable funds are focused on the same set of companies and they display similar characteristics, Dunstan said. They are more likely to invest in AAA-rated companies and are overweight in developed markets and underweight in emerging markets. As well, when it comes to sector, these funds are overweight in health care, consumer and technology, but underweight in energy and mining, she added.

“The other thing we found is because these funds are so focused on the same

set of unambiguously good companies, they tend to be priced at a premium,” she said.

There are challenges when looking at ESG-evaluated companies using rating scores, she said. Dunstan highlights one example that mixes different factors into a single score. As well, in the example, the ratings are backward-looking, only updated once a year and mostly are reflective of the averages every five years, she said. Rating agencies also focus on what’s disclosed. “That biases this in the favour of large companies and developed market companies that can actually deal with this.”

There are two gaps to finding good ESG companies that investors can take advantage of, Dunstan said. The first is finding unrecognized improvers, which are companies that strive to do better, but because the ratings are very mechanical and backward-looking,

they’re not yet being recognized as having a good ESG score.

The second is finding neglected enablers, she said, noting that investors crowd into the same set of companies. Rather than just looking at industry champions, they can look further down the pipeline to benefit from the trends, for example, companies that produce technology or materials that go into the consensus champions.

“ESG is hard,” Dunstan said. “It’s time-consuming, and while rating agencies are improving and getting better at what they’re doing, they are still not caught up with the realities of how companies operate. So by taking a contrarian approach, we cannot only make the world a better place, but potentially provide better investment outcomes for our clients.”

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Mary-Therese Barton,

head of emerging market debt

Pictet Asset Management

Incorporating ESG analysis in emerging market debt

Overcoming rating score shortfalls to find ESG winners

While integrating environmental, social and governance factors has occurred throughout many asset classes, it’s still lagging in the fixed income space, said Mary-Therese Barton, head of emerging market debt at Pictet Asset Management.

While ESG in the fixed income space lags behind and is concentrated in the corporate space, there has been progress in the sovereign space over 2018, she noted, and this is expected to continue. For example, JP Morgan launched a suite of ESG global fixed income indexes, the first set of funds launched against the indexes and the UN set up its inaugural sovereign working group, bringing the largest emerging market sovereign bond managers together to think about the rules of engagement.

Incorporating governance factors in the emerging market sovereign space has always been the practice, Barton said. “If you’re looking at credit-worthiness of the country its ability to pay, its willingness to pay of course, you’re looking at governance.” However, incorporating environmental and social factors has made managers more skeptical, she noted.

Incorporating ESG in an emerging market portfolio can take the approach of screening and excluding countries with ESG scores below a certain level or including some impact investing like green bonds or development bank bonds, she said.

And this can have benefits. For example, 2018 was a volatile year for emerging markets, but the lowest ESG-rated countries performed the worst over this period. “It’s an argument that an ESG-rated emerging hard currency debt index strategy would probably be more defensive in terms of volatility.”

This comes with a yield concession, yet Barton highlighted that over the long term, it still proves rewarding. “We do believe over the longer term improving ESG factors will have a positive influence on the trajectory of a country’s asset prices. Similarly, deteriorating ESG factors will have a negative influence on a country’s asset price performance.”

When looking at ESG, it’s important to drill down and determine what’s driving the ESG scores, she said, and they are finding most managers are looking to create their own ESG scores, as there can be problems taking a one-size-fits-all approach to emerging market sovereigns.

Managers can also engage with emerging market sovereigns. This can be done by collaborating as an industry, engaging with the country’s treasury department, sending questionnaires, writing open letters, talking to policymakers, striking partnerships with local charities to improve sovereign analysis and learning more about issues to bring to policymakers, she said.

“We do think this is a very exciting area for emerging market debt and we have to be at the forefront of it.”

While integrating environmental, social and governance factors has occurred throughout many asset classes, it’s still lagging in the fixed income space, said Mary-Therese Barton, head of emerging market debt at Pictet Asset Management.

While ESG in the fixed income space lags behind and is concentrated in the corporate space, there has been progress in the sovereign space over 2018, she noted, and this is expected to continue. For example, JP Morgan launched a suite of ESG global fixed income indexes, the first set of funds launched against the indexes and the UN set up its inaugural sovereign working group, bringing the largest emerging market sovereign bond managers together to think about the rules of engagement.

Incorporating governance factors in the emerging market sovereign space has always been the practice, Barton said. “If you’re looking at credit-worthiness of the country its ability to

pay, its willingness to pay of course, you’re looking at governance.” However, incorporating environmental and social factors has made managers more skeptical, she noted.

Incorporating ESG in an emerging market portfolio can take the approach of screening and excluding countries with ESG scores below a certain level or including some impact investing like green bonds or development bank bonds, she said.

And this can have benefits. For example, 2018 was a volatile year for emerging markets, but the lowest ESG-rated countries performed the worst over this period. “It’s an argument that an ESG-rated emerging hard currency debt index strategy would probably be more defensive in terms of volatility.”

This comes with a yield concession, yet Barton highlighted that over the long term, it still proves rewarding. “We do believe over the longer term improving ESG factors will have a positive influence

on the trajectory of a country’s asset prices. Similarly, deteriorating ESG factors will have a negative influence on a country’s asset price performance.”

When looking at ESG, it’s important to drill down and determine what’s driving the ESG scores, she said, and they are finding most managers are looking to create their own ESG scores, as there can be problems taking a one-size-fits-all approach to emerging market sovereigns.

Managers can also engage with emerging market sovereigns. This can be done by collaborating as an industry, engaging with the country’s treasury department, sending questionnaires, writing open letters, talking to policymakers, striking partnerships with local charities to improve sovereign analysis and learning more about issues to bring to policymakers, she said.

“We do think this is a very exciting area for emerging market debt and we have to be at the forefront of it.”

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Brian Singer,

head of allocation strategies team
and portfolio manager

William Blair

Riding this wave

The monetary easing since the financial crisis has caused significant risks, but there are also opportunities which investors can take advantage of, said Brian Singer, head of the dynamic allocation strategies team and portfolio manager at William Blair.

During the last four decades, there have been four “waves” of monetary policy easing, all of which ended with a reckoning where equity markets significantly dropped. “And now we are in the fourth wave,” said Singer. “This wave, however, is the largest, the longest and the broadest monetary easing in the history of human civilization.”

