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COMMUNITY INVESTING FOR PENSION FUNDS

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Presentation on theme: "COMMUNITY INVESTING FOR PENSION FUNDS"— Presentation transcript:

1 COMMUNITY INVESTING FOR PENSION FUNDS
Presentation to Canadian Pension Funds on Community Investing/ETIs Coro Strandberg, Strandberg Consulting 2006 Sponsored by: Canadian CED Network

2 Overview Context and Background Definition and Rationale
US and Canadian Experience Lessons Learned Future Opportunities

3 Context and Background
Capital gap Canadian Community Economic Development Network (CCEDNet) project Funded by WD and Vancity Capital gap in the community investment sector Experience in the U.S. demonstrates community investments can generate market returns for institutional investors Funded by Western Diversification and managed by the Canadian Community Economic Development Network (CCEDNet)

4 Community Investment Defined
Market grade investments Collateral social returns: Jobs Affordable housing Community economic restructuring Urban revitalization Community services Environmental regeneration Social economy enterprises CI is defined as: market grade investments that generate collateral social returns such as jobs affordable housing community economic restructuring community services environmental regeneration social economy enterprises Investments in underserved capital markets that deliver an appropriate risk-adjusted rate of return and provide collateral benefits. Also called – domestic emerging markets, under-served capital markets, double bottom line investing

5 Under-Served Capital Markets
Exist because: Information gaps Capital provider preferences for other sectors Few Canadian precedents Reasons why underserved capital markets exist include: Information gaps Capital provider preferences for other sectors Few Canadian precedents

6 Rationale for CI Emerging asset class Enhances long term assets
Community investing is an emerging asset class: as with private equity 15 years ago, CI creates new investment opportunities Enhances long term assets: Opportunity to take advantage of unique assets that exist in underserved markets, e.g. under-utilized skills, local community knowledge, local market demand Investing in economic growth and stability enhances long term assets Economically vibrant and healthy communities indirectly benefit the pension plan

7 US ETI Experience Public: Church: Private: CalPERS
New York State Pension Funds New York City Pension Funds Church: United Methodist Church General Board of Pensions and Health Benefits The Church Pension Group (Episcopal Church of America) Private: AFL-CIO Housing Investment Trust American pension funds involved in community development finance: CalPERS New York State Pension Funds New York City Pension Funds United Methodist Church General Board of Pensions and Health Benefits The Church Pension Group (Episcopal Church of America) AFL-CIO Housing Investment Trust investment company regulated by the Securities and Exchange Commission Trust investments of over $4.5 billion have financed more than 75,000 units of multifamily and single family housing nationwide. These investments have generated an estimated 50,000 jobs in construction and related industries 1965 Investment objective is to generate competitive risk-adjusted total rates of return for its participants by investing in fixed-income investments, primarily multifamily and single family mortgage-backed securities and mortgage-backed obligations, including participation interests. the Trust encourages the construction of housing, facilitates employment for union members in the construction trades and related industries, improves the housing supply and promotes community revitalization. To accomplish these objectives, the Trust invests primarily in mortgage securities that directly or indirectly finance new construction or rehabilitation of multifamily housing projects and in mortgage securities backed by single family loans. All on-site construction work financed through Trust investments is required to be performed by 100% union labor. seeks to provide competitive risk-adjusted returns relative to its benchmark, the Lehman Brothers Aggregate Bond Index. Feb year net return of 6.58% while benchmark had a 10 –year return of 6.32% Real Estate Private Equity Fixed Income

