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Canavan on mitigation banking: ‘the value of being first’

NMERB real assets senior portfolio manager Mark Canavan tells Agri Investor why he has invested in Ecosystem Investment Partners' mitigation banking vehicle, and what he thinks risk really is.

Mark Canavan, senior portfolio manager of real assets at the New Mexico Educational Retirement Board (NMERB), told Agri Investor the pension has committed an additional $50 million to mitigation banking investment vehicle Ecosystem Investment Partners (EIP) Fund III.

We caught up with him to get his take on the sector’s risk profile, returns and find out whether the pension plans to commit more in the future.

Why do you invest in mitigation banking, or as many people call it, carbon markets?

I wouldn’t invest in simply a low carbon strategy. Carbon was never the purpose of mitigation banking or conservation forestry. Mitigation banking is third-party environmental remediation to offset negative impacts on streams, lakes, wetlands, an area’s general hydrology, endangered species and habitat. It is easily underwritten, return attribution is simple, and the industry has 40 years of federal statutes, rules and regulations.

We anchored EIP’s first and second funds, and are going forward with this [$50 million investment] because I consider it a highly pragmatic solution with a great deal of underlying validation.

What are your allocations for mitigation banking?

We are the first institutional investor that I know of with a stated allocation to mitigation banking in our policy. Mitigation banking can take up as much as 30 percent of our overall natural resources allocation, which is 4.5 percent, and [makes up] or 1.35 percent of our entire pension. We have $26 million invested in mitigation through funds, co-investments and, to a lesser degree, separate accounts. One way is through EIP, to which we recently committed an additional $50 million, with payments to be staggered over three years.

Mitigation banking might still be considered relatively new and risky. Where do you stand on this?

It has exceptional unleveraged rates of return, the science behind it is solid, [and it is] deeply entrenched in a stable regulatory environment. We invested in mitigation banking specifically because nobody else knew what it was. We love that. By definition, if people aren’t aware of or are afraid of something, there is more pricing inefficiency to take advantage of in that market.

This gets to the question of what risk really is. A lot of my peers think of risk as the variability of return of an asset class. There is some reality to that. But my idea of risk is that when everybody is rushing into an asset class because it has low volatility, then that is when there is more embedded risk. We don’t believe in momentum investing. When opportunistic investing is a pariah and investors are scared to death of distressed debt markets because of high volatility, then that is when that asset class has a lower risk. We attempt to be contrarian and understand the value of being first, as was the case with mitigation banking.

How do you see your future strategy in this area?

After a presidential memorandum that came out in November last year, it has become clear that there is going to be more focus on these types of investments, and that the government will increase regulation that takes into consideration the economic needs of the sector. As a result, we will be more active this year in conservation, mitigation banking and water.