No surprises in fund performance — it’s all bad

Investors looking for any bright spots in mutual fund performance in October are going to be sorely disappointed. As markets hit new depths in October, so too did the overwhelming majority of Canadian mutual funds, according to preliminary performance data released today by Morningstar Canada.

All but four of the 43 Morningstar Canada fund indexes declined in October, with 20 down more than 10% on the month alone.

“Credit essentially came to a grinding halt in the middle of the month,” says Philip Lee, fund analyst for Morningstar Canada. “When stalwart companies such as AT&T and GE had trouble raising money in the short-term commercial paper market, investors ran for the hills. Lack of access to short-term credit hampers a company’s ability to operate on a daily basis, which can impact the economy in a meaningful way.”

Some asset classes, such as those tracked by the Precious Metals Equity index and Natural Resources Equity index, saw their worst month since Morningstar started tracking performance 25 years ago. Precious Metals Equity and Natural Resources Equity had losses of 38.4% and 28.9%, respectively, for the month. Rounding out the bottom three was the Morningstar Canadian Focused Small/Mid Cap Equity fund index, which fell 21.9%.

Since Canadian equity funds are heavily weighted in the resource and material sectors, they tended to suffer as well.

“Concerns about the global economy dampened the outlook for demand in energy and industrial metals,” Lee says. “This certainly didn’t play out well for the Canadian equity market, which is heavily influenced by energy and materials stocks.”

The fund index that tracks the Canadian Focused Equity category lost 13.6% in October. The Canadian Equity and Canadian Small/Mid Cap Equity indexes dropped 16.4% and 18.6%, respectively.

Success is relative, so a fund that managed to hold losses to less than 10% was generally doing well. Traditional down-market equity refuges like health care had better relative performance. The Morningstar Health Care index lost only 5.1% — although, Lee notes, some of its relative strength was due to the rising U.S. dollar, as that sector is heavily weighted toward U.S. stocks.

Four indexes managed to avoid negative territory — all of which were in fixed income categories. By far, the month’s best performing category was Global Fixed Income, with returns of 4.5%. But some global bond funds in the market posted returns in excess of 10%. Again, currency was a huge contributor, since the indexes that track these bonds, such as the Citigroup World Government Bond index, were essentially flat for the month.

“The primary move has been the currency. Any government issues would have helped as well,” Lee says. “Funds that hold government bonds have held up nicely as well given that investors are fleeing riskier assets such as equities and lower-quality bonds, corporate bonds and high yield bonds.”

The Canadian money market, Canadian short-term fixed income and U.S. money market indexes also avoided negative returns, although they all had returns of less than 1%.

Appreciation of foreign currencies, particularly the U.S. dollar, offset losses for Canadian investors in some of the foreign equity categories, Morningstar found.

For example, in U.S. equities, the S&P 500 lost 16.8% in the month. However, for Canadian fund investors, the U.S. dollar’s 12.9% appreciation against the loonie cushioned the blow, so losses in the Morningstar U.S. Equity fund index were limited to 8.1%. Lee notes a similar trend occurred in the Japanese Equity index, which declined only 6.7% due to the upward trajectory of the yen.

Not all foreign equity investors were so lucky. The Morningstar Asia/Pacific Equity, European Equity and International Equity fund indexes were down 10.8%, 12% and 12.5%, respectively. The single worst performing foreign equity fund index was Emerging Markets Equity, down nearly 20%.

Filed by Mark Noble, Advisor.ca, mark.noble@advisor.rogers.com

(11/04/08)