Singer added that in periods of monetary easing, there are high risky asset returns because central banks are manipulating interest rates and, thus, manipulating asset prices.

When central banks are easing monetary policy, it also dampens volatility and markets become more factor-oriented. “What happens when the central bank the 800-pound gorilla in the room starts controlling asset prices? It becomes difficult for fundamental value to exert its gravitational pull on price. It is overwhelmed by the 800-pound gorilla and [when] fundamental value and fundamental analysis become less effective, what do investors do? They navigate to something that will work, and typically what they navigate to is data mining and quantitative approaches to identifying factors,” noted Singer. In this type of environment, this navigation becomes self-reinforcing.

“The last 10 years have been a phenomenal headwind for fundamental investors,” he added, noting the headwind can become a tailwind as central banks begin to pull away from monetary easing and prices begin reverting to fundamental values.

In past instances of monetary easing, a bubble would build and then a reckoning would occur, said Singer, noting that this time the bubble may involve investors thinking illiquid assets are a free lunch.

“It’s no free lunch,” he highlighted, noting investors are giving up the opportunity to take advantage of investment opportunities that arise while their capital is locked up.

The Volcker Rule will make things worse because investment banks won’t step in to provide liquidity, Singer said. However, this can create some significant opportunities that are exacerbated from a lack of liquidity. “Maintaining dry powder in your portfolio [is] a relatively cautious stance to step in and take advantage of those significant moves that don’t last long.”

The monetary easing since the financial crisis has caused significant risks, but there are also opportunities which investors can take advantage of, said Brian Singer, head of the dynamic allocation strategies team and portfolio manager at William Blair.

During the last four decades, there have been four “waves” of monetary policy easing, all of which ended with a reckoning where equity markets significantly dropped. “And now we are in the fourth wave,” said Singer. “This wave, however, is the largest, the longest and the broadest monetary easing in the history of human civilization.”

Singer added that in periods of monetary easing, there are high risky asset returns because central banks are manipulating interest rates and, thus, manipulating asset prices.

When central banks are easing monetary policy, it also dampens

volatility and markets become more factor-oriented. “What happens when the central bank the 800-pound gorilla in the room starts controlling asset prices? It becomes difficult for fundamental value to exert its gravitational pull on price. It is overwhelmed by the 800-pound gorilla and [when] fundamental value and fundamental analysis become less effective, what do investors do? They navigate to something that will work, and typically what they navigate to is data mining and quantitative approaches to identifying factors,” noted Singer. In this type of environment, this navigation becomes self-reinforcing.

“The last 10 years have been a phenomenal headwind for fundamental investors,” he added, noting the headwind can become a tailwind as central banks begin to pull away from monetary easing and prices begin

reverting to fundamental values.

In past instances of monetary easing, a bubble would build and then a reckoning would occur, said Singer, noting that this time the bubble may involve investors thinking illiquid assets are a free lunch.

“It’s no free lunch,” he highlighted, noting investors are giving up the opportunity to take advantage of investment opportunities that arise while their capital is locked up.

The Volcker Rule will make things worse because investment banks won’t step in to provide liquidity, Singer said. However, this can create some significant opportunities that are exacerbated from a lack of liquidity. “Maintaining dry powder in your portfolio [is] a relatively cautious stance to step in and take advantage of those significant moves that don’t last long.”

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Terry Moore,

portfolio specialist, global fixed income

T. Rowe Price

Going global in fixed income

Time to move away from a Canadian home bias

Many Canadian plans have foreign equity, but there’s still a lack of diversification when it comes to fixed income and investors may be missing out, said Terry Moore, portfolio specialist for global fixed income at T. Rowe Price.

In 2019, T. Rowe Price commissioned a survey of Canadian defined benefit plans via TC Media and the Canadian Institutional Investment Network, which found that plans had, on average, 30 per cent Canadian fixed income compared to only four per cent foreign fixed income.

While North America is in the late stages of the economic cycle, around the world there are other countries that are at different stages of the credit cycle and may present interesting opportunities, Moore said.

“One thing that people will say sometimes when I’m out there is, ‘Well, I don’t want to invest in foreign fixed income. Germany only yields zero. Why would I invest in a Japanese bond that yields negative 10 basis points or something like that? It makes no sense,’” Moore said. “But the reality is once you hedge it back to Canadian dollars, a lot of these countries can actually start to look quite attractive.”

Many global bonds also have high returns without increasing volatility, Moore highlighted. For example, emerging market corporate bonds have similar volatility to Canadian aggregate bonds but higher yield.

There are also growing opportunities in the European high-yield market, Moore said, noting that before the financial crisis a lot of companies would go to large European and Japanese banks to get their funding for their businesses. However, after the financial crisis, these banks pulled back. “But the credit markets were open for companies to come and buyers like ourselves were interested in buying these bonds.”

European high yield can also be a good diversifier for Canadian bonds, Moore said. “U.S. high yield has about 20 per cent in energy and metals and mining, so obviously very correlated to national industries, whereas European high yield only has about eight per cent, so offers some interesting diversification.”

Emerging markets offer opportunities as well, he noted. “Some people might say, ‘EM sounds so risky. I don’t want to go investing in it because what about the Venezuelas out there? What about the Argentinas?’ The good news is that those make up a small portion of the overall EM index.” And, as an active investor, you don’t need to invest where you don’t want to, he added.

He also highlighted that these assets have generated solid returns in the past. For example, looking back to 1993, the cumulative emerging market equity return since 1993 is 265 per cent, whereas the cumulative emerging bond return was 710 per cent, he noted.

Many Canadian plans have foreign equity, but there’s still a lack of diversification when it comes to fixed income and investors may be missing out, said Terry Moore, portfolio specialist for global fixed income at T. Rowe Price.

In 2019, T. Rowe Price commissioned a survey of Canadian defined benefit plans via TC Media and the Canadian Institutional Investment Network, which found that plans had, on average, 30 per cent Canadian fixed income compared to only four per cent foreign fixed income.

While North America is in the late stages of the economic cycle, around the world there are other countries that are at different stages of the credit cycle and may present interesting opportunities, Moore said.