8 Current Research Mapping US public sector pension funds to assess urban revitalization interest Policies and programs: CalPERS CalSTERS NY State Commons NY City Retirement 6 considering urban revitalization 10 inner-city investments part of asset allocation - no stated goal Mapping largest 53 US public sector pension funds to assess their interest in urban revitalization 4 had policies and programs on urban revitalization CalPERS CalSTERS NY State Commons NY City Retirement 6 were considering urban revitalization 10 have inner-city investments as part of asset allocation, but no stated goal Now mapping the Canadian ETI sector FORD FOUNDATION STUDY – AIM IS TO ENCOURAGE MORE PENSION FUND INVESTMENT IN URBAN REVITALIZATION – HAVE FUNDED 3 YEAR STUDY RUNNING HARVARD RESEARCH PROJECT – APPROACH IS TO TAKE THE BEST PRACTICES AND ENCOURAGE OTHER FUNDS – FINAL SEPT. 2007 CALPERS NYCITY NYSTATE MASSATCHEUSETTS CALSTRS TEXAS EMPLOYEES EXCELL SPREADSHEET – WHO IS TARGETING WHAT – 50 LARGEST FUNDS BY ASSET SIZE AND SAID HOW CAN WE FIND OUTWHAT THEY ARE TARGETING IF AT ALL AND WHAT ARE THEY TARGETING.. ANY TYPE OF TARGETING AT ALL. TARGETED, URBAN – IF THEY CAN FIND FIXED INCOME WILL NOTE IT. IN THE MIDST OF DOING ONE FOR CANADA – AVAIABLE IN JUNE. USING DATABASE PUT TOGETHER BY THE CANADIAN PENSION FUND DIRECTORY – THEY BREAK OUT ALL THE ASSET CLASSES, PRIVATE EQUITY, VENTURE CAPITAL, INFRASTRUCTURE AND REAL ESATE – CAN SEE WHAT FUNDS ARE IN THOSE ASSET CLASSES AND DO A PUBLIC SEARCH TO ID TARGETING - FOLLOWING UP WITH TELEPHONE CALLS. PRINCIPLE RESEARCHERS, TESSA HEBB – PENSION FUNDS AND URBAN REVITALZATOIN 7TH CASE STUDY ON ACTUAL VEHICLES. CALSTRS TARGETING DIVERSTIY

9 Legal Framework ERISA governs private pension funds
May pursue ETIs Standard prudent investment guidelines Appropriate risk/return characteristics Many states cite ERISA standards Private pension funds are governed by the federal law of the Employee Retirement Income Security Act of 1974 (ERISA) – Department of Labour In a recently revised interpretive Bulletin (2004): Clarifies that private pension funds may pursue ETIs as long as they meet standard prudent investment guidelines and seek appropriate risk/return characteristics Can’t be investing for political purposes State and local retirement systems are exempt from ERISA While ERISA covers only private pension funds, many states cite ERISA standards Under ERISA an interpretive bulletin was issued that states they can invest in ETIs Market rate Capital gap In an appropriate asset class

10 CalPERS $200 B in assets 2005 ETI Policy (updated): collateral intent to stimulate economy: job creation, development and savings, business creation, increases to or improved affordable housing stock and improved infrastructure Competitive risk-adjusted rates of return Target: 2% of fund assets Provides collateral benefits to targeted geographic areas, groups of people or sectors of the economy while providing pension funds with prudent investments CalPERS: California Public Employees' Retirement System - provides retirement and health benefits to more than 1.4 million public employees, retirees, and their families and more than 2,500 employers. $200 B in assets Real estate was an initial starting point for CalPERS’ ETI program: (California Urban Real Estate Program) Committed $375 million with the aim of creating value through the rehabilitation, repositioning and development of real estate projects located primarily in the urban neighbourhoods of California’s major metropolitan areas (1992) The program began with investment in affordable single-family homes At the time very few pension funds had ever invested in single family homes The investment was expected to generate a 22% return, provide construction jobs and fill a capital gap in the market, while increasing the supply of moderately priced homes in the State By March 2005, the CURE program had a total asset allocation of $3.4 billion with an acual investment of $1.2 billion across twelve real estate investment partners. Since inception the CURE portfolio pro-forma IRR based on invested equity is 20.2% as of March 31, 2005 well above the NCREIF benchmark. 2005 ETI Policy (updated): collateral intent to stimulate economy: job creation, development and savings, business creation, increases to or improved affordable housing stock and improved infrastructure Competitive risk-adjusted rates of return Target: 2% of fund assets Provides collateral benefits to targeted geographic areas, groups of people or sectors of the economy while providing pension funds with prudent investments

