Canada Pension CEO Sees End to Lower-For-Longer Under Trumpby
Country’s largest pension fund sees bond yields normalizing
‘Could be good for the world but it’s not a definitive thing’
A surge in bond yields after the election of Donald Trump is “probably” here to stay and could be a good thing for the world, according to the head of Canada’s biggest pension fund with C$300.5 billion ($223 billion) in assets.
“There’s huge anticipation in the U.S. now of less disciplined spending and so therefore rising inflation expectations,” Mark Machin, chief executive officer of Canada Pension Plan Investment Board, said in an interview at Bloomberg’s Toronto office. “So, if that actually goes ahead then it’s likely to continue to be that way.”
Global bonds yields have jumped on Trump’s election win, as investors anticipate his promise of infrastructure spending and tax cuts will spur growth and inflation. The yield on the benchmark U.S. 10-year note touching 2.35 percent on Friday, the highest since December. Federal Reserve Chair Janet Yellen signaled Thursday the U.S. central bank was close to lifting interest rates.
Canada Pension, which has about a quarter of its holdings in fixed income, has long expected a return to more normal interest rates, Machin said. As a result, it became more cautious on “anything” in fixed income around the world in recent years, as well as yield-type assets such as real estate in the U.S. While the fund has been“ wrong for the last couple of years” that caution is now paying off.
“We’ve had trades on that, have been anticipating that,” he said. “Now it’s sort of moving in our direction and that’s at least a little nice to see." The fund’s credit exposure is primarily in Group of Seven country bonds and a smaller portfolio of higher-yielding private credit.
The new market sentiment that it’s a lower-for-longer world no more, with economies depending on central banks to stoke growth is “probably the case,” Machin said. And with Europe fragile, China going through a “massive” economic restructuring, and Japan facing huge demographic problems, U.S. stimulus “could be good for the world, but it’s not a definitive thing," he said.
Trump’s other campaign promises, like repealing the Dodd-Frank Act, could also alleviate some of the financial stress that was brought on by banks pulling out of lower return, inefficient businesses and overnight lending, he said.
"It’s become something that we thought could become a tail risk at some point. You could see just a sudden spike in illiquidity that catches a lot of people unaware," he said. "We’ve been preparing for this for a year or so. Hopefully, if the Dodd-Frank Act gets revoked as he’s talked about -- not to say removing all that regulation is a good thing -- certainly some of the unintended consequences of the Volcker rule, Dodd-Frank, and a number of things will go away."
In a broader sense, Machin said anti-globalization and the rise in populism, underscored by Brexit and Trump’s election, are concerning. Higher tariffs, slower cross-border trade, investment and immigration, could also reduce opportunities for global investors like Canada Pension, he said.
"I’ve grown up believing I’ve benefited from open markets," he said. "I believe that it has helped the development of economies around the world. It’s pulled billions of people out of poverty."
Machin, 50, who was born in the U.K., said it was his personal view that Brexit was a “terrible idea.” It will “reduce economic growth in the country, and again, it will be the bottom 50 percent of the population that suffers the most from Brexit,” he said. "It’s sort of tragic that the people who voted for it understand it the least."
About 80 percent of Canada Pension’s assets are abroad and Machin said he could see that growing over time with the greatest opportunities in places like China and India, and, of course, the U.S.
He said the fund continues to look for acquisitions in the oil and gas space, as well as mining, primarily in North America. "It’s really a resource with a small ‘r’ constraint. We have a small team of people and we have to concentrate where they’re looking," he said.
Canada Pension has purchased energy assets worth C$4.1 billion since the end of March with that team.
"It’s not a call that oil’s going to go up dramatically in the next year or so," he said, adding that the fund is also investing in alternative energy. "For a long, long time, we’re going to need liquid fuel and we’re going to need oil."
Canada Pension handles the retirement savings of 19 million Canadians. The fund had a net return of 16 percent in 2015, and a 7.5 percent net return on an annualized basis over the past decade.