On the same day last week that the Canada Pension Plan Investment Board released its annual report, the Financial Times published a long profile of Chris Hohn, the founder of the Children’s Investment Fund, one of the most profitable hedge funds of all time.

Anyone who read both would have been struck by the contrast. There was a note of defensiveness in CPP Investments chief executive John Graham’s annual letter, as he was obliged to explain why his approach to active management had fallen short of his passive benchmark for a third year in a row.

The Children’s Investment Fund, meanwhile, beat its rivals by a considerable margin last year. Hohn’s method is to make big bets on a relatively small number of dominant companies, including Canada’s railroad duopoly, CN and CPKC. Hohn reckons there are only about 200 companies in the world worth investing in, and that number is shrinking as artificial intelligence and climate change erode their defences. 

Hedge funds and pension funds are different, of course. But the contrast with Hohn is instructive. Markets have been rewarding investors who are willing to go all in on AI by betting on a relatively small number of large companies. 

Graham, who oversees CPP Investments’ stockpile of nearly $800 billion in assets, continues to believe a diversified portfolio will win in the long run. “Even though we watched the market run away from us through the year, we have greater conviction in diversification at the end of the year than we probably have [had] in years,” he said. 

In an interview with The Logic, Graham expanded on that conviction. He also elaborated on why he thinks Canada is becoming a more attractive place to invest, whether CPP Investments will be a buyer if Ottawa puts the major airports up for sale, and why the forthcoming Canada Investment Summit won’t be just a photo op.

This interview has been edited for length and clarity.

Reading between the lines of your letter, I got the impression that you knew how to play this market, but chose not to do it. 

We know where we’re quote-unquote underweight against the broader market. You have to make a decision whether you want to close all of that. To be clear, we have exposure to AI. We have exposure to technology. But we don’t have exposure at market weights. 

I know there’s a desire to reduce performance to a single number, and that’s relative performance. But we look at absolute return, because absolute return is what pays pensions. We [also] look at relative return. It’s an important component of understanding how you’re doing against a passive alternative. 

There’s a third component that certainly weighed on us this year, and that’s the purpose of the organization. The purpose of the organization is to contribute to the financial security and retirement of 22 million Canadians. Our mandate is to maximize return without undue risk of loss. So as we think about that third component, there are times when you might not be chasing one of the other components. We always try to jointly solve all three, but there are times when you may let the market run away from you—you may have a view that valuations are astronomical and may want to let them run away for a little bit, largely because of that third objective. 

The logical conclusion, then, is that you think we’re likely heading for a crash. 

I wouldn’t use the word “crash.” We do have a belief, if you look at over 100 years of markets, and if I look over the past 20 years of [me] being here, I would say that “this time is different” is zero for 10. 

Reversion to the mean is a pretty powerful force. I think what we’re saying is that over the long-term there are very rational behaviours, but the market can go on like this for a very long time. A very long time. 

You said in your annual letter that you challenged your assumptions. What was the trigger? 

We do it all the time to a certain extent, but we dug in a little deeper with AI. The fan of outcomes on what AI is going to be is pretty big. Markets are pricing in a certain path, and that’s really where we were challenging ourselves. How do we participate in this? 

We certainly do participate in it, but still also have to ensure that we have resilience in the fund. Some of the valuations—for an organization that has a bit of a value bias and focuses on cash flows, I think it challenges some of our fundamental valuation models. 

Say more about that. 

We’re typically a cash flow-based investor, understanding the price of cash flows. We’re not a wealth-maximizing vehicle. We’re a pension plan. There’s a liability stream that we have to make sure we take into consideration. 

So how are you thinking about AI? 

Where we’ve been more deliberate is data centres, investing in “picks and shovels.” We have small investments in a lot of the big model providers. An outstanding question is whether [AI] is winner-take-all: are there going to be lots of different winners in this market? And then we have exposure to some of the other core infrastructure providers. 

Private equity seems to have tripped you up. What happened to the private equity story? 

Every asset class has its moment in the sun and its moment in the shade. Private equity had a long moment in the sun and it’s been one of the big drivers of return over the long term. But private equity has had a challenging couple of years. Some of that stems from post-COVID. You had a lot of transaction activity, and then not a lot of distributions, so these portfolios started to age and the model needs to have a little bit more churn in it. 

And then you had the ChatGPT launch. A lot of these assets were put in the book before AI was a thing. So you layer on top all of the uncertainty that was created around software and in the software space over the past little while. 

What about geography?

Diversification is an act of humility. North America continues to be our biggest market. Our U.S. allocation was largely flat as a percentage basis year-over-year. We’re always trying to challenge ourselves on emerging markets. 

[The U.S.] is the deepest, most liquid capital market in the world. It has the deepest set of opportunities. What is important, getting back to turning the portfolio, is if you sell something, you have to be buying something. So if we want to sell U.S. assets, what do we want to buy? There is no safe harbour in the world right now, so you have to think about what that pair trade would be. We look at our U.S. allocation, we think it’s about right. The passive allocation would be 70 per cent, so call it high 40s [overall]. We think that’s about right for who we are. 

