The Pension Investment Association of Canada is urging the federal government to open a comprehensive consultation regarding the cessation of real return bonds.
In an open letter, the PIAC said the decision was made without extensive consultations with the primary purchasers of real return bonds, including pension investors.
While real return bonds have typically exhibited a lower level of liquidity than nominal bonds, noted the letter, this doesn’t mean there’s low demand for the products. Indeed, it said institutional investors typically use real return bonds as part of a buy-and-hold strategy for the purpose of matching cash flows against future benefit payments indexed to inflation.
“This decision was made without a fulsome consultation or warning and impacts our members’ ability to responsibly invest and manage the pension entitlements of hard-working Canadians,” wrote Don Andrews, deputy executive director of the PIAC, in the letter.
In the current inflationary environment, real return bonds have a heightened significance as a tool for pension plans to meet their obligations to their members, as they provide the most direct and cost-effective inflation hedge for pension liabilities linked to Canadian inflation, said the letter.
“Effectively, the decision has created a ‘dead asset,’ handcuffing pension plans that are looking to build liquidity through inflation-sensitive assets. More importantly, as stated by the Canadian Bond Investors’ Association, bid-ask spreads are substantially wider and some maturities have become untradeable making market data for calculating risk limits unreliable.”
The PIAC also said the worsening market data may affect the ability of pension funds to use real return bonds as collateral in secured funding transactions or margining. “The issuance cessation reduces the diversity of assets available to pension plans and will push plans to seek less correlated alternative investments in potentially riskier markets.
“Without a product linked to Canadian inflation, the extra cost from managing alternative investments will ultimately be passed down to Canadian workers.”