“One thing that people will say sometimes when I’m out there is, ‘Well, I don’t want to invest in foreign fixed income. Germany only yields zero. Why would I invest in a Japanese bond that

yields negative 10 basis points or something like that? It makes no sense,’” Moore said. “But the reality is once you hedge it back to Canadian dollars, a lot of these countries can actually start to look quite attractive.”

Many global bonds also have high returns without increasing volatility, Moore highlighted. For example, emerging market corporate bonds have similar volatility to Canadian aggregate bonds but higher yield.

There are also growing opportunities in the European high-yield market, Moore said, noting that before the financial crisis a lot of companies would go to large European and Japanese banks to get their funding for their businesses. However, after the financial crisis, these banks pulled back. “But the credit markets were open for companies to come and buyers like ourselves were interested in buying these bonds.”

European high yield can also be a good diversifier for Canadian bonds,

Moore said. “U.S. high yield has about 20 per cent in energy and metals and mining, so obviously very correlated to national industries, whereas European high yield only has about eight per cent, so offers some interesting diversification.”

Emerging markets offer opportunities as well, he noted. “Some people might say, ‘EM sounds so risky. I don’t want to go investing in it because what about the Venezuelas out there? What about the Argentinas?’ The good news is that those make up a small portion of the overall EM index.” And, as an active investor, you don’t need to invest where you don’t want to, he added.

He also highlighted that these assets have generated solid returns in the past. For example, looking back to 1993, the cumulative emerging market equity return since 1993 is 265 per cent, whereas the cumulative emerging bond return was 710 per cent, he noted.

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Chris Goolgasian,

portfolio manager and
director of climate research

Wellington Asset Management

Using spacial finance to integrate
capital markets and climate change

When it comes to climate change, many investors think it’s too far away to matter, but that isn’t the case and investors must do more to better integrate climate change into their decisions, said Chris Goolgasian, portfolio manager and director of climate research at Wellington Management.

Wellington has partnered with Woods Hole Research Center to develop a spacial finance tool. “You take a map and you put climate variables on top of the map and then you put capital market variables on top of that and you have this great 3D visual that’s very powerful and very different from how investors are used to looking at spreadsheets and earnings estimates, etc.,” Goolgasian said.

An example of applying spacial finance is to produce a heat map showing areas of the United States that are expected to have 60 or more days of extreme heat per year. Using spacial finance, investors can look at different investments in the context of this extreme heat. For example, they can compare two municipal bonds. “They have equivalent credit ratings, equivalent yield, equivalent maturity but not equivalent climate projections,” he said. “The one in Arizona is in the 70th percentile of projected future heat and the one in Massachusetts is just in the 10th. We would say these bonds may be mispriced.”

Goolgasian also highlighted how climate change is becoming a material risk to companies. “This is getting real. I think climate change previously was thought of as very abstract, too far away. You now have companies starting to think about it and report on it and actually think about customer impacts and revenue impacts.”

Investors can start to focus on location, Goolgasian said. “Within location, start to think about fixed versus portable assets. All things being equal, fixed assets are going to be more at risk if they’re in the wrong location.” Examples of applying this can include picking airlines over airports, cruise ships over theme parks or agricultural equipment over agriculture.

Investors can also create investment strategies around climate using defensive strategies that avoid certain areas, offensive strategies that try to capture the transition to a world with climate change and engagement.

Goolgasian encouraged investors to consider changing compensation for their managers to a longer-term time horizon that is more consistent with climate change and to start meetings with their managers by asking how they are addressing climate change within their portfolios or companies.

When it comes to climate change, many investors think it’s too far away to matter, but that isn’t the case and investors must do more to better integrate climate change into their decisions, said Chris Goolgasian, portfolio manager and director of climate research at Wellington Management.

Wellington has partnered with Woods Hole Research Center to develop a spacial finance tool. “You take a map and you put climate variables on top of the map and then you put capital market variables on top of that and you have this great 3D visual that’s very powerful and very different from how investors are used to looking at spreadsheets and earnings estimates, etc.,” Goolgasian said.

An example of applying spacial finance is to produce a heat map showing areas of the United States that are expected to have 60 or more days of extreme heat per year. Using spacial

finance, investors can look at different investments in the context of this extreme heat. For example, they can compare two municipal bonds. “They have equivalent credit ratings, equivalent yield, equivalent maturity but not equivalent climate projections,” he said. “The one in Arizona is in the 70th percentile of projected future heat and the one in Massachusetts is just in the 10th. We would say these bonds may be mispriced.”

Goolgasian also highlighted how climate change is becoming a material risk to companies. “This is getting real. I think climate change previously was thought of as very abstract, too far away. You now have companies starting to think about it and report on it and actually think about customer impacts and revenue impacts.”

Investors can start to focus on location, Goolgasian said. “Within

location, start to think about fixed versus portable assets. All things being equal, fixed assets are going to be more at risk if they’re in the wrong location.” Examples of applying this can include picking airlines over airports, cruise ships over theme parks or agricultural equipment over agriculture.

Investors can also create investment strategies around climate using defensive strategies that avoid certain areas, offensive strategies that try to capture the transition to a world with climate change and engagement.

Goolgasian encouraged investors to consider changing compensation for their managers to a longer-term time horizon that is more consistent with climate change and to start meetings with their managers by asking how they are addressing climate change within their portfolios or companies.

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  • 2019 Global Investment Conference www.investmentreview.com

Andrew Howard,

head of sustainability research

Schroders

Measuring a company’s societal
and environmental impact

Companies are already being affected by social and environmental change and it’s important to find a way to analyze this in economic terms, said Andrew Howard, head of sustainability research at Schroders.

Companies operate within societies and are influenced by changes in societies, he explained. “Those companies that are able to adapt are doing relatively better. Those companies that aren’t able to adapt and change are falling further behind,” he said.

Equity markets have done a relatively poor job of distinguishing between long-term winners and losers as they become more short-term focused, Howard said. But, investors’ ability to analyze this is getting better with increased data availability. “There’s an opportunity for us to fill that gap in a way that simply wasn’t possible historically.”

In the past, companies were able to operate relatively unhindered by intervention from the public sector, yet this is starting to change. “We’re already beginning to see over the last five or 10 years companies facing costs for activities that historically simply didn’t have a price on them.”

This leaves investors with the challenge of quantifying this at an asset class, company or sector level in a way that is robust, data-driven and objective, Howard said, noting that off-the-shelf analysis through environmental, social and governance scores isn’t sufficient.