11 CalPERS cont’d California Emerging Market Investment Program:
Investment opportunities in traditionally underserved markets in California while providing competitive risk-adjusted rates of return Investments included with similar investments in assets classes (fixed income, private equity and real estate) California Emerging Market Investment Program: Focuses on investment opportunities in traditionally underserved markets in California while providing competitive risk-adjusted rates of return Underserved markets include urban and rural areas undergoing or in need of revitalization where there are assets (e.g. an available labour pool, underutilized infrastructure) conducive to business development Investments are included with similar investments in assets classes including fixed income, private equity and real estate Equity or debt investments in: Companies with substantial business operations in an underserved urban or rural area Real Estate (office, retail, housing, industrial) located in an underserved urban or rural area Private equity: $2.8 B committed since 1999 (California Emerging Ventures) Over 130 companies have received financing. The first tranche is earning –4% IRR (1999); the second tranche is earning –8.4% (2000) and the third is earning –24.8% (2001)

12 CalPERS Case Study Pacific Community Ventures Investment Partners:
Invest in businesses such as Ever Green Lodge: San Francisco lodging business Goal of helping at-risk Bay Area youth/low income to develop stable careers and lives Employs 10 Bay Area youth and 60 low income adults a year in seasonal and year-round positions And Timbuk2 Designs CalPERS has $10 M in private equity investment invested in Pacific Community Ventures Pacific Community Ventures provides resources and capital to businesses that have the potential to bring significant economic gains to low-income communities throughout California. They are the first community development investment fund on the West Coast. PCV has $20 M under management, with $11 M in nine active companies. Food products and distribution, value-added manufacturing, business services and specialty consumer products They measure social returns in terms of the number of jobs with good wages, comprehensive benefits and marketable skills that portfolio companies are able to provide to low income individuals in California communities. 1,173 residents of low/moderate income communities employed since 2000 Average wage $12.78 per hour Evergreen Lodge is an 80-year old property located on 15 acres along the western border of Yosemite National Park. PCV investment in Evergreen helped support the lodge’s expansion from 18 to 70 cabins. (Invested in Evergreen May 2003). Timbuk2 Designs San Francisco based manufacturer of bicycle messenger bags, computer carrying cases and other urban-lifestyle bags and accessories Over the past 3 years, have evolved from cult status to an emerging lifestyle brand. August 2000 September 2002 investments by PCV 16 year old company Since PCV’s investment, the company’s annual revenue more than tripled. PCV earned nearly four and a half times their original investment in just three years. Lower income workers at Timbuk2 received a cash bonus through the Company’s Employee Wealth Sharing Program Plans to distribute more than $1 M to 40 employees. Over half of the employees receiving the payout work in factory and warehouse positions, and reside in low/moderate income communities targeted by PCV. PCV will conduct on-site financial management workshops for employees receiving cash payouts to help them understand options for investing and saving this money. October 2005 – private equity investors bought majority ownership of the company. VMG Equity Partners (San Francisco) Capital Logic Partners (Washington, DC)

13 New York City Pension Funds
5 pension funds; $85 B 1982 program ETI assets: $700 M Affordable housing, community facilities, small business Average 5 year returns: 8% Use intermediaries Government-guarantees 5 pension funds; $85 B ETI Program established in 1982 Current ETI assets: $700 M Financing for affordable housing (majority), community facilities and small business Fixed income program Primarily government-guaranteed investments (principle plus interest – 100% guarantee is the usual model) Average 5 year returns: 8% Full repayment of principle since inception (government guarantees) Use of intermediaries: Banks and CDCUs originate loans which are purchased by the funds BEAT THE BENCHMARK AND MANY PEOPLE ASK WHAT IS THE BENCH MARK – LEHMAN BROTHERS CASE STUDY CONDUCTED FUNDED BY THE FORD ROCKEFELLR FOUNDATION

