An Interview with Canada Pension Plan Investments’ President and CEO, John Graham
This week on the podcast our guest is John Graham, President and CEO of Canada Pension Plan (CPP) Investments. The mandate of CPP Investments is to invest the assets of the CPP Fund with a view to achieving a maximum rate of return without undue risk of loss.
Here are some of the questions Peter and Jackie asked John Graham: What is the history of why Canada created the CPP and CPP Investments? What are your thoughts on 2023 with respect to geopolitics, threat of recession, inflation and volatility in general? Are you dampening your return expectations as a result of the weaker macro outlook? Is the CPP well funded to support Canadians who retire long into the future? Does the CPP have a net-zero 2050 goal? Will you still invest in high carbon industries, for example steel, concrete or oil and gas? Do you have goals for investing in clean and green energy? What are the barriers for investing capital in clean energy? Could the US Inflation Reduction Act (IRA) attract energy transition focused capital away from Canada? There is an active debate in Alberta now about leaving the CPP, beyond contribution levels, what other factors should Albertan’s consider in this major decision?
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Episode 188 transcript
Disclosure:
The information and opinions presented in this ARC Energy Ideas podcast are provided for informational purposes only and are subject to the disclaimer link in the show notes.
Announcer:
This is the ARC Energy Ideas podcast with Peter Tertzakian and Jackie Forrest. Exploring trends that influence the energy business.
Jackie Forrest:
Welcome to the ARC Energy Ideas podcast. I’m Jackie Forrest.
Peter Tertzakian:
And I’m Peter Tertzakian. And welcome back. Well, Jackie, you’re off in Florida, not for retirement, I don’t think.
Jackie Forrest:
I’m here for a conference, but I think hanging out here makes you think about retirement because there’s certainly a lot of retired people around and it’s very sunny and nice. So, this is definitely the kind of place you might want to spend the winters when you retire.
Peter Tertzakian:
It’s kind of expensive though, isn’t it? I’m hearing these sorts of sunspots are really between the inflation and the fact that they’re desirable places to move for retirement, sort of driving the prices of everything up.
Jackie Forrest:
Well, I feel that way just going to the restaurants and things like that, especially here in the US because you have the exchange rate, the Canadian dollar doesn’t go as far. It certainly is expensive. So maybe that my retirement’s a ways off here with the way the prices are going. I might have to delay retiring so I can afford to hang out in a place like this.
Peter Tertzakian:
Well, if it’s not you nor me, we know that there’s a lot of Canadian snowbirds that head down there. So actually, why don’t we talk about retirement and who better to join us to talk about retirement than John Graham, who’s the CEO of the CPP Investment board or CPP Investments. He’s going to talk about the pension plan and all sorts of other things as we talk about investing in energy, which of course is our domain. But we’ll start out by saying welcome John.
John Graham:
Thank you. And thank you so much for having me.
Jackie Forrest:
Great, John. Well, we’re excited to have you. I know you’ve been the president and CEO for about two years now. So, tell us about your background and the path that led you to lead the CPP/IB.
John Graham:
Well, I’d say my career path is a little non-traditional. I have been with CPP Investments for over 15 years, but prior to CPP Investments, I actually have a PhD in physical chemistry. And I worked as a research scientist for about nine years before making the transition to finance. And actually, my area of expertise as an industrial research scientist was essentially the technology of photovoltaics, so the conversion of light into energy. But I came to CPP Investments about 15 years ago, spent most of the time in credit and then two years ago was given the honor and the privilege to lead this organization.
Peter Tertzakian:
Wow, that’s fantastic. Well, we’re going to talk about energy and energy investing in a bit here, but let’s just set the context some more for our Canadian listeners. I expect most Canadian listeners who are adults and working are on the CPP, the Canada Pension Plan. So, tell us a little bit about its current size, how it’s grown over time, maybe even a little bit of the history of how the organization was set up.