Rather, this can be done by mapping externalities that impact companies and trying to translate those externalities into dollar terms, he said. This can be done via three approaches: First, taking a top-down view of the global costs and trying to attribute those to individual companies. Second, looking at the volume of activity from a company and translating that into the economic impact. And third, looking at this geographically, like comparing country to country.

And companies are already being asked to contribute more to those costs, in some cases through a bill, but in other cases by having their activities curtailed, he said.

“It’s about trying to get a forward measure of risk not something you’re going to capture by looking at historical volatilities or information ratios or what-not, but [by] trying to understand structurally there are shifts that are unfolding in the world. How do we prepare for those shifts today by bringing a more objective, rigorous way of thinking about which companies or which sectors are more or less exposed?”

Companies are already being affected by social and environmental change and it’s important to find a way to analyze this in economic terms, said Andrew Howard, head of sustainability research at Schroders.

Companies operate within societies and are influenced by changes in societies, he explained. “Those companies that are able to adapt are doing relatively better. Those companies that aren’t able to adapt and change are falling further behind,” he said.

Equity markets have done a relatively poor job of distinguishing between long-term winners and losers as they become more short-term focused, Howard said. But, investors’ ability to analyze this is getting better with increased data availability. “There’s an opportunity for us to fill that gap in a way that simply wasn’t possible historically.”

In the past, companies were able to operate relatively unhindered by intervention from the public sector, yet this is starting to change. “We’re already beginning to see over the last five or 10 years companies facing costs for activities that historically simply didn’t have a price on them.”

This leaves investors with the challenge of quantifying this at an asset class, company or sector level in a way that is robust, data-driven and objective, Howard said, noting that off-the-shelf analysis through environmental, social and governance scores isn’t sufficient.

Rather, this can be done by mapping externalities that impact companies and trying to translate those externalities into dollar terms, he said. This can be done via three approaches: First, taking a top-down view of the global costs and trying to attribute those to individual companies.

Second, looking at the volume of activity from a company and translating that into the economic impact. And third, looking at this geographically, like comparing country to country.

And companies are already being asked to contribute more to those costs, in some cases through a bill, but in other cases by having their activities curtailed, he said.

“It’s about trying to get a forward measure of risk not something you’re going to capture by looking at historical volatilities or information ratios or what-not, but [by] trying to understand structurally there are shifts that are unfolding in the world. How do we prepare for those shifts today by bringing a more objective, rigorous way of thinking about which companies or which sectors are more or less exposed?”

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Alex Veroude,

chief investment officer (North America)

Insight Investment (part of BNY Mellon)

Using secured finance for a smoother
path to your investment destination

As people retire, it becomes important to take away unnecessary risk so their pension is available when they need it, which is why pension plans may want to consider a dynamic fixed-income approach, said Alex Veroude, chief investment officer (North America) at Insight Investment, which is a part of BNY Mellon.

“As you go through that decumulation phase, your tolerance for risk reduces almost down to zero,” Veroude said. “But the problem, of course, is [that] if you take all of your risk out of your portfolio, you also take out all of the return.”

Over the last few decades, noted Veroude, pension plans have shifted their focus from equities to fixed income, and now their approach to fixed income is also changing. “Those fixed income portfolios are no longer your traditional portfolios. In fact, they’ve completely ditched benchmarks; they are all about their own dynamics, what cash flows do we need to generate? And will my manager be able to generate them?”

There are three broad fixed-income approaches plans can take: a conservative low-yielding approach focused on treasuries, an enhanced approach with corporate bonds, and a dynamic approach that blends treasuries, corporate bonds and secured finance, which may offer the best combination of high yield and low risk, he said. These dynamic portfolios are what insurance companies use to deliver annuity payments.

Secured finance basically means asset-backed and asset-based investments secured against collateral, Veroude said. They may include private debt investments as well as bonds, but are still fixed income, as they have fixed maturity date and income stream.

Within a secured finance portfolio, there are three types of collateral: commercial real estate or infrastructure, residential and consumer, and secured corporates, Veroude added, noting that most fixed-income investors are heavily exposed to corporate credit risk and underweight consumer credit risk, but he predicts a balance of power shift more toward the consumer.

Veroude said that secured finance as an asset class allows the potential for more yield without increasing the credit risk. As Canadian pension plans are largely well funded, using this approach may allow them to take the easier road down during the decumulation phase, noting it surprises him when well-funded plans keep high allocations to equities. “Once you’ve done the hard work, take the glide path down,” he said. “What staggers me is that [a number of Canadian plans] tend to want to take the mogul run down. It’s kind of like why would you do that? You might break a leg.”

As people retire, it becomes important to take away unnecessary risk so their pension is available when they need it, which is why pension plans may want to consider a dynamic fixed-income approach, said Alex Veroude, chief investment officer (North America) at Insight Investment, which is a part of BNY Mellon.

“As you go through that decumulation phase, your tolerance for risk reduces almost down to zero,” Veroude said. “But the problem, of course, is [that] if you take all of your risk out of your portfolio, you also take out all of the return.”

Over the last few decades, noted Veroude, pension plans have shifted their focus from equities to fixed income, and now their approach to fixed income is also changing. “Those fixed income portfolios are no longer your traditional portfolios. In fact, they’ve completely ditched benchmarks; they are all about their own dynamics, what cash flows do

we need to generate? And will my manager be able to generate them?”

There are three broad fixed-income approaches plans can take: a conservative low-yielding approach focused on treasuries, an enhanced approach with corporate bonds, and a dynamic approach that blends treasuries, corporate bonds and secured finance, which may offer the best combination of high yield and low risk, he said. These dynamic portfolios are what insurance companies use to deliver annuity payments.

Secured finance basically means asset-backed and asset-based investments secured against collateral, Veroude said. They may include private debt investments as well as bonds, but are still fixed income, as they have fixed maturity date and income stream.

Within a secured finance portfolio, there are three types of collateral: commercial real estate or infrastructure, residential and consumer, and secured

corporates, Veroude added, noting that most fixed-income investors are heavily exposed to corporate credit risk and underweight consumer credit risk, but he predicts a balance of power shift more toward the consumer.