14 General Board of Pensions and Health Benefits of the United Methodist Church
1990 program; 10% cap ETI assets: $600 M Affordable Housing 85% Community Facilities Lending 10% Other % Community Reinvestment Fund Average 5-year returns: 8.4% Use intermediaries $13.5 B fund 1990 program: $600 M in Affordable Housing and Community Development Program Commitments for 10 % cap Work through intermediaries Business case: Asset-liability matching Market mis-pricing creates opportunity for premium Lehman Non-Call Agency Index benchmark (managed as any fixed income investment) 5-year returns (2005): 8.4% versus 7.3% index Returns since inception (1990): 7.2% versus 7.1% index (differential due to change in accounting policies over 15 years) Portfolio: Affordable Housing 85% Community Facilities Lending 10% Child Care, Charter Schools, Community Health Facilities, Supportive Housing Other 5% Community Reinvestment Fund MORE ON THIS LATER Non-profit facilities and commercial lending in low and moderate income areas Triple A rated; $4.5 M; approx. 5% coupon; 6 year average life 50% of what they do is triple A; 30% is unrated and plan to be doing more unrated in the future b/c they are growing the program They have made a decision to take on more risks over the life of the program; expect to be 100 bp over long term basis related to benchmark Intermediaries include: Community Development Trust, New York Enterprise Mortgage, Baltimore Community Reinvestment Fund, Minneapolis The General Board is located in Evanston, Illinois The have ETIs in all states

15 The Church Pension Group (Episcopal Church of America)
$7.5 B in assets 2000 program ETI assets: $152 M $117 M in urban development equity real estate $20 M in low income housing mortgages $15 M in international micro-finance Returns comparable to asset class on a risk-adjusted basis $7.5 B in assets $2.5 B in fixed income, $750 M in real estate Community development investments for 5 years Commitments to date: $117 M in urban development equity real estate $20 M in low income housing mortgages $15 M in international micro-finance Returns comparable to asset class on a risk-adjusted basis

16 Analysis of US ETI Experience
5 – 24 years Under-invested markets affordable housing community facilities small business international micro-finance Allocation caps Comparable returns Intermediaries ETI policies from 5 – 24 years old Purpose: To finance under-invested markets, e.g. affordable housing, community facilities, small business, international micro-finance Primarily low-income housing Allocation cap: .8% - 10% of fund assets; 2% common Comparable returns to asset class Work through intermediaries

17 US ETI Product Example Community Reinvestment Act Qualified Investment Fund Supports community and economic development 5.04% 5-year returns (12/31/05); 5.60% since inception (8/30/99) $660 M, 300 institutional shareholders (Dec. 05) Portfolio: Affordable Multi-Family Housing % Affordable Home Ownership Enterprise Development Economic Development Affordable Health Care Community Reinvestment Act Qualified Investment Fund Largest US fixed-income, community investing money manager Aims to deliver competitive financial performance while supporting community and economic development in US neighborhoods (housing, health care, job creation, green facilities and brownfield redevelopment) $660 million under management, 300 institutional shareholders Has purchased $1.2 billion in securities for community development Majority of portfolio has a guarantee (e.g. fannie mae, freddy mac, ginnie mae, FHA, SBA, etc.) Average credit quality of Triple A Enterprise development loans: low and moderate income communities with an emphasis on minority census track 110,000 affordable rental housing units 3100 home mortgages 24.3 M in affordable healthcare facilities $107.6 M in community development activities including neighbourhood revitalization $182.9 M in down payment assistance and statewide homeownership programs $51.6 M in job/training creation programs Investments are across the US