John Graham:
And maybe what I’ll do is start with a little bit of the history of the Canada Pension Plan. So, I’m the CEO of CPP Investments, which is the third-party asset manager that manages the surplus funds of the Canada Pension Plan. But we’re not involved in setting the contribution rates or the benefits or administering the plan, that’s really up to the government. But CPP was actually created in the 1960s and it was created at a time when senior poverty in this country was around 50% and poverty among seniors that were single was actually approaching 75%. And so there was very much a crisis around senior poverty. And the provinces and the federal government came together to introduce the Canada Pension Plan. Now, CPP, along with other programs have been quite successful, and Canada now has one of the lowest rates of senior poverty in the world.
But it wasn’t always smooth sailing. In the 1990s, there was a recognition that demographics were changing. When the plan was started in the 1960s, Canada was a younger country. But Canada was aging, birth rate was dropping, and demographics were changing. And so, they reformed the plan in the 1990s, made adjustments to the contribution rate, made adjustments to benefits, and I think most importantly, they created CPP Investments. They created a professionally managed investment organization that would manage the surplus funds of the Canada Pension Plan and create an organization that is independent of government. So, we have no government interference in our investment activities, and we have a single fiduciary mandate, and that is to maximize return without undue risk of loss. And we do it in what’s in the best interest of the 21 million Canadian contributors and beneficiaries. So, we started off in the nineties, I think the first check was around $26 million that came from Ottawa. Today we actually released our results recently. We sit at around $539 billion today of assets under management.
Jackie Forrest:
Well, it is a huge fund, the biggest fund in Canada. And of course, a lot of Canadians would like to see some of that money come into Canada. Do you have any metrics for how much money does come into Canada? You say the government’s not involved in how you invest, but are there some guidelines around that? Because if we think about all the change coming with energy transition, there’s a huge need for capital within Canada.
John Graham:
Yeah. And we’ll get to how we think about investing in the energy transition. But just on how we think about building out the global portfolio; we do think it’s prudent risk management to build a global portfolio and to ensure that we have exposure to the largest economies in the world, the fastest growing sectors in the world. So as of today, we have about 15% of the assets in Canada. Canada continues to be a very important investment market for us and one that we do focus on and look for opportunities, but we do also think it’s important to be global and important to have an exposure to the global markets that participate in global growth. And to put a little bit of the numbers into context, if you think about the over $500 billion that’s in the fund, about two thirds of that comes from investment returns and about a third of it is from contributions. So that $350 plus billion actually is investment returns that have been in the fund that is coming from global capital markets for the benefit of the 21 million Canadian contributors and beneficiaries.
Peter Tertzakian:
That’s a staggering amount of money really. And so, when you use the words “risk management” and “global” and given that the exposure is all around the globe, talk about how you’re thinking these days about big issues like inflation, geopolitics, commodity market volatility, so on.
John Graham:
And maybe I’ll start with geopolitics. I certainly fall into the camp that we’ve entered a new period. And if I think about my past 15 years of investing, geopolitics was often a second order consideration. Today I think geopolitics is trumping capital market considerations in many markets around the world than many investments around the world. That we’ve evolved from a time which as an investor was a little bit more straightforward, where economic policy, industrial policy was all about profit maximization. Today there’s a national security lens applied not just to the defense industry, but to so many different industries around the world and energy security, food security, these are all top of mind. And as an investor, it’s something that we spent a lot of time actually thinking about geopolitics.
On your other question around inflation and rates. It is remarkable to think that through 2022, we almost got used to 75 basis point interest rate increases considering what we’ve been for the past 10, 15 years. I think at CPP Investments, we really think about how to build a resilient portfolio to these short-term macroeconomic conditions, how to build a portfolio. We don’t try to forecast in short term but think about how do we have a portfolio that will be resilient to a range of outcomes. And personally, I spend more time thinking about what are the long-term drivers of global growth. We’ve gone from a period where we had declining rates, low inflation, and benign geopolitics to one now where we have higher rates, sticky inflation, and geopolitics really impacting how we allocate capital, and what’s going to drive global growth. And a 50-basis point reduction in the growth rate over the next 10 years is going to have a really big impact on wealth creation.
Peter Tertzakian:
Let’s talk about the returns and return expectations in the last 10 years prior to, well, let’s just say prior to 2022 have been a bull run in equity markets. Return expectations though as a consequence of the whole inflationary issue have been dampened. How are you thinking about returns going forward? And I guess the question on a lot of Canadian minds, a lot of our listeners’ minds is, okay, is the Canada Pension Plan going to have enough money for me as a corollary question but let me talk about the returns first and then put the minds at rest of the people listening.