Veroude said that secured finance as an asset class allows the potential for more yield without increasing the credit risk. As Canadian pension plans are largely well funded, using this approach may allow them to take the easier road down during the decumulation phase, noting it surprises him when well-funded plans keep high allocations to equities. “Once you’ve done the hard work, take the glide path down,” he said. “What staggers me is that [a number of Canadian plans] tend to want to take the mogul run down. It’s kind of like why would you do that? You might break a leg.”

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  • 2019 Global Investment Conference www.investmentreview.com

Mikhail Simutin,

associate professor of finance
and associate director of research

International Centre for
Pension Management at the
Rotman School of Management

Accessing emerging economies via developed markets

In a world where opportunities in emerging markets are limited, pension plans can look to access underlying emerging economies rather than the publicly traded markets themselves, said Mikhail Simutin, associate professor of finance at the Rotman School of Management and associate director of research at the International Centre for Pension Management.

Emerging markets hold promise for diversifying portfolios and improving risk-return trade-off, but those opportunities have been diminishing and those correlations with developed markets have been trending up, Simutin said.

There’s also a lack of depth in emerging markets, Simutin said, listing Morocco as an example: “It has about 83 publicly listed firms on the stock exchange so if you’re trying to diversify into Morocco, an emerging market, this is a very narrow window through which to access the economy. It’s going to be like an elephant drinking from a cup if you’re trying to access these low-depth markets.”

There are also weak shareholder rights and political instability in many developing countries, Simutin said. And, when markets go south, emerging market publicly traded stocks typically fall much more than stocks in developed markets, he added.

“These are some of the challenges that you have to keep at the back of your mind as you’re thinking about trying to exploit these diversification opportunities in emerging markets,” he said.

Yet, there is another way for plans to diversify into emerging countries while avoiding some of the aforementioned concerns and maintaining the safety and transparency of developed markets, Simutin said. This can be done by looking to companies in developed markets that do business within specific emerging countries.

For example, an investor can buy an Australian company that sells iron ore to Indonesia and get indirect exposure to Indonesian infrastructure projects.

At a simple level, if there are two firms in Australia that sell to Indonesia and Morocco, one with $2 million of exports to Indonesia and $1 million of exports to Morocco and the other with $1 million of exports to both Indonesia and Morocco, if an investor buys the first firm and short sells the second firm, the Moroccan piece cancels out and what it is left with is pure exposure to a single emerging economy, which is Indonesia.

Investors can develop indices using this approach, which still has risks, but when a downturn happens, this strategy doesn’t do as poorly as emerging markets themselves, Simutin said.

“You have the safety and transparency of the developed markets, while accessing emerging economy activity. You have the political stability and shareholder standards that are up to an arguably higher level in developed markets, while again accessing what’s happening in the emerging economies.”

In a world where opportunities in emerging markets are limited, pension plans can look to access underlying emerging economies rather than the publicly traded markets themselves, said Mikhail Simutin, associate professor of finance at the Rotman School of Management and associate director of research at the International Centre for Pension Management.

Emerging markets hold promise for diversifying portfolios and improving risk-return trade-off, but those opportunities have been diminishing and those correlations with developed markets have been trending up, Simutin said.

There’s also a lack of depth in emerging markets, Simutin said, listing Morocco as an example: “It has about 83 publicly listed firms on the stock exchange so if you’re trying to diversify into Morocco, an emerging market, this is a very narrow window through which to access the economy. It’s going to be like an elephant drinking from a cup if you’re trying to

access these low-depth markets.”

There are also weak shareholder rights and political instability in many developing countries, Simutin said. And, when markets go south, emerging market publicly traded stocks typically fall much more than stocks in developed markets, he added.

“These are some of the challenges that you have to keep at the back of your mind as you’re thinking about trying to exploit these diversification opportunities in emerging markets,” he said.

Yet, there is another way for plans to diversify into emerging countries while avoiding some of the aforementioned concerns and maintaining the safety and transparency of developed markets, Simutin said. This can be done by looking to companies in developed markets that do business within specific emerging countries.

For example, an investor can buy an Australian company that sells iron ore to Indonesia and get indirect exposure to Indonesian infrastructure projects.

At a simple level, if there are two

firms in Australia that sell to Indonesia and Morocco, one with $2 million of exports to Indonesia and $1 million of exports to Morocco and the other with $1 million of exports to both Indonesia and Morocco, if an investor buys the first firm and short sells the second firm, the Moroccan piece cancels out and what it is left with is pure exposure to a single emerging economy, which is Indonesia.

Investors can develop indices using this approach, which still has risks, but when a downturn happens, this strategy doesn’t do as poorly as emerging markets themselves, Simutin said.

“You have the safety and transparency of the developed markets, while accessing emerging economy activity. You have the political stability and shareholder standards that are up to an arguably higher level in developed markets, while again accessing what’s happening in the emerging economies.”

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Joe Faraday,

investment manager and
client service director

Ballie Gifford & Co.

International exploration uncovering
great growth opportunities

Many years ago, international exploration was about finding gold or plantations or the next railroad to invest in. Today, it’s about finding new ideas out of disruption, finding companies people trust and staying ahead of the curve when it comes to technology, said Joe Faraday, investment manager and client service director at Baillie Gifford & Co.

“There is colossal change happening on the world stage and it’s going to continue to do so,” Faraday said. “If we can find that and find investment opportunities, we’re going to do pretty well out of it.”

An example of a disruptive country is China, which is growing at unparalleled rates, he said. “China has risen. [The Chinese people] are well educated, they are driven, they want to shift the economy up the productivity curve. Could it be in our lifetimes that Chinese GDP actually surpasses that of many of the Western markets? That would be disruption.”

Another disruption is demographic growth and the rapid rise of the middle class, for example, in China and India, Faraday said. “These are huge structural changes in these economies and those present enormous opportunity. I think that’s more disruption rather just a gradual or subtle tailwind. We should be going after that when we’re investing.”

Finding companies people trust such as banks, luxury goods or baby products is another theme, added Faraday. Trust is a rare commodity and companies that exceed expectations can charge more and get more repeat business.

And, technology is a further opportunity that investors can seek to find. There have been lots of technological advances and this will continue, Faraday said. “It’s going to happen in waves that are hard to predict. We won’t see it coming, but we’ve got to try [to] identify where this will come from.”

In addition, electric vehicles, robotics, and biological drugs and diagnostics are areas of technology to watch, Faraday said.

