Real estate taking up more room in Canadian pension funds

TORONTO — A new report from RBC Capital Markets highlights the increasing dominance of Canadian pension funds in the real estate sector globally.

The position of pension funds, which own such Canadian real estate landmarks as the Yorkdale Shopping Centre and the TD Centre in Toronto, continues to grow and the top 24 Canadian pension funds now own $188 billion of real estate, according to RBC analysts Neil Downey and Michael Smith.

Allocation of real estate now amounts to 13 per cent of the total investments of $1.5 trillion at those funds.

“Real estate allocation targets have continued to creep higher, and we believe they may reach 14 per cent to 16 per cent over the next five years,” the pair write in a report to clients. “Canadian pension plans are a major force in the domestic investment property market. Over the past two decades, the biggest plans have had a growing influence on direct property investment around the globe.”

Downey and Smith say the pension fund liabilities have been dramatically affected over time by historically low real interest rates, changing demographics, higher life expectancy and longer retirements and the fact that some plans are maturing to the point whereby their tolerance for volatility or risk is likely diminishing.

“(Pension funds have) some genuine competitive advantages, including a typically constant and predictable stream of contribution inflows for many years to come, and the ability to invest for the long term,” they write.

Those plans are aggressively turning to real estate. Between 2004 and 2016, total plan net assets grew to $1.5 trillion from $485 billion, a long-term compound annual growth rate of just under 10 per cent. During the same period property investments jumped to $188 billion in 2016 from $32 billion in 2004, a compound annual growth rate of about 16 per cent.

“With the growth rate of real property investments dramatically outpacing growth in total plan assets, the results has been a longterm trend towards higher real property allocations. More specifically, the collective allocation to real property for the 24 funds has increased from 6.6 per cent in 2004 to 12.9 per cent in 2016,” Downey and Smith write.

The aggregate target allocation of those 24 plans was actually 13.3 per cent, so they are still about $5 billion under-allocated to real property.

The report notes that over time pension funds are increasing allocation to real estate – it jumped 365 basis points in the last 10 years, or from 9.7 per cent to the current 13.3 per cent.

“Even in the past three years this target investment allocation has continued to ‘creep’ higher by approximately 100 basis points,” they say. “We expect the upward trend in target allocations will continue, albeit at a slow pace, to somewhere in the 14 per cent to 16 per cent range over the next five years.”

The gains in real estate allocation compares with a decline in pension fund exposure to listed equities. Investments in listed equities have increased from $297 billion in 2006 to $551 billion in 2016 but their allocation has declined by about 740 basis points, from 45.2 per cent in 2006 to 37.8 per cent in 2016.

“Much of the growth in real estate and infrastructure investments has come at the expense of growth in listed equities,” says the report.

Canadian pension plans are a major force in the domestic investment property market.” RBC Capital Markets report