John Graham:
So, our 10-year returns, we just released our most recent quarterly results, and our 10-year returns is a 10% CAGR, just over a 10% CAGR over 10 years, which are strong 10- year returns. And we certainly benefited from these tailwinds I highlighted, right? That you had emerging markets growing quickly, declining rates, benign inflation. Going forward, we anticipate it to be a more challenging period to deliver returns. We believe the kind of great beta trade is coming to an end at least maybe over the next decade. And it really is about picking the right geographies, picking the right sectors. I think scale really matters over the next decade. Partnerships really matter over the next decade, and I’m very grateful sitting in this seat that the past 20 years of this organization has really been about capability building and we can now leverage, and we can now monetize those capabilities around the globe.
And I will take the opportunity to address the question about the CPP. There’s still this myth that CPP won’t be around and that’s just categorically untrue. The chief actuary of Canada releases a report every three years on the sustainability of the CPP, and in December they released the report and the CPP will be sustainable for at least 75 more years. So, I don’t know how much longer you plan to work, but at least 75 more years.
Peter Tertzakian:
Not 75 years
John Graham:
Sustainable.
Peter Tertzakian:
Yeah, well, if we want to come back to the point about the last 10 years and how extraordinary they were for returns and have to reset expectations, I mean 10 years in the context of the average person’s working life, which is say 20 to 65, round numbers. So, 45 years, you are truly a long-term thinking institutional investor.
John Graham:
We say we think in kind of quarter-centuries, not quarters. As we think about building the portfolio, I think there’s probably headwinds into the global economy right now and there’s going to be volatility. That volatility will present opportunities and we expect it will just be a more challenging environment to navigate. Reflecting on 2022 and thinking about what happened in 2022, February 24th of last year, Russia invades Ukraine, we have central banks starting to raise interest rates by 75 basis points, capitulation that inflation is more persistent, the more riskier end of the spectrum, such as cryptocurrency, somewhat imploding in on itself. ’22 was actually a pretty remarkable year thinking about from an investing perspective, but going forward it may be a little bit more of the norm.
Jackie Forrest:
Well, and you talked about the beta trade is over. So, for our listeners, that’s like you’re implying that you could just be in a sector no matter what you were in, and you were going to do well. Now it’s the alpha where you have to very carefully pick the companies that you invest in and the places you invest in, and you are going to get a better return by doing that. So are there certain sectors, you’re talking about the volatility, maybe there’s a potential recession. What are the expectations if there is a recession on how that would affect the portfolio?
John Graham:
I was at a meeting recently with probably 30, 40 of the largest investors in the world, and I was actually quite surprised how short-term focused a lot of people are thinking about a recession this year. Our portfolio is resilient. It’s diversified across geographies, diversified across sectors, and so it is quite resilient to any short-term recession. We think about the long-term growth rates, how do we drive returns over 10 years? And maybe to get to your question on where we see opportunities and where we’re focused right now and probably very relevant to this podcast, when I came into this seat a couple years ago, one of the areas we’d started building out and we really spent a lot of time was how do we invest in the energy transition and in the entire energy transition? And over the past two years, we’ve really been building out our internal competency investing across the entire energy spectrum, including value creation activities.
Peter Tertzakian:
Yeah, well, it’s a huge area, energy. So, let’s talk about that. Going back to that beta investing, another way to think about it is for the last 10 years is that the tide was lifting all boats or raising all boats. So, you could invest in any boat you wanted, but now you have to be much more selective in which boat you put your money into. And energy is definitely top of mind for many, certainly top of mind for us in reaching net zero by 2050 and allocation of capital to the new clean energy paradigm. CPP/IB and your team has set out some principles for investing in net zero. I think there’s five factors, can you talk about those?