When looking at companies it’s also important to look at traits in their management teams and look for leadership that is curious, patient and brave, he added.

“Within all this, I think it paints the way that there [are] enormous opportunities out there. If we go on this quest and we overlay this broader framework into international or global equities, we can [find] some absolutely fantastic opportunities out there.”

Many years ago, international exploration was about finding gold or plantations or the next railroad to invest in. Today, it’s about finding new ideas out of disruption, finding companies people trust and staying ahead of the curve when it comes to technology, said Joe Faraday, investment manager and client service director at Baillie Gifford & Co.

“There is colossal change happening on the world stage and it’s going to continue to do so,” Faraday said. “If we can find that and find investment opportunities, we’re going to do pretty well out of it.”

An example of a disruptive country is China, which is growing at unparalleled rates, he said. “China has risen. [The Chinese people] are well educated, they are driven, they want to shift the economy

up the productivity curve. Could it be in

our lifetimes that Chinese GDP actually surpasses that of many of the Western markets? That would be disruption.”

Another disruption is demographic growth and the rapid rise of the middle class, for example, in China and India, Faraday said. “These are huge structural changes in these economies and those present enormous opportunity. I think that’s more disruption rather just a gradual or subtle tailwind. We should be going after that when we’re investing.”

Finding companies people trust such as banks, luxury goods or baby products is another theme, added Faraday. Trust is a rare commodity and companies that exceed expectations can charge more and get more repeat business.

And, technology is a further opportunity that investors can seek to find. There have

been lots of technological advances and this will continue, Faraday said. “It’s going to happen in waves that are hard to predict. We won’t see it coming, but we’ve got to try [to] identify where this will come from.”

In addition, electric vehicles, robotics, and biological drugs and diagnostics are areas of technology to watch, Faraday said.

When looking at companies it’s also important to look at traits in their management teams and look for leadership that is curious, patient and brave, he added.

“Within all this, I think it paints the way that there [are] enormous opportunities out there. If we go on this quest and we overlay this broader framework into international or global equities, we can [find] some absolutely fantastic opportunities out there.”

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  • 2019 Global Investment Conference www.investmentreview.com

Vivek Tanneeru,

portfolio manager

Matthews Asia

Asia's ESG evolution: Leadership and opportunity

While in the past, Asia has lagged on social, environmental and governance issues, that has been changing fast offering up new opportunities for investors, said Vivek Tanneeru, portfolio manager at Matthews Asia.

The Asian middle class is growing, he said. “They are reasonably well educated. They are seeing meaningful income gains over the last decade led by productivity gains, they are very social media–savvy and they are increasingly assertive [about their quality-of-life concerns and buying preferences].”

Asia’s past economic growth was powered by coal, and many of the top-polluting countries and cities are in Asia, Tanneeru noted, which is having a negative impact on their quality of life. “This is what’s upsetting the Asian middle class. Having reached a certain standard of living, they don’t need to worry where their next meal is coming from or whether they have a roof over their head. It’s about what’s the quality of air they’re breathing? What’s the quality of food they’re consuming? What’s the quality of water they’re drinking? These are very top of mind.”

Consumers are voicing their concerns through social media and increasingly making choices related to ESG factors, Tanneeru said. In turn, governments and companies are responding.

And, in a short time, China has taken the reins and is leading when it comes to fighting climate change, Tanneeru added, noting there are many investable opportunities that come along with this, such as how Asian companies dominate the battery cell market for electric vehicles. As well, in Asia, health-care innovation is strong, and Asian companies will benefit from increasing financial inclusion, he said.

Asia is at the epicentre of global ESG issues and is addressing them in a way that is profitable and durable because it is backed by the desires of the growing middle class and significant research and development investments, and there are economies of scale from serving the vast Asian middle class.

When it comes to investing in Asia, Tanneeru said, passive approaches fall short and there are shortcomings in ratings approaches, he said. Rather, active investors need to incorporate data and exercise due diligence.

“We’re all long-term investors . . . so we need to be asking some very important questions to ourselves,” he noted. “Where in the world are some of the most difficult and persistent ESG challenges? Where in the world can you see very innovative and profitable ESG solutions coming out of? Where will my marginal ESG dollar make the biggest impact in the world? And, most importantly, where will my marginal ESG dollar find the most attractive long-term return? The answer to those four questions is Asia.”

While in the past, Asia has lagged on social, environmental and governance issues, that has been changing fast offering up new opportunities for investors, said Vivek Tanneeru, portfolio manager at Matthews Asia.

The Asian middle class is growing, he said. “They are reasonably well educated. They are seeing meaningful income gains over the last decade led by productivity gains, they are very social media–savvy and they are increasingly assertive [about their quality-of-life concerns and buying preferences].”

Asia’s past economic growth was powered by coal, and many of the top-polluting countries and cities are in Asia, Tanneeru noted, which is having a negative impact on their quality of life. “This is what’s upsetting the Asian middle class. Having reached a certain standard of living, they don’t need to worry where their next meal is coming from or whether they have a roof over

their head. It’s about what’s the quality of air they’re breathing? What’s the quality of food they’re consuming? What’s the quality of water they’re drinking? These are very top of mind.”

Consumers are voicing their concerns through social media and increasingly making choices related to ESG factors, Tanneeru said. In turn, governments and companies are responding.

And, in a short time, China has taken the reins and is leading when it comes to fighting climate change, Tanneeru added, noting there are many investable opportunities that come along with this, such as how Asian companies dominate the battery cell market for electric vehicles. As well, in Asia, health-care innovation is strong, and Asian companies will benefit from increasing financial inclusion, he said.

Asia is at the epicentre of global ESG issues and is addressing them in a way that is profitable and durable because it is backed by the desires of the growing

middle class and significant research and development investments, and there are economies of scale from serving the vast Asian middle class.

When it comes to investing in Asia, Tanneeru said, passive approaches fall short and there are shortcomings in ratings approaches, he said. Rather, active investors need to incorporate data and exercise due diligence.

“We’re all long-term investors . . . so we need to be asking some very important questions to ourselves,” he noted. “Where in the world are some of the most difficult and persistent ESG challenges? Where in the world can you see very innovative and profitable ESG solutions coming out of? Where will my marginal ESG dollar make the biggest impact in the world? And, most importantly, where will my marginal ESG dollar find the most attractive long-term return? The answer to those four questions is Asia.”

