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

DBRS Limited (DBRS Morningstar) confirmed the Issuer Rating of the Ontario Teachers’ Pension Plan Board (Ontario Teachers’) at AAA. DBRS Morningstar also confirmed 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 the Ontario Teachers’ Pension Plan (the Plan) sponsors to be responsive to deteriorations in funding status, and impose high standards of care and prudence on Ontario Teachers’ board and management. The ratings are further supported by the Plan’s fully funded status on a going-concern basis for 10 consecutive years, substantial net assets and liquidity, strong long-term investment returns, and low recourse debt burden.

Ontario Teachers’ achieved a net return of 4.0% in 2022, outperforming its benchmark of 2.3% by 180 basis points (bps). Despite the high inflationary environment and the rapid rise in interest rates that led to losses in major stock and bond indexes, Ontario Teachers’ early investment strategy to reduce exposures to fixed income asset classes in favour of ones that offer some inflation protection positioned it well to weather the inflation shock. Double-digit returns in inflation-sensitive assets and infrastructure more than offset losses in public equities, fixed income, real estate, and innovation asset classes. As a result of the net positive investment results, net assets rose by $5.6 billion to $247.2 billion.

Debt with recourse to Ontario Teachers’ rose in 2022 to $26.7 billion or 9.8% of adjusted net assets. During 2022, OTFT issued four senior unsecured notes, including a green bond. Recourse debt remains low compared with total net assets, providing considerable room for cyclical fluctuations in asset values. DBRS Morningstar notes that Ontario Teachers' 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’ CP Programs.” Ontario Teachers’ 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.

Ontario Teachers’ primary challenge continues to be the Plan’s demographics. The ratio of active-to-retired members has continued to track lower, standing at 1.2 times (x) in 2022, and is expected to continue to fall in the future. The aging demographics result in growing net pension payments (contributions minus benefit 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. Furthermore, to mitigate risk relating to increasing net pension payments, Ontario Teachers’ has been increasing its capital allocation to private assets, which tend to provide more predictable income.

The Plan's funded status on a financial statement basis changed to a $41.0 billion surplus in 2022 from a $15.9 billion deficit in 2021, mainly resulting from a 180-bp increase in the discount rate, which lowered the valuation of the pension liability. On a going-concern basis, the Plan has been fully funded for 10 consecutive years. The Plan sponsors filed the funding valuation in 2022 and classified the $17.2 billion surplus as a contingency reserve, maintaining the average contribution rate at 11% and the 100% inflation protection on all pensions. As of January 1, 2023, the Plan had a preliminary surplus of $17.5 billion. The January 1, 2023, valuation is not required to be filed with the regulatory authorities, but the Plan sponsors have recently elected to do so, with the surplus again being classified as a contingency reserve.

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

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factor(s) that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings (May 17, 2022).

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

The principal methodologies applicable to the ratings are Rating Canadian Public Pension Funds & Related Exclusive Asset Managers (April 27, 2023; https://www.dbrsmorningstar.com/document/413011) and North American Structured Finance Flow-Through Ratings (November 22, 2022; https://www.dbrsmorningstar.com/research/405619).

Other methodologies referenced in this transaction are listed at the end of this press release.

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 rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the rating process for this rating action.

DBRS Morningstar had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

This is a solicited credit rating.

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The rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

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