18 US Community Development Lenders (Intermediaries)
800 – 1,000; $8 B Serve under-served Rural, urban and reservation-based Risk management: adequate capital loan loss reserve close monitoring technical assistance .7% charge-off ratio (Banks .97%) U.S. COMMUNITY DEVELOPMENT LENDERS: COMMUNITY DEVELOPMENT FINANCE INSTITUTIONS 800 – 1,000 in US; $8 B in assets Banks, credit unions, loan funds, micro-enterprise lenders and venture capital funds that serve individuals, businesses and non-profits not served by conventional banks Work in rural, urban and reservation-based markets Manage risks through combination of equity capital, loan loss reserve, close monitoring and technical assistance Net charge-off ratio of .7% (Banks .97%) – f.y data for 442 CDFS who participated in the survey

19 Failed ETIs High profile losses in 80s
Standard investment rules were not practiced Social benefits drove investments; market rates were secondary e.g. Pennsylvania state employees’ and public school employees $70 M investment in an in-state Volkswagen plant in the early 1980s Alaska public employees’ and teachers’ retirement systems $165 M loan for in-state mortgages in 1980 (35% of total assets), Kansas Public Employees Retirement System investment in direct placements in vaoious local businesses Connecticut pension fund $25 M (47% stake in the company) invesment in a distressed local firm in 1990.

20 Canadian Experience Caisse de Depot Concert Properties Quebec
Mapping project is underway Little is known No legal framework in Canada Expected because we don’t have a law on this Canadian law would look at ERISA as part of the precedent for this type of investing

21 Caisse de Depot New Act states the Caisse de Depot mission:
“To achieve an optimal return on capital …while at the same time contributing to Quebec’s economic development” In December 2004, the National Assembly of Québec amended the Caisse’s constituting statute considerably. For the first time since the Caisse was created, the new Act formally states the institution’s mission: “to receive moneys on deposit as provided by law and manage them with a view to achieving optimal return on capital within the framework of depositors’ investment policies while at the same time contributing to Québec’s economic development.” Past bad experience: CDP significantly underperformed its peers during the early 2000s. Reasons for this include: Open to political influence (government appoints CEO and board members) Overinvested in communications and technology (e.g. $2.9 B to keep ownership of Videotron in Quebec – this investment was ultimately written down to $435 M; the unit that includes Videotron lost 85% of its value in 2 years) Legislation did not clarify which of two mandates (returns versus economic development) took precedence Recently top quartile of pension fund performance

22 Concert Properties Over $800 M in assets Established in 1989
100% of fund in ETI projects: Assured rental housing Mandate to employ unionized trades people on job sites Property development company 20 pension plans are shareholders 2,580 assured rental housing units in last 16 years built or planned/under construction(Nov. 2005)

23 Quebec Chantier – social economy enterprises ($58.5M)
Fonds de Solidarite de la FTQ $12.0 M Fondaction de la CSN M Federal Government M Provincial Government M 6% return to pension funds after 15 years (flexible if prime goes up) 1 rep. each on a 5 person board Enterprises are charged a fee to create guarantee fund 1) Real estate fund – capital repaid when remortgaged in a ballon at the end 2) Revolving fund – no reimbursement of capital before 15 years – plans to create a secondary capital market that will provide liquidity for the pension funds.

24 Analysis Limited experience in Canada
Building Trades pension funds including carpenters in the 80s invested in real estate development to create union jobs. A number of Building Trades pension funds over-invested in real estate. Up to 3X over-invested in real estate. Daniel McCarthy, Canadian Director of Research and Special Programs, Carpenters Unions

25 Canadian ETI Product Example
CMHC: Canada Mortgage Bonds (CMB) Program (March 2005) Mortgage loan financing for social housing Principal guaranteed Most current bond, maturing 03/11, is yielding 12 bp over GOC; range from 8 – 15 bp 33% of investors are Cdn. pension and fund managers/advisors $78.05 B in pool CMHC: Canada Mortgage Bonds (CMB) Program (June 2005) Mortgage loan financing for social housing Principal guaranteed by government % coupon since inception 46% of investors are pension and fund managers (mix of Canadian and international investors) $54.45 billion in pool

26 Canadian CI Sector Over 150 organizations $546 M; $387.5 M in Quebec
Includes: Small loans to micro-businesses Risk capital to SMEs Loans and equity for non-profits, co-ops and businesses meeting community needs Aboriginal Capital Corporations Mortgages or construction loans for low income housing No performance data Community Loan Funds Capital raised from individuals, charitable and civil society organizations Profile of existing CI investors?