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  • 2019 Global Investment Conference www.investmentreview.com
Play video

Sunil Shah,

head of Canadian fixed income and
senior portfolio manager

Aviva Investors

Portfolio construction as a source of fixed-income alpha

Historically, portfolio management has been focused on security selection and this has left portfolio construction as an overlooked source of alpha, said Sunil Shah, head of Canadian fixed income and senior portfolio manager at Aviva Investors.

“In recent years, we’ve seen a number of enhancements within our portfolio construction toolkit that help us deliver more of what an investor might be looking for: healthy risk-adjusted returns, greater consistency of returns across multiple market environments and a customizable or more customizable investment solution capability,” he said.

Investors can pivot from a traditional to an enhanced portfolio construction approach, which can be beneficial because there are weaknesses in a traditional approach, including inefficiencies in the benchmarks, compensation bias and conviction bias, he noted.

Taking an enhanced portfolio construction approach can still leverage an investment manager’s directional central thesis but in a manner that hopes to avoid underperformance in alternate market outcomes, Shah said.

Investors can improve portfolio efficiency by approaching the construction in a manner that can optimize the index components. “Essentially, we allow a quant tool to rearrange index sector weights, credit volatility buckets and various maturity buckets . . . to create the most efficient portfolio,” he explained, noting the optimization tool almost always identifies a portfolio structure that provides improved returns over the index.

Investors can also use scenario analysis to see what happens to the optimized portfolio if forecasts are challenged, which can reduce conviction risk, he said. “This sort of assessment firstly forces us to reflect with greater scrutiny on the magnitude of the conviction of our investment thesis. But, more importantly, it allows us to fine-tune the most appropriate risk-reward trade-off based on our conviction level.”

After looking at portfolio construction, investors can focus on security selection, he said. “With an enhanced portfolio construction approach, we would ask an analyst to provide ideas through a different lens,” he said. “Instead of beginning with the top generating return ideas, we can ask the analyst to stratify the ideas with a downside risk as a key constraint in mind and then choose the most compelling risk-return opportunities. That is a very powerful nuance that pushes back on compensation bias within security selection. It also helps us populate sector allocations that have been illuminated by our optimization exercise, but where our analysts have low overall conviction.”

Historically, portfolio management has been focused on security selection and this has left portfolio construction as an overlooked source of alpha, said Sunil Shah, head of Canadian fixed income and senior portfolio manager at Aviva Investors.

“In recent years, we’ve seen a number of enhancements within our portfolio construction toolkit that help us deliver more of what an investor might be looking for: healthy risk-adjusted returns, greater consistency of returns across multiple market environments and a customizable or more customizable investment solution capability,” he said.

Investors can pivot from a traditional to an enhanced portfolio construction approach, which can be beneficial because there are weaknesses in a traditional approach, including inefficiencies in the benchmarks, compensation bias and conviction bias, he noted.

Taking an enhanced portfolio construction approach can still leverage an investment manager’s directional central thesis but in a manner that hopes to avoid underperformance in alternate market outcomes, Shah said.

Investors can improve portfolio efficiency by approaching the construction in a manner that can optimize the index components. “Essentially, we allow a quant tool to rearrange index sector weights, credit volatility buckets and various maturity buckets . . . to create the most efficient portfolio,” he explained, noting the optimization tool almost always identifies a portfolio structure that provides improved returns over the index.

Investors can also use scenario analysis to see what happens to the optimized portfolio if forecasts are challenged, which can reduce conviction risk, he said. “This sort of assessment firstly forces us to reflect with greater scrutiny on the magnitude of the

conviction of our investment thesis. But, more importantly, it allows us to fine-tune the most appropriate risk-reward trade-off based on our conviction level.”

After looking at portfolio construction, investors can focus on security selection, he said. “With an enhanced portfolio construction approach, we would ask an analyst to provide ideas through a different lens,” he said. “Instead of beginning with the top generating return ideas, we can ask the analyst to stratify the ideas with a downside risk as a key constraint in mind and then choose the most compelling risk-return opportunities. That is a very powerful nuance that pushes back on compensation bias within security selection. It also helps us populate sector allocations that have been illuminated by our optimization exercise, but where our analysts have low overall conviction.”

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  • 2019 Global Investment Conference www.investmentreview.com

Heather Hagerty,

global sovereign debt analyst

Fidelity Investments

Pension reform can unlock Brazil’s potential

Brazil’s pension system is one of the most generous in the world and many are realizing something’s got to give, says Heather Hagerty, global sovereign debt analyst at Fidelity Investments.

To put this into context, Brazil spends 13 per cent of its GDP on pensions, and just over eight per cent of its population is over the age of 64, Hagerty says. Compare this to Japan, which spends less than 12.2 per cent of GDP on pensions, yet over 26 per cent of its population is over the age of 65.

“The reason for this is because Brazil is one of only a small number of countries that allow people to retire based on the number of years that they contribute to the system,” she notes. “It is also one of the only countries in the world with no minimum retirement age. Therefore, most of the people in Brazil retire around the age of 55.”

There are many factors putting pressure on the Brazilian pension system to reform, Hagerty says. These include falling fertility rates, an aging population and increasing life expectancy.

“Without any action to address this generous system, Brazil is at risk [of] a fiscal crisis, a debt crisis and also a growth crisis,” Hagerty says, noting that if there is pension reform, this could unlock Brazil’s enormous potential and it could become one of the success stories of the decade.

“By extending the length of the age of the worker in Brazil from 55 to 65, you could add four million more people to its workforce. In turn, this would lower the need for high interest rates and could also raise Brazil’s credit standing.”

These factors have led the government to put pension reform at the top of its agenda, Hagerty says.

Brazil has huge amounts of investment potential, she adds. “The Brazilian central bank governor who just took office [in February] all of his focus is not on monetary policy, but actually structural action taken to be able to absorb the massive amounts of foreign inflow that will result upon passage of this reform.”

Brazil’s pension system is one of the most generous in the world and many are realizing something’s got to give, says Heather Hagerty, global sovereign debt analyst at Fidelity Investments.

