Although it was not an easy ride in 2012, large cap managers posted their strongest benchmark-relative performance in a decade, according to Russell Investments.
The median return was 9.4%, more than 2% ahead of the S&P/TSX Composite Index’s return of 7.2%. Using annual returns, 76% of large cap managers beat the benchmark in 2012 compared to 50% in 2011 and 41% in 2010.
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“I’m sure it was a surprise how well managers did overall in 2012, but when you step back and look at each of the individual quarters, it was really only the third quarter where managers struggled to beat the benchmark,” says Kathleen Wylie, head, Canadian equity research at Russell Investments.
The year started positive note when 66% of large cap managers beat the benchmark in the first quarter of 2012, and then improved in the second quarter when 69% beat the benchmark although the Index declined so investment managers lost money.
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“The first and fourth quarters were examples of that win-win situation,” says Wylie. “In the fourth quarter, the index rose 1.7% and 81% of large cap managers beat that benchmark, so that was the best of both worlds and ended the year on a positive note.”
What impacts performance among investment managers is how the Energy and Materials sectors perform.
“Those two sectors accounted for 46% of the S&P/TSX Composite Index’s weight at the start of the fourth quarter, and large cap managers on average have their largest underweights to Energy and Materials,” adds Wylie.
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Value and dividend-focused managers tend to have the largest underweights to Energy and Materials so they benefited most from the underperformance of those two sectors. For the year, the median value manager return was 3.9% ahead of the benchmark, and the median dividend-focused return was 2.2% ahead.
Within Materials, gold stocks were also a factor, declining roughly 15% in 2012. Large cap managers on average were 5% underweight gold stocks throughout the year, with dividend-focused managers more than 8% underweight, value roughly 7% underweight and growth managers only about 2% underweight.
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Year ends positive
A majority (81%) of large cap managers beat the S&P/TSX Composite Index’s return in the fourth quarter—the highest since the second quarter of 2004. The median manager return was 3.2%, well ahead of the Index return of 1.7%.
“All styles outperformed in the quarter, including growth, but value managers came out on top,” says Wylie.
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In the fourth quarter, 97% of value managers outperformed compared to 89% of dividend-focused and 63% of growth managers. Value managers benefited from their overweight to the three top-performing sectors: Consumer Staples, Information Technology and Industrials. The median value manager return was 4.1% compared to 3.3% for dividend-focused and 1.9% for growth managers.
Meanwhile, Royal Bank stock rose 7% and is held by 76% of large cap managers while Bank of Nova Scotia increased 8% and is held by 87% of large cap managers.
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Research in Motion (now BlackBerry), rose 57% in the quarter, which benefited some investment managers. The stock is not as widely held as it once was with only 19% of large cap managers holding it at the start of the fourth quarter compared to 44% a year earlier. Value managers found the stock most attractive but it was still only held by 33% of that group. Only 6% of growth and 13% of dividend-focused managers owned the stock.
2013 and beyond
During the first month of the year, the S&P/TSX Composite Index is up more than 2% and sector breadth is positive with eight out of 10 sectors beating the benchmark. However, with the Materials sector, including gold, underperforming but Energy and Financials outperforming, the environment is mixed for investment managers who are underweight all three sectors.
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In terms of style, dividend-focused managers have significantly larger underweights to Materials, so the environment may be tilted back in favour of their style again, but value managers are also being rewarded. Once again, it appears that growth managers are lagging.
“The growth style of investing has not been rewarded for most of the period since the start of the financial crisis in 2008, but that will change eventually,” says Wylie. “No one style is in or out of favour all the time. It’s difficult to predict when that will change, so a multi-manager, multi-style, multi-asset approach is best when investing.”