John Graham:
We did make a 2050 net-zero commitment to have the portfolio net zero by 2050, but we spent a lot of time thinking about how do we do this in a way that is consistent with our mandate to maximize return without undue risk of loss and is in the best interest of the 21 million Canadian contributors and beneficiaries. So, we laid out a 2050 net-zero commitment, and as you highlighted the principles. And principles of that this is an entire economy transition, and this will require investing in the entire economy. We expect to actually evolve our strategy as transition pathways emerge and different standards emerge. We will be an engaged investor and we will not pursue a path of blanket divestment. That we will be an engaged investor and we will invest across the entire energy spectrum, including conventional energy with a view very much that this is a transition. It is in the name, it is a transition, and we will need multiple sources of energy for a couple decades.
Jackie Forrest:
I agree with you. I think we are going to need oil and gas for a number of decades, but many pensions, especially in Canada, but around the world, have chosen not to invest in oil and gas and sometimes because of their pensioners that are putting pressure on them to divest of oil and gas. So maybe could you talk a little bit, have you faced pressure with this position to continue to invest in oil and gas?
John Graham:
I think we’ve been very transparent about how we think about investing in the transition and very transparent that we will continue to invest in the oil and gas sector. Certainly there are organizations that are ideologically opposed to that, but we believe this is actually the approach that is most consistent with our mandate and frankly will have the biggest impact. That the oil and gas sector has a critical role to play in the energy transition. And again, this meeting that I was at recently with some of the largest investors in the world, again, probably 40 of the… 30, 40, the largest investors in the world, I actually led a discussion and my discussion topic was on why divestment is not the right path forward.
And I would say that the view that we have, the approach we have, I think is actually getting a lot of, popularity is the right word, but people understanding that this is a very good approach to thinking about investing in the transition. So we’ve been crossing the globe, sharing how we’re thinking about this, and I’d say over the past couple years there has been a convergence that this is a very constructive way to invest in the transition.
Jackie Forrest:
I think this last year has taught people that energy security is an important thing. We still rely on hydrocarbons and secure hydrocarbons should be part of a stable source of supply in a stable economy. So I’m glad to hear that some folks are starting to kind of open their eyes to that. And the last year has certainly shown us the problems with an energy shortage of hydrocarbons.
Peter Tertzakian:
Well, I think it goes beyond that as well, is that when big investors, by definition pension investors, divest of say oil and gas or I’ll call it any heavy emitter, doesn’t necessarily have to be oil and gas, any heavy emitter because that’s the easiest way to decarbonize your portfolio is get rid of your heavy emitters and then you can say you’re clean. But that’s not really solving the problem because once you get rid of it, you have no influence over the board of directors and the direction of these heavy emitters. So by staying in, you also have more influence in how the capital of the heavy emitters, the corporate entities, invest. Is that fair to say it? And is that how you view it as in terms of having large positions in big heavy emitting companies?
John Graham:
Yeah, and the way we would describe it is that we don’t focus on reducing financed emissions. We focus on financing emissions reduction, essentially investing in emissions reduction. It’s not about just what are the emissions in the portfolio, it’s actually how do you invest in the transition and invest in the emissions being removed from the real economy. And you bring up heavy emitters, and I think it’s an area that we’ve spent a lot of time thinking about that this is not just a energy transition. This is a whole economy transition, and this requires agriculture, steel, transportation, aviation. Barring dramatic changes in consumer behavior, there’s many sectors that need to transition over the next few decades, and that’s going to require scale capital. It’s going to require patient capital, partnership capital, which is the type of capital CPP Investments has. So that’s why we actually see this as a tremendous investment opportunity for who we are and how we approach the market. We actually see it as it’s almost another industrial revolution.
Jackie Forrest:
I mean a lot of people focus on the clean and green, but just as important is to clean up our existing heavy emitting industries, whether it be steel or concrete or even oil and gas because we will be using oil and gas for a long time. So I’m glad that you’re having a balanced approach because few investors seem to these days. But we’ve been talking about investing in oil and gas and heavy emitters, but what about the clean and green? Do you have any goals around how much capital you’d like to move into that very small space today but growing rapidly over the next decades?