27 Canadian Experience: Case Study
Ecotrust financed tuna fishing vessel $175,000 loan for 60 months Rate: Prime (5.25%) + 4% Difficulty qualifying for traditional credit: high risk industry inconsistent historical cash flow Benefits: increased jobs sustainable fishery EcotrustFinanced purchase of a tuna fishing vessel out of Merville, BC $175,000 loan for 60 months/amortized 120 months Rate: Prime (5.25%) + 4% Difficulty qualifying for traditional credit because a) high risk industry b) inconsistent historical cash flow. Benefits: increased jobs small fleet sustainable fishing practices in a sustainable fishery

28 Lessons Learned Trustee board level champions
External feasibility study Due diligence Effective partnerships Board level champions To build support with the board and consultants to consider targeted investing THE ROLE OF THE BOARD IS TO SAY “LET’S TAKE A LOOK AT THIS” – IT WILL NOT COME FROM THE PENSION FUND CONSULTANTS AND IT IS UNLIKELY TO COME FROM THE STAFF FOR A NUMBER OF REASONS – USU. B/C THE DUE DILIGENCE IS HIGH WHERE THE ACTUAL INVESTMENT AMOUNT IS SMALLER AND THEY ARE OFTEN NOT COMPENSATED FOR THIS TYPE OF ACTIVITY – THEY PERCEIVE WHEN THE INVESTMENT DOES WELL, NO ONE NOTICES AND IF IT DOESN’T DO WELL IT GETS ATTENTION –BOARD STARTS THE BALL ROLLING – BOARD LEVEL CHAMPIONS DON’T HAVE TO BE AN EXPERT – THEY JUST HAVE TO GET THE MANAGERS TO LOOK AT THIS SERIOUSLY IN THEIR OWN ORGANIZATION. ONCE A DECISION IS TAKEN TO UNDERTAKE AN ETI AND ISSUE AN RFP USUALLY A FEW VEHICLES OR MORE WILL RESPOND TO AN RFP External feasibility study – once the board agrees to take a look at targeted investment, pension fund internal staff are often asked to commission an expert study of these investment opportunities The study can take as much as a year to complete Based on the outside expert report, the board will choose the asset class and level of investment most appropriate for targeted investment given their current asset allocation and diversification targets Boards pick top quartile investment vehicles and stay out of investment selection Sensitivity to emerging trends provides early mover advantage in rapidly shifting markets Co-mingled, pooled funds with reciprocal targeting capability provide good opportunities to diversify targeted investment and reduce risk Comingled funds with professional management are one of the most successful ways of structuring ETIs DUE DILIGENCE EFFECTIVE PARTNERSHIPS THE FUNDS THAT HAVE MADE MONEY ARE THOSE WHICH HAVE FOLLOWED THESE STEPS – 6 FUNDS – ACROSS CASE STUDIES – THROUGH INTERVIEWS AND ACCESS TO DOCUMENTS IN ORGANIZATION.

29 Next Steps Conduct research Incorporate practices into SIPP
Risk mitigation Benchmarks Communicate “Fiduciary Duties, Investment Screening and ETIs: A Flexible Approach for Changing Times”, May 2005 Prudent process – demonstrate that care and diligence is applied in evaluating an investment decision: Conduct necessary research and obtain expert advice Incorporate practices into the plan’s investment policy Incorporate protective measures to reduce risk in the case of initial uncertainty about the potential risk associated with a particular investment, pension plans may allot a small portion of their assets consistent with a risk diversification strategy so that any possible losses will not materially impact the fund’s overall performance Establish benchmarks to measure performance Delegate responsibilities and monitor agents Provide trustees with the discretion to withdraw Communicate to plan members


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