Canada’s largest pension funds confront the dilemma of investing in China

Canada’s largest pension funds face a dilemma in China: The fast-growing superpower that is too large to ignore is becoming an uncomfortably risky place to make big investments.

As economic and diplomatic tensions between China and the West have risen, fund managers are treading more cautiously around the world’s second-largest economy. In subtle but significant ways, most of the eight largest pension-fund investors in Canada – the “Maple Eight” – have tempered their appetites for risk in China.

Some plans have put direct investments in the country on pause while they reassess risks. Others have trimmed their exposures and are sticking mostly to liquid public investments and index funds that allow for more flexibility to change course if necessary.

But they have so far stopped short of any major moves to pull out of the market. And most say they need exposure to emerging markets like China and their favourable demographic trends to diversify pensioners’ investments and lower overall investment risks.

“As a global investor, we do feel it’s important to have exposure in China,” John Graham, chief executive officer of the Canada Pension Plan Investment Board (CPPIB), said in a May interview. “It’s important to understand the biggest economies in the world. And the way to understand them is to spend time studying them and investing in them.”

Canada’s pension plans are in the business of seeking out good risk-adjusted returns to make sure they can pay their obligations to pensioners over decades to come. And China is still in many ways a land of promise for large investors, though calculating the risks needed to earn those rewards has become much more complex.

For most large plans, investments in China have topped out at between 2 per cent and 3 per cent of assets – allocations that can still represent billions or even tens of billions of dollars. The CPPIB, as the country’s largest pension-fund investor, is an outlier and among the most bullish in China, with investments in the country accounting for 9.1 per cent of its $570-billion portfolio – or nearly $52-billion.

Given CPPIB’s size – it’s projected to have more than $1-trillion in assets by 2031 – its leaders say it is critical to spread investments across different countries, and it is still open to making new investments in China. Even so, CPPIB’s allocation to China has come down from 11.5 per cent in 2021.

“Are investors getting paid enough and is it a good enough risk-adjusted return?” Mr. Graham said. “Right now, we’re going through how we think about allocations to different asset classes in different countries around the world. And that’s exactly the question we’re asking ourselves right now, but I don’t have the answer.”

The Caisse de dépôt et placement du Québec has about 2 per cent of its $402-billion in assets invested in China, a proportion that has stayed mostly steady over the past five years. But the Caisse has not done any new, direct private investments in China for nearly a year and a half, and it is staying cautious.

Caisse CEO Charles Emond described the pension-fund manager’s strategy to The Globe and Mail as “one of being prudent while staying at a distance,” by investing mostly in public equities.

“We can come into public equities and get out, so more like rent as opposed to own China,” Mr. Emond said in a February interview. “There’s some sectors I wouldn’t get in even through public equities because they’re subject to tensions between the U.S. and China.”

The Public Sector Pension Investment Board, which manages $244-billion for the federal public service, Canadian Armed Forces and the RCMP, has about 3 per cent of its assets in China and an office in Hong Kong. Recently, PSP has raised the bar to approve new direct investments in the country, requiring signoff from a company-wide investment committee.

“We’re being selective and I think we recognize that the risks have increased in China,” CEO Deborah Orida said in a June interview.

Ontario Teachers’ Pension Plan has 2.3 per cent of its $247-billion in assets in China but has reduced its investment activities in the country, including pausing new direct investments since January. British Columbia Investment Management Corp. has also paused, and has cut its exposure to China and Hong Kong by about 15 per cent over two years, to less than 5 per cent of its $233-billion portfolio.

Teachers’ chose to pause new direct investments “based on a more complex and uncertain investment environment,” spokesperson Dan Madge said in an e-mail. “Our assessment is that there are sufficient opportunities elsewhere which offer similar risk-return characteristics that suit our investment objectives, mandate and purpose.”

Other large plans such as Ontario Municipal Employees Retirement System (OMERS) and Alberta Investment Management Corp. (AIMCo) have invested 2.5 per cent and 2.3 per cent, respectively, of their portfolios in China. Those investments are mostly through public markets and funds, and neither has direct investments in the country.

To date, no major Canadian pension plan has come close to pulling out of Chinese investments altogether. And most funds weigh their statements about China carefully – a sign of how sensitive relations are.

The U.S. and China are clashing over trade, technology exports, supremacy in artificial intelligence, Chinese spy balloons, Taiwan’s independence and the Russian war against Ukraine.

Canada’s own ties to China have been strained since the arrest in Vancouver of prominent business executive Meng Wanzhou in 2018, and Beijing’s subsequent detention of Michael Kovrig and Michael Spavor until Ms. Meng was released in 2021. More recently, Canadian intelligence officials alleged that China tried to interfere in Canadian elections, and Canada expelled a Chinese diplomat in a rare rebuke.

In one sign of how unpredictable the relationship has become, Bloc Québécois MP Denis Trudel asked pension-fund executives at a House of Commons committee meeting in May whether there is a risk that Canadian pension-fund assets in China could be confiscated. Michel Leduc, a CPPIB senior managing director, declined to speculate on what China may do, but said: “It’s something that we always have to brace ourselves for.”

Canadian politicians and advocacy groups have also grilled Canadian pension funds on ethical concerns hanging over potentially problematic investments in Chinese companies, often through popular index funds. Some of those companies have been linked to mass surveillance, sanctioned by the U.S. government or are alleged to use supply chains that rely on forced labour by China’s Uyghur minority.

One high-profile example is Tencent, one of China’s largest and most popular technology companies and owner of the ubiquitous messaging app WeChat. Tencent has kept a close relationship with the Communist Party even though it is nominally private, and its multifaceted apps help the government censor and surveil Chinese society.

Public filings show several large Canadian pension plans including CPPIB, the Caisse, BCI and AIMCo own stakes in Tencent or its subsidiaries, such as Tencent Music Entertainment Group, and have held them for years.

Mr. Leduc from CPPIB acknowledged that the way Tencent uses its technologies has changed since the pension fund made its investment nearly a decade ago. “It is something that we are seized with and are monitoring very, very closely,” he told MPs in May.

Spokespeople for several pension funds said their investments comply with applicable laws and Canadian sanctions, and they engage with index managers about holdings that raise concerns.

With the climate for investing in China more fraught than it has been in years, those conversations are only getting more difficult. “I’ve been in this game around global issues for three decades,” CPPIB’s Mr. Leduc said in an interview. “National interests, trade and economic competition have never been as tricky as they are today.”

With reports from David Milstead

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