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Surprises are great on birthdays. A nasty surprise on your retirement savings? That’s not acceptable.

As executives at Alberta’s flagship investment fund are finding out, shocking clients with unexpected, eye-popping losses in their pension plans kicks off calls for heads to roll. There are lessons here for anyone paying financial advisers to take care of their savings.

The government-owned Alberta Investment Management Corp. has disclosed to its customers – 31 provincial pension plans and endowments funds – significant pain from investments linked to stock market volatility. AIMCo lost an estimated $4-billion on this one strategy, in addition to turning in poor results on traditional stock and bond investments across its $119-billion portfolio. A supposedly sophisticated, well-paid fund manager is now privately acknowledging its executives were not fully aware of the risks they were taking.

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Virtually everyone with retirement savings lost money when markets tanked in late March. That’s acceptable, so long as everyone agreed in advance that things might go wrong. What’s deeply concerning is making a big bet – in this case, taking a view that stock markets would remain placid – and not being prepared for the consequences of that wager going wrong, as it did in late March when the S&P 500 index did its best impression of a yo-yo.

Sources at pension plans for 375,000 nurses, police officers and civil servants who must hand their savings to AIMCo say they are concerned the fund’s managers got too caught up in posting impressive performance numbers.

AIMCo clients say the fund manager failed to take all their needs into account, including a mandate to preserve capital and meet their retirement promise to members. Albertans with investment industry experience are offering blunt advice. Paul Walker, former pension fund manager for Calgary-based ATCO Ltd., said in an e-mail: “I would highly recommend that the chairman, CEO, CIO [chief investment officer] and CRO [chief risk officer] issue a public apology and resign with no exit packages.”

AIMCo acknowledges it lost money due to market volatility brought on by COVID-19, but isn’t commenting on its strategy and won’t release full results for the first three months of the year until mid-May. The fund briefed clients and the Alberta government on its recent performance. Based on clients’ accounts of those conversations, here’s a simplified take on what played out.

The Alberta government created Edmonton-based AIMCo in 2008 by knitting together public service pension plans and the $18-billion Heritage Savings Trust fund. Over time, staff with a quantitative approach – the numbers geeks, as opposed to traditional stock and bond pickers – came to dominate AIMCo’s ranks.

Several years ago, AIMCo rolled out a volatility-linked strategy that other large Canadian fund managers employed. (If these money managers are still using the approach, they also took out-sized losses in March. But no one else is owning up yet to taking a hit, and most public sector plans report results only once or twice a year. AIMCo sends performance data to clients quarterly.)

The easiest way to explain how AIMCo ran into trouble is to imagine, hypothetically, that the Alberta fund struck a deal with a Wall Street powerhouse we will call Megabank.

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Megabank holds massive inventories of stocks as part of its trading with clients. Megabank wants to avoid losing money on that inventory if markets move suddenly. So Megabank agrees to pay a fee to a deep-pocketed investor – AIMCo – in return for what amounts to insurance against market swings. The two sides typically agree to six-month derivative contracts, after which AIMCo would pay Megabank several-million dollars for each percentage point of movement outside a relatively tight range in what’s known as the CBOE Volatility Index (VIX). Conversely, Megabank pays AIMCo millions of dollars if the VIX stays in that range.

AIMCo clients and investment bankers who work with the fund say this strategy paid off handsomely – until it didn’t. The Alberta fund earned 6- to 7-per-cent returns on volatility-linked investments. Then came an oil price war and COVID-19. Volatility, measured by movement in the VIX, exceeded records set in the 1929 stock market crash.

Again, we get back to the issue of expectations and risk. Say that AIMCo told clients it used a volatility strategy that earned, hypothetically, an average of $200-million annually over 25 years. The catch: this strategy would lose $4-billion once every 25 years when markets went off the rails. AIMCo customers would be thrilled. They’re all long-term investors, and over time, they’d be up about $1-billion.

But AIMCo delivered a very different message in early April. Clients say when the fund manager disclosed the volatility-linked loss, it also said it was terminating the strategy and acknowledged its risk management fell short of expectations.

Performance is a continuing problem for AIMCo. The fund’s biggest customer is the $50-billion Local Authorities Pension Plan (LAPP), which covers health-care workers. LAPP recently said AIMCo failed to meet its performance benchmark for 46 consecutive quarters, or 11 years and six months. In 2016, the University of Alberta reviewed the decision to build one provincial fund manager. “The major beneficiaries of the transformation appear to be the senior managers and particularly the senior executives of AIMCo, whose pay has increased significantly [since 2008],” said study author Robert Ascah, an economics professor.

AIMCo’s chief executive officer and chief investment officer made $3.4-million and $3.6-million respectively last year.

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The report continued: “Unfortunately, there were no clear, public performance standards established for AIMCo as a whole and therefore no public assessment or debate of the success of the AIMCo corporatization project.”

Alberta Premier Jason Kenney announced plans last year to move an $18-billion teachers’ pension plan into AIMCo, and has talked about shifting the province’s Canada Pension Plan contributions to the fund manager. AIMCo needs to offer Albertans a retirement free of unpleasant surprises if it wants to keep managing their savings.

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