Investors who have done well should consider taking some profits and rebalancing their portfolio, says Dave Paterson, a fund analyst with Toronto-based D.A. Paterson & Associates Inc.JENNIFER ROBERTS/The Globe and Mail
Many mutual funds and exchange traded funds (ETFs) are flashing longer-term double-digit returns thanks to surging markets, but investors may need to temper expectations to avoid nasty surprises.
"I would get a little more defensive," said Dave Paterson, a fund analyst with Toronto-based D.A. Paterson & Associates Inc. "If investors have had funds with double-digit returns, it's time to take some profits and rebalance their portfolio."
Investors should consider buying stock funds that own more "quality" names because "there is going to be a point in time when we see more normalized levels of volatility," he said. Quality doesn't necessarily mean the stocks of large companies, he said, but rather businesses that have barriers to entry to new competitors, competitive advantages and strong management teams.
U.S. fund-research firm Lipper Inc., a unit of Thomson Reuters, recently handed out awards to mutual funds and ETFs for the three years ending July 31. While the Lipper Fund Awards highlight funds that have generated strong returns with lower risk, about a dozen of nearly 50 winners have posted 20- to 30-per-cent annual gains during the period. Thomson Reuters is controlled by Woodbridge Co. Ltd., which is the majority owner of The Globe and Mail.
Given the robust returns of some funds, analysts were asked to suggest which investing strategies are appropriate for current market conditions, and which Lipper winners stand above the crowd.
Investors should consider stashing profits from stock funds into a low-cost, actively managed bond fund where the manager is not afraid to make a call on duration and "play good defence," Mr. Paterson said. "That will help preserve capital when [interest] rates do start grinding higher."
Mr. Paterson says that although he has become more cautious, he still favours equities over fixed-income securities for returns. He also prefers the U.S. market slightly over the Canadian one because the latter is heavily weighted in commodity stocks whose returns will depend on a "bigger turnaround in the pace of global growth."
For investors who don't want to worry about rebalancing a portfolio, he described Lipper winner Mawer Balanced Fund as a "great one-ticket solution" because it invests in six stock and bond funds run by Mawer Investment Management. "There is a great management team behind each of the individual funds, and they are well diversified," he said.
He also likes Lipper winner Fidelity Small Cap America. Since manager Steve MacMillan took over the U.S. smaller-company fund several years ago, "it has had excellent downside protection," Mr. Paterson said. "It has a relatively concentrated portfolio so it behaves a lot different than the index."
Dan Hallett, director of asset management at HighView Financial Group, agrees that "a bit more caution" is warranted now, given that most stock markets, with the exception of those in emerging-market countries, have become more expensive.
That doesn't mean investors should jump into cash, he said. "The thing with sitting in cash is that there is an opportunity cost [lost benefit]. We know there is going to be a bear market at some point, but you don't know when."
That is why asset allocation – or a portfolio's makeup of such assets as stocks, bonds and cash – is key, said Mr. Hallett, who is based in Windsor, Ont. "Diversification is defined not so much by the number of securities you hold, but by the type of exposure."
Beyond Canadian equity funds, he prefers global stock funds as opposed to country-specific investments. "If you have skilled managers, why not give them more flexibility and allow them to make that decision as to where they are finding the best values?"
Mr. Hallett said he likes the Lipper winners Mawer Balanced Fund and Mawer Global Small Cap Fund. These funds, which require a $5,000 minimum investment, have lower fees and are perfect for a do-it-yourself investor, he said.
Smaller-company stocks, whether held in a broader stock fund or separately, are a necessary part of a portfolio, he said. "It is partly for diversification, but frankly small caps tend to do better over time than the broader market."
Mr. Hallett is also a fan of winners Black Creek International Equity, EdgePoint Global Growth & Income Portfolio, Beutel Goodman Canadian Dividend, Cambridge Canadian Growth Companies and Cambridge Pure Canadian Equity.
While this is the first year in which Lipper Fund Awards have been given to ETFs when there is a sufficient number within an asset category, investors need not choose between mutual funds or ETFs, said Mr. Paterson.
"Certain asset classes, like U.S. equities, lend themselves to using ETFs," he said. "Historically, it has been so difficult for any active manager to really add any kind of value over and above what you can get on the S&P 500. … The more efficient the market, the better off you are in going with an ETF," Mr. Paterson suggested.
"If you are looking for a pure Canadian large-cap fund, you might go with an ETF," he said. "If you want to invest in small- to mid-caps, or all-capitalization mandate, you might be better off in an active fund."