Active managers faced rough start to 2008: Russell

So far, 2008 has not been kind to active investment managers in the institutional space, with less than 20% managing to outperform their benchmarks, according to the Russell Active Manager Report.

Not only is that a massive pullback from the already disappointing 41% who topped their benchmark in the fourth quarter of 2007, but it marks the worst quarter since 1999, when Russell began its performance tracking report.

The median large cap manager offered a return of -3.9%, compared to a -2.8% return on the S&P/TSX Composite.

“I would describe this environment as the most hostile I’ve ever seen. Two things really hurt active managers in the first quarter,” says Kathleen Wylie, senior research analyst at Russell Investments Canada. “The only two sectors with positive returns were energy and materials, but large cap Canadian equity investment managers were underweight in those sectors on average.”

Despite turmoil in the markets, Wylie says some of the hardest hit companies were those that value managers love the best: good companies with sound fundamentals, at reasonable valuations.

Surging commodity prices have driven energy and materials stocks skyward, to the point that these two sectors now account for almost half of the entire TSX index. Managers who underweighted their exposure to commodities found it virtually impossible to correct for gains made in these sectors.

“Most active managers are underweight in gold, and many do not own any gold stocks at all in their portfolios — that significantly hurt their benchmark-relative performance in the quarter,” says Wylie. The gold sub-index rose 8.4% in the first quarter, while the overall composite index fell.

“But the good news is that gold stocks are down significantly so far in the second quarter. As a result, the active manager environment looks more favourable.”

Even though value managers struggled, they still topped growth managers for the first time in a year. Among value managers, 27% beat the S&P/TSX Composite, an improvement from just 16% in Q4 2007. Only 24% of growth managers topped the index, however, down from 53% in the final quarter of 2007.

Wylie points out that value managers have lagged their growth-oriented colleagues for the better part of three years now.

“The last time value specialists struggled that much was during the technology bubble, but it’s important to note that following that challenging period, value managers bounced back significantly for the next two years in 2001 and 2002,” she says.

Value managers are expected to see improved performance in the future as well, as the financial sector rebounds from first quarter sell-offs related to asset write-downs. Meanwhile, the materials sector, where value managers tend to be underweighted, is expected to lag the recovering financials.

Filed by Steven Lamb, Advisor.ca, steven.lamb@advisor.rogers.com