How do you approach credit? Everyone is issuing debt. 

We’re still constructive on private credit. We still believe it’s an important component of the ecosystem, where private credit matches the duration of the capital with the duration of the investment. It tends to be money from institutional investors, it tends to be locked up and you have illiquid paper on the other side. Private credit tends to have less leverage than the banking system, and it’s not systemic in the same way. 

There’s also a symbiotic relationship between private credit and banks, in that private credit wants the asset, not the customer. The bank wants the customer, not the asset. 

We don’t allocate to private credit versus public credit. We actually just allocate to credit, and then the team can move between public and private where they see the best relative value. Whenever they see volatility in the market, they see it as an opportunity to be opportunistic.

How do you process geopolitics? 

Geopolitical risk has gone from page 10 of the memo to page one. 

Think about investing. Ten years ago, it was about following the money. It was about profit maximization. But industrial policy, national security and geopolitical tensions are having an impact on how capital is flowing. 

With geopolitics, the key thing is to try and figure out what is decision-useful, what’s actually going to change your mind on something. It is an area where there’s a lot of noise and it’s an area where it’s hard to find a signal. If you spend four hours talking about geopolitics, and [conclude] that it’s not going to impact the decision we’re making? It’s a big question whether it was a good use of time. 

What’s an example of a signal? 

The world is in an energy addition, not an energy transition. It’s one of the reasons we continue to invest in oil and gas, we continue to invest in LNG and we continue to invest in renewables. Five years ago, everyone was super keen on renewables. Over the past year, certainly in the U.S., renewables completely fell out of favour. We view some of the noise around renewables as that: noise. We have continued to develop renewables projects, including the largest renewables project in the Western Hemisphere, which is in the U.S., and continue to grow our renewables platform. It’s actually been a great investment, because valuations came way off because of all of this noise. 

The signal is a technology that has real long-term value. This war with Iran is going to accelerate renewables development. If you’re India, if you’re the U.K., if you’re parts of Europe, you just got another wake-up call that you have a dependency on energy supply and for national sovereignty reasons, you probably want to accelerate as much as you can into renewables. 

You said in your letter that Canada is becoming a more encouraging place to invest. Say more about that. 

Our pipeline in Canada is probably the deepest it’s ever been. Part of that is the ambition provincial governments and the federal government have around building things and around things like infrastructure. That leads to opportunities. It’s still formative at this stage, but we are seeing potential opportunities that weren’t on our radar a few years ago, both from potentially a privatization perspective and from a development perspective. 

This is where I ask if you’d buy an airport. 

Airports are a typical asset for institutional investors and we would certainly look at any airport that was quote-unquote for sale. But look, that’s a great example. As governments work through what they’re solving for, you’re going to have a lot of interest from institutional investors. They’re good assets. 

What other kinds of investments would be attractive? 

The one area where there’s a long history of participation is energy infrastructure, pipelines, LNG, these types of things. So energy infrastructure, I suspect, and because the country’s got a real competency in energy infrastructure, I think this is an area that will be fruitful in the near term. 

We’re clearly having a moment in Canada. The prime minister wants to build things. Does that put a little pressure on CPP Investments to help? Maybe loosen up your criteria and get behind what the prime minister and the provinces are trying to orchestrate? 

Short answer: No. We have a pretty direct marching order to maximize return without undue risk of loss. We have a pretty clear mandate that is enshrined in federal legislation. We are looking at these opportunities. We’re constructive. If they’re good opportunities, we’ll invest in them. 

Unlike OMERS and the other plans, [CPP] is only partially funded. Most of it is pay as you go. When they started CPP, it was 15 per cent funded, which means there was 15 cents for every dollar promised to Canadians. Now, it’s 40 cents. That funding ratio has improved because investment outcomes have consistently exceeded expectations in the actuarial projections. It’s to the point now that the federal government and the provinces decided to cut the contribution rate for CPP. That will put meaningful amounts of capital back into the Canadian economy.   

What’s the point of the investment summit? 

One of the questions I always ask around the world is, “How much do you have invested in Canada?” And the answer is usually less than one per cent, which means they’re actually probably short Canada. Canada hasn’t been on people’s radar for a while. But people are curious about Canada right now. The key now is to turn that curiosity into genuine interest. 

That’s the genesis behind the summit. Let’s have a conversation about what Canada has to offer. My personal belief on this is that longer term, what you want is competitive capital. What you want is domestic and global capital competing for opportunities. The U.S. is the most competitive market in the world for capital. It’s also been historically the deepest, best place to invest. We should never be afraid of competition, and competition will long term be beneficial for us. 

How do you whip up that kind of competition in a smaller economy like Canada?

If you have opportunities, they should be open to global capital. We shouldn’t be afraid to compete with anyone in the world—which we’re not.