DBRS Confirms PSP Capital Inc. and Rates Its Term Notes at AAA

DBRS has today confirmed the Issuer Rating of Public Sector Pension Investment Board (PSPIB or the Fund) at AAA, along with the Medium-Term Notes and Short-Term Promissory Notes issued by PSP Capital Inc. (PSP Capital) at AAA and R-1 (high), respectively, all with Stable trends. Furthermore, DBRS has assigned a provisional rating of AAA with a Stable trend to the proposed Series 5 Medium-Term Notes (the Notes) issue of up to $600 million of PSP Capital. PSP Capital is a wholly owned subsidiary and principal financing vehicle of PSPIB. The Notes are unconditionally and irrevocably guaranteed by PSPIB and rank pari passu with all other present and future unsecured and unsubordinated obligations of the Trust. Net proceeds will be used to partially refinance $1 billion in maturing term debt.

The Fund had another strong showing in fiscal 2013, posting an investment return of 10.7%. This was a solid 208 basis points above the benchmark return, with particularly strong value-added performance in the private market portfolios. Despite lingering economic uncertainty and market volatility, only the international large cap equity mandate trailed its benchmark, but it still posted a solid double-digit return for the year. The Fund has now beaten its benchmark in eight of the last ten years and has generated returns well in excess of its long-term required rate of return over this period. Such results are commendable considering the persistent volatility that has permeated financial markets, particularly over the last five years. A combination of healthy investment performance and continued positive net contribution inflows from the four depositors helped to drive net assets higher by 18.1% to $76.1 billion by March 31, 2013. DBRS notes that PSPIB has no direct responsibility for the obligations faced by the depositors in relation to the benefits owed to their members, which greatly reduces the volatility of PSPIB’s net asset position.

In early 2013, PSP Capital initiated a USD 3 billion U.S. commercial paper (CP) program, of which USD 1 billion was outstanding as at fiscal year-end 2013. As expected by DBRS, total recourse leverage rose by 25.4% to $5.5 billion or 6.7% of adjusted net assets at March 31, 2013, up from 6.3% in the prior year, but still consistent with the Fund’s internal limit on recourse debt usage of 10% of adjusted net assets. Along with the new Notes, DBRS expects PSP Capital to scale back its Canadian CP program, while increasing the usage of the U.S. CP program, which together will drive recourse debt higher by fiscal year-end 2014. To help mitigate rollover risk, PSPIB has prudently initiated a debt amortization fund, which will accumulate funds sufficient to repay any maturing term debt series. Going forward, recourse leverage is expected to grow at roughly the same pace as assets under management, but will remain well below the 10% limit, leaving an operational buffer. This debt limit is consistent with other issuers in the sector and provides resilience to the credit profile.

The Fund continues to execute on its strategy to diversify into less-liquid, private market assets, which it believes better serve the inflation-sensitive nature of the underlying pension plans’ long-term liabilities, and allow it to capitalize on its favourable net contribution position. These assets now account for roughly 27% of the total portfolio and are expected to gradually grow to a target weighting of 42%, which is likely to drive recourse leverage up over the medium term. Internal active management also continues to be a focus for the Fund, with 73% of assets now managed internally. PSPIB employs prudent risk liquidity management practices, with adequate policies, procedures and systems in place to quantify and track risk levels. Adjustments are regularly made to the way risk is tracked to align with changing market conditions and account for changes in the portfolio’s composition. Furthermore, the use of repos is currently limited to the fixed-income portfolio, largely to enhance returns in an opportunistic fashion, while derivative usage, though increasing, remains contained and is mainly for hedging purposes.

The Fund’s liquidity position remains robust, with liquid assets, as defined by DBRS, consistently exceeding $13 billion over the past fiscal year, a level which remains in accordance with the DBRS liquidity requirement and highlights PSPIB’s substantial financial flexibility. Bolstering this further is the expectation that the Fund will continue to receive net positive contribution inflows for at least the next 15 years, a favourable position relative to other DBRS-rated pension fund managers.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Rating Canadian Public Pension Funds & Related Exclusive Asset Managers, which can be found on our website under Methodologies.