John Graham:
So maybe I’ll also just mention that we do have a 2050 net-zero commitment, but to date, we haven’t made any short-term commitments, and I can discuss why that is, but we haven’t made short-term commitments with respect to the carbon intensity of our portfolio. But we do have, as I mentioned, a sustainable energies group. And this sustainable energies group invests in conventional oil and gas, in new technologies, in scaling up new technologies and also in renewables. And the one area we have set as a goal or an ambition is to double the assets in the portfolio that are green or transitioning. And so it’s both green and transition assets. So we have a reasonably large renewables portfolio, those we classify as green, but the brown assets or the gray assets that we view as transitioning, we’re looking to double the assets in our portfolio where we have a viable kind of value creation plan that incorporates decarbonizing the asset.
Peter Tertzakian:
So you got the doubling number of investing, and our sense is that there’s a lot of aspiration to increase investment by pensions and other institutional investors, but that there’s roadblocks in doing so. There’s sort of these barriers of, for example, how to analyze these companies because they’re relatively new in the thinking. What are some of the impediments you’re seeing to increasing investment in the, we’ll call it the clean and green space?
John Graham:
Well, the clean and green? Into the renewable, into new technologies?
Peter Tertzakian:
That whole, well, let’s just bucket them all together.
John Graham:
So maybe a few things, and I think it is we are seeing a lot of momentum now. I think there is, from a private capital perspective, there is always this challenge of how public and private capital will interact with each other in these type of projects, especially large projects of scale. I think questions around risk sharing and what risk private capital can really bear in these type of projects. How predictable is the regulatory framework, how predictable is policy, especially considering that these projects, the payback period may be very long. It requires forecasting quite far into the future. And I think private capital is working through how to get comfortable with some of the uncertainty.
Peter Tertzakian:
Yeah. The word uncertainty, that’s the key because uncertainty equals risk and understanding risk and return is really the mandate of any investor. How about the analysis of risk? I mean, to what extent is that an impediment of say, understanding investing in a battery plant or biofuels, solar panel manufacturers? I mean, these are relatively new types of companies on the investment landscape, say, as compared to analyzing a cement plant or a oil and gas company. To what extent is, I’ll call it the energy literacy in investing an impediment?
John Graham:
Yeah, I think maybe the energy literacy, and I would also, as we think about the uncertainty there is in many of these, there is a technological risk that needs to be overcome, but the capital can be significant and outcomes can be binary. And as capital thinks about how to invest in these different projects, again, it gets back to what I was saying about public private partnerships and how those are going to work. And ultimately as investors see uncertainty, investors see risk, that impacts the cost of capital and eventually the cost of capital becomes prohibitive to actually moving things forward. So it becomes very almost circular, right?
Peter Tertzakian:
Yeah.
John Graham:
Can’t raise capital at a reasonable cost of capital.
Peter Tertzakian:
Right, and that high cost of capital is effectively a barrier.
Jackie Forrest:
You talked about the importance of public and private capital coming together and supporting each other to be able to move the kind of capital into clean energy that’s needed. Now, the US over the summer put out this US Inflation Reduction Act, which is very generous incentives for clean and green energy in the United States. Now Canada, we’re told we’re going to be getting something similar in the spring budget, but we’re still waiting to hear all the details on that. How do you look at that in terms of investing in Canada? In the absence of a response from Canada, do you think that you’re going to see more of the investment dollars flow into the US?
John Graham:
Well, maybe on the Inflation Reduction Act, I’m sure as many people have said, it is very much a landmark piece of legislation and will accelerate the US transition and attract investment from all over the world. Capital is global, as I mentioned, capital is agile, and the Inflation Reduction Act was very much a landmark piece of legislation. Canada does need an integrated approach between the federal and the provincial governments on policy and incentives. We can see governments all over the world reacting to the Inflation Reduction Act, and there are probably are some things right now that people are still working through, but it does have the potential to essentially divert a lot of global capital into the US. I think we’ll see probably additional approaches coming out of various budgets, but I think very much a coordinated approach between the provinces and the federal government with something. The scale of the IRA is just staggering in some ways.
Peter Tertzakian:
Yeah, it’s just huge. And as you say, it’s very competitive. Capital is agile and in some senses it provides incentive for Canadian pension plans such as the Canada Pension plan to invest in helping the United States achieve net zero by 2050 at the expense of Canada achieving net zero by 2050. In other words, we’re helping the US fund their net-zero aspirations. Is that how policy makers here should think about that?