To put this into context, Brazil spends 13 per cent of its GDP on pensions, and just over eight per cent of its population is over the age of 64, Hagerty says. Compare this to Japan, which spends less than 12.2 per cent of GDP on pensions, yet over 26 per cent of its population is over the age of 65.

“The reason for this is because Brazil is one of only a small number of countries that allow people to retire based on the number of years that they

contribute to the system,” she notes. “It is also one of the only countries in the world with no minimum retirement age. Therefore, most of the people in Brazil retire around the age of 55.”

There are many factors putting pressure on the Brazilian pension system to reform, Hagerty says. These include falling fertility rates, an aging population and increasing life expectancy.

“Without any action to address this generous system, Brazil is at risk [of] a fiscal crisis, a debt crisis and also a growth crisis,” Hagerty says, noting that if there is pension reform, this could unlock Brazil’s enormous potential and it could become one of the success stories of the decade.

“By extending the length of the age of the worker in Brazil from 55 to 65, you could add four million more people to its workforce. In turn, this would lower the need for high interest rates and could also raise Brazil’s credit standing.”

These factors have led the government to put pension reform at the top of its agenda, Hagerty says.

Brazil has huge amounts of investment potential, she adds. “The Brazilian central bank governor who just took office [in February] all of his focus is not on monetary policy, but actually structural action taken to be able to absorb the massive amounts of foreign inflow that will result upon passage of this reform.”

*Note: Due to a scheduling conflict, this session was not presented at the Global Investment Conference. The following article is based on an interview with Heather Hagerty, global sovereign debt analyst at Fidelity Investments, after the conference.
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Keith Dixon,

chair of the Board of Trustees, University of Victoria
Combination Pension Plan

 

Andrew Coward,

treasurer

University of Victoria

Taking a calculated approach to change
at the University of Victoria pension plans

The University of Victoria has two pension plans and although each plan has taken a distinct approach to managing its assets, conducting prudent analysis, considering governance and administration and keeping liabilities top of mind have been key for both plans.

The university has a faculty and professional staff pension plan, which is a hybrid defined contribution with a defined benefit guarantee, with over $1 billion in assets. It’s known as the combination plan. It also has a defined benefit plan for unionized staff with about $300 million.

For the faculty and professional staff plan’s investments, the approach to date has been very conservative, said Keith Dixon, chair of the Board of Trustees of the combination plan. “Mainly the reason is we have not had any particular solvency problems,” he said.

When Canada’s foreign investment rules changed in the mid-2000s, the plan started increasing its foreign equity, but aside from that it has stayed quite traditional and local. It did introduce some real estate in 2008, Dixon said.

The plan decided not to move towards further alternatives after careful analysis through stochastic modelling, Dixon said. The modelling showed that even if the plan introduced 15 per cent infrastructure this would have only made the funded status slightly worse in the most favourable cases and slightly better in the least favourable cases.

The trustees were not convinced that the move was justified, he noted. “We’re a very small plan and we try to keep the administrative costs low typically about 25 basis points. We weren’t convinced that those scenarios were worth the extra governance and administrative cost. And so we’re still studying, but at the moment that’s where it stands.”

Administrative costs and governance are also key considerations for the union pension plan, said Andrew Coward, treasurer at the University of Victoria and a member of the investment advisory committee of the plan.

The plan’s investment committee meets five to six times per year and has recently shifted its focus to looking at assets and liabilities together on a quarterly basis when making investment decisions, Coward said.

The plan has been invested in real estate since 2008, and it was not until 2012 that it decided to allocate to infrastructure. Then, in 2018, the plan moved to more global equity exposure and further increased its infrastructure and global real estate as well, he said.

When implementing these changes considering internal and external expertise was important. “In evaluating each of the asset classes we always did an education session before we added it to our target asset allocation,” Coward said, noting considerations included the administration costs, potential capital calls, additional work that would be required from consultants and staff, benchmarks and whether hedging would be required.

“I think it’s good to have some purposeful conversations at your board or your investment committee meetings just to make sure that you do align your investment strategy with your governance and administration.”

The University of Victoria has two pension plans and although each plan has taken a distinct approach to managing its assets, conducting prudent analysis, considering governance and administration and keeping liabilities top of mind have been key for both plans.

The university has a faculty and professional staff pension plan, which is a hybrid defined contribution with a defined benefit guarantee, with over $1 billion in assets. It’s known as the combination plan. It also has a defined benefit plan for unionized staff with about $300 million.

For the faculty and professional staff plan’s investments, the approach to date has been very conservative, said Keith Dixon, chair of the Board of Trustees of the combination plan. “Mainly the reason is we have not had any particular solvency problems,” he said.

When Canada’s foreign investment rules changed in the mid-2000s, the plan started increasing its foreign equity, but aside from that it has stayed quite traditional and local. It did introduce some real estate in 2008, Dixon said.

The plan decided not to move towards further alternatives after careful analysis through stochastic modelling, Dixon said. The modelling showed that even if the plan introduced 15 per cent infrastructure this would have only made the funded status slightly worse in the most favourable cases and slightly better in the least favourable cases.

The trustees were not convinced that the move was justified, he noted. “We’re a very small plan and we try to keep the administrative costs low typically about 25 basis points. We weren’t convinced that those scenarios were worth the extra governance and administrative cost. And so we’re still studying, but at the moment that’s where it stands.”

Administrative costs and governance are also key considerations for the union pension plan, said Andrew Coward, treasurer at the University of Victoria and a member of the investment advisory committee of the plan.

The plan’s investment committee meets five to six times per year and has recently shifted its focus to looking at

assets and liabilities together on a quarterly basis when making investment decisions, Coward said.

The plan has been invested in real estate since 2008, and it was not until 2012 that it decided to allocate to infrastructure. Then, in 2018, the plan moved to more global equity exposure and further increased its infrastructure and global real estate as well, he said.

When implementing these changes considering internal and external expertise was important. “In evaluating each of the asset classes we always did an education session before we added it to our target asset allocation,” Coward said, noting considerations included the administration costs, potential capital calls, additional work that would be required from consultants and staff, benchmarks and whether hedging would be required.

“I think it’s good to have some purposeful conversations at your board or your investment committee meetings just to make sure that you do align your investment strategy with your governance and administration.”

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2019 Global Investment Conference photos

The Global Investment Conference brought together experts and thought leaders to discuss unique perspectives and approaches to defined benefit pension fund investing.

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