In recent days, a controversy flared up, or was orchestrated, when it came to light that some Canadian pension and other institutional investment funds may have owned shares in an American prison-management company called GEO, and another one called CoreCivic. These firms operate prisons or detention centres in the United States. They also run rehabilitation and other functions in the criminal justice system in the US, which, given that it incarcerates more people than anywhere else in the world, is a huge enterprise, if not constituted formally as a business, as such. All government contractors face scrutiny and possible controversy, but similar ‘contracting out’ in this sector may increase going forward, as it often saves money.
These firms have run into unpleasant publicity as a result of being entwined in the volatile and politically fraught US southern border migration crisis. They have also been accused of undue influence over state-level and other politicians in encouraging ever-more harsh sentencing, which increases the need for more prison space and associated services. If true, such behaviour and actions should be rigorously investigated, and if they are criminal in nature, those responsible ought to face prosecution. However, that is not the same thing as categorizing such firms, and the functions they perform, even if legal, as inherently immoral or unethical. Yet that is exactly what some critics on the left are saying, sometimes explicitly.
The Canada Pension Plan Investment Board has a daunting task: invest the payroll contributions of millions of Canadians in financial instruments and other assets that will return a substantial income or capital gain over time. They need to meet actuarial requirements so that pensioners will have an annual income that will support basic living expenses when they retire, and that the federal government, and its taxpaying public, will not have to make up for any shortfall the CPPIB may have regarding those obligations.
Pension funds have a wide array of potential investments, but it is not an unlimited number. They can buy government or corporate bonds; commercial or residential mortgages; real estate; equity in private companies or buyouts of public firms; venture capital; infrastructure such as ports, airports, highways, transit systems, bridges or tunnels; royalties in firms, inventions or mining or oil and gas assets; contracts for commodities; futures and options; and some more unconventional sorts of assets.
As they are very large, in the tens, or, in the case of the CPPIB, hundreds of billions of dollars in deployable money, they are shut out of smaller companies entirely, and out of some government-related areas for conflict of interest reasons, and many countries due to political risk. Investment policies that restrict their potential investments curtail many further investments; eg., gambling, alcohol, tobacco or armaments firms, in the cases of some fund managers.
Pension and other large institutional fund managers must also diversify their risks, and not just geographically or by industry or asset category. They frequently do so by ‘investment style’. There are several recognized styles, including value, growth, index, ‘tilted index’, and a few others. There are also methods which are not strictly speaking ‘styles’, such as quantitative, high frequency, and algorithmic.
The latter two methods use ‘machine learning’ or similar techniques to use whatever factors and previous share price movements to predict small changes up or down that can be profitable. These techniques are completely blind and ‘agnostic’ as to what securities they may invest in, and many hold them for just a few days, weeks or months, or even fractions of a second for the most liquid stocks, bonds, currencies or commodities. It may be difficult to exclude certain companies that have been imbued with a scarlet letter by various virtue-signalling activists, and regardless would reduce the number of choices available to the fund manager or program trading, with the negative consequences falling upon CPP contributors.
In the particular case of the CPPIB, they owned the two disfavoured stocks for relatively short periods of time as part of a indexing or trading strategy. If those stocks were to be disallowed, they would not be able to implement that strategy as planned, and there could have been an unsatisfactory return on the whole segment of their portfolio that was allocated to that strategy. That would jeopardize the returns the manager is trying to make to satisfy the needs of the pension plan itself.
While this may seem to be a relatively small matter, as these are just two mid-sized companies out of the hundreds that CPPIB is still able to buy, there could be other objections made to investing in other companies that have similar or other types of controversial aspects to them. Certainly, there is now a very long list of them: coal mining firms, utilities that burn coal, oil and gas producers, mining companies of any kind, firms that invest in countries with repressive or corrupt governments, firearms manufacturers, defense contractors, opioid manufacturers or distributors; gambling, gaming or casino companies; adult entertainment companies; alcohol, tobacco or cannabis firms; sugar – or fat – laden food companies; companies with troubled employee relations or safety records.
The list can be expanded almost indefinitely; there are always more companies that have either questionable products or services, operate in a dubious way, or sell, source or invest in troubled places. The burden should be on the would-be moral arbiters of how we all live and invest to show tangible evidence that a company is truly a criminal enterprise that should be prosecuted; or, if not, that it should be a valid potential investment for pension funds, so that they have as wide a variety of choices available to them to ensure that their task of making sound investment decisions is not made difficult if not impossible. Our future pensions and economic growth depend on it.