DBRS Morningstar Confirms Ontario Teachers’ Pension Plan Board at AAA, CFFT at AAA, and OTFT at AAA and R-1 (high), Stable Trends

DBRS Limited (DBRS Morningstar) confirmed the Issuer Rating of the Ontario Teachers’ Pension Plan Board (OTPP or the Plan) at AAA. DBRS Morningstar also confirmed Cadillac Fairview Finance Trust’s (CFFT) Debentures rating at AAA as well as Ontario Teachers’ Finance Trust’s (OTFT) Long-Term Notes, Canadian Short-Term Promissory Notes, and U.S. Commercial Paper (CP) Notes ratings at AAA, R-1 (high), and R-1 (high), respectively. All trends remain Stable. The ratings are supported by the strong legislative and governance frameworks that create a highly captive asset base, require Plan sponsors to be responsive to deteriorations in funding status, and impose high standards of care and prudence on OTPP’s board and management. The ratings are further supported by the Plan’s fully funded status on a going-concern basis for seven consecutive years, substantial net assets and liquidity, strong investment returns, and low recourse debt burden.

OTPP has a strong and stable management team as many members of senior management have been with the organization for many years. The board began a succession plan in 2018 for the President and CEO, which was completed in 2019 with the appointment of Jo Taylor, effective January 1, 2020. Mr. Taylor joined OTPP in 2012 and has more than 35 years of extensive global investment experience.

OTPP achieved a net return of 10.4% in 2019, underperforming its benchmark (BM) by 180 basis points. The high return was largely driven by strong performance in equities and fixed income. Although all asset classes delivered strong results, the Plan's underperformance compared with its BM was primarily because the BM includes publicly traded companies, which rallied during the year. As a result of the investment results, net assets rose by $16.3 billion to $207.4 billion. Despite the large increase in net assets, the Plan’s deficit on a financial statement basis surged to $17.3 billion in 2019, mainly driven by a reduction in the discount rate, which increased the valuation of the pension liability. On a going-concern basis, the Ontario Teacher’s Pension Plan has been fully funded for seven consecutive years and had a preliminary surplus of $6.1 billion as of January 1, 2020. The recent funding surpluses have enabled Plan sponsors to fully restore benefits and lower contribution rates. With the decision to file the funding valuation in 2017, Plan sponsors fully restored inflation protection for post-2009 pension credits and also ended the 1.1% special contribution rate for the Plan’s active members, which was scheduled to finish in 2026, reducing the contribution rate to 11% on average. With the decision to file the funding valuation in 2018, Plan sponsors classified the $10.3 billion surplus as a contingency reserve. Although the January 1, 2020, valuation is not required to be filed with the regulatory authorities, the Plan sponsors have decided to do so. They have also decided to classify the surplus as a contingency reserve. The filing will be completed prior to the end of September.

Debt with recourse to OTPP rose in 2019 to $16.5 billion or 7.4% of adjusted net assets. During 2019, OTFT issued USD 1.75 billion, five-year senior unsecured notes with a 1.625% coupon. Recourse debt remains low compared with total net assets, providing considerable room for cyclical fluctuations in asset values. DBRS Morningstar notes that OTPP continues to meet DBRS Morningstar criteria for CP liquidity support as outlined in the appendix to the “Rating Canadian Public Pension Funds & Related Exclusive Asset Managers” methodology titled “Self-Liquidity for Canadian Public Pension Funds and Related Exclusive Asset Managers’ Commercial Paper Programs.” OTPP’s liquidity position remains sound with sufficient same-day available funds equal to at least five business days of upcoming liabilities and discounted assets equal to the remaining maximum authorized CP program limit, which is consistent with DBRS Morningstar’s policy on backup liquidity support for pension plans and provides considerable short-term financial flexibility.

In 2019, OTPP continued to deliver on the OneTeachers’ investment strategy, focusing on total fund returns, value-added returns and volatility management.

OTPP’s primary challenge continues to be the Plan’s demographics. The ratio of active-to-retired members has continued to track lower, reaching 1.3 times (x) in 2019, and is expected to continue to fall in the future until it stabilizes at around 1.0x. The aging demographics result in growing net pension payments and reduced ability to equitably offset significant investment losses through contribution increases. To help mitigate the risk of its declining active-to-retired ratio, the Plan sponsors introduced conditional inflation protection in the Plan in 2008, which promotes intergenerational equity by allowing retired members to share the risk of a funding shortfall along with active members.

The rating includes additional analysis on the expected performance as a result of the global efforts to contain the spread of the Coronavirus Disease (COVID-19).

DBRS Morningstar expects the ratings to remain stable, given the current outlook for the Plan’s funding status.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

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

The principal methodology is Rating Canadian Public Pension Funds & Related Exclusive Asset Managers (April 27, 2020) which can be found on dbrsmorningstar.com under Methodologies & Criteria.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

For more information regarding structured finance rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/358308.

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 under Related Documents or by contacting us at info@dbrsmorningstar.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

The full report providing additional analytical detail is available by clicking on the link under Related Documents below or by contacting us at info@dbrsmorningstar.com.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at info@dbrsmorningstar.com.

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