John Graham:
I think of it from a long term competitiveness perspective. I think it’s going to put a lot of capital into new technologies. I mean, I think the US could end up being a global leader in thinking about just decarbonization technologies. I wouldn’t say it’s necessarily from a Canadian perspective. I think it’s a global perspective. Being all over the world and speaking to Europeans, Asians, everyone took notice of the Inflation Reduction Act as really a landmark piece of legislation. And again, coming back, I mean, I’m sure the governments will think of the best approach. Incentives work.
Jackie Forrest:
Yeah. Well, we’ve really got a lot of sticks here in Canada. I’m hoping that we’re going to have the sticks plus the carrots, and we’re going to drive a lot of investment in Canada. And I’m really looking forward to hearing more about the budget and how it’s going to keep investors like you seeing Canada as a competitive place.
Peter Tertzakian:
And attract others here too. Yeah, and attract others here too.
John Graham:
I mean, I think there is very much a recognition around the world of the quality of Canada’s traditional energy producers. And Canada does produce some of the most responsibly produced hydrocarbons in the world and does have amazing technical talent. I mean, Canada actually has real technical talent in this space. So that is something that is recognized around the world.
Jackie Forrest:
Well, and you talked about the importance of geopolitics in energy security. I would hope we rate very well versus many other countries in the world from that lens too. Well, John, this has been a great discussion. We really appreciate you being so generous with your time. Now, I’d be remiss if I didn’t ask you this question because we’re based out of Alberta, and a lot of Albertans listen to the podcast and there’s an active discussion and debate about Alberta leaving the CPP. Now, you’ve educated me that you’re a part of the investment group, not the CPP, but I just wanted to know if you have any views on that. I mean, many people are saying that the contribution rates would be lower if Alberta went on its own, and maybe this was true, but are there other things Albertan should consider in making such a significant switch?
John Graham:
Yeah, I would go back to a little bit of where I started and the CPP was created to deal with senior poverty where senior poverty was at 50% in the country. And the CPP and CPP Investments is maybe one of the best examples in this country of provincial-federal cooperation where they actually came together and solved a real national challenge. And CPP is actually viewed globally as almost a gold standard of pensions. Look at what’s happening in Europe and France with protests, and Canada actually figured this out with the CPP. CPP Investments is a world-class investment organization, a governance that has actually viewed as being the gold standard around the world. There are lots of benefits of a national plan, but we certainly recognize, again, we are the CPP Investments. We’re not the CPP and the people of Alberta will ultimately decide as to whether or not they want to leave the CPP.
The benefits of a national plan are to be able to mutualize risks across the country. Mutualize demographic risks, mutualize volatility in local economies across the country. One of the benefits of a national plan is portability in that it’s relatively seamless for people to work in one province, retire in another province, to actually change provinces through your working career. So you don’t have this restriction in the mobility of labor across provinces and even people who live in one province and work in another, if they’re working for several months in a different province. So that portability does allow kind of that mobility during your working career and even post your working career. The reforms in the 1990s of the CPP are an indication that demographics are difficult to project over decades and demographics change. What I’m focused on, what CPP Investments is focused on is really delivering on our mandate for the 21 million Canadian contributors and beneficiaries, including the 3 million in the province of Alberta.
Peter Tertzakian:
Yeah. Well, the other thing here is that scale matters. On a global scale, and the $540 billion, I said is a staggering amount of money. But actually, if you think about global pools of capital, there are trillion plus dollar pools of capital out there. And scale does matter in creating a stable and those kind of stable returns that we talked about to the extent that they can be stable in a volatile world. Anyway, we’ve gotten to know you, John, and your team over the course of the last while and can say that you are the gold standard of investing. So thank you very much for taking time out of your busy day to join us, and certainly I wasn’t thinking about retirement until you gave me the assurances that we’re in good shape here in Canada. So now I’m going to have to think about it. And thanks again.
John Graham:
Thank you. It’s been a pleasure.
Jackie Forrest:
Thank you, John. And thank you to our listeners. If you enjoyed this podcast, please rate us on the app that you listen to and tell someone else about us.
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