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Wealth Steward

Putting funds through the bear market test Add to ...

The Globe & Mail's Rob Carrick recently wrote about the lessons learned from those investments that lost the most in calendar 2008. One of his most important points is in the very first sentence where he wrote, “Never buy an investment product without first checking how it performed in 2008.” There are a couple of items related to this sound advice that are worthy of a more detailed discussion.

Isolating bear markets

To keep things simple so that readers can replicate the analysis, Carrick focused on calendar 2008 returns – an easy period for which to screen. Since bear markets almost never fall neatly into any calendar year, it is more insightful to calculate bear markets during isolated bear market periods.

To help in this exercise, the table below lists a handful of asset classes, their respective bear market losses, total return during the subsequent recoveries, associated time frames and total returns on the 'round trip' for each.

Financial advisers and investors can use the above table when doing homework on a particular fund or other product. Since it was listed in Rob Carrick's table, I'll use the Dynamic Power Canadian Growth fund to illustrate how to use the dates in the above table. When digging into the fund, you can look up its profile on Globe Investor and use the chart function.

The smaller the time increment, the larger the loss you're likely to find. This fund's 50 per cent loss in calendar year 2008 is steep but its actual top-to-bottom loss is quite a bit larger. Globe Investor's mutual fund charting tool – or something similar – can be used to calculate the loss using monthly returns. Set the start date at May 2008 (the market peak based on month-end data), set the end date as February 2009 (the month-end market bottom) and select the S&P/TSX Total Return as the benchmark. Click “Draw Chart” to update it and you'll find that the index lost more than 43 per cent (as noted above) but this fund actually lost 59 per cent based on month-end data. Daily data reveal an even worse loss, exceeding 63 per cent, for this popular fund.

So even though the fund has soared 87 per cent from the market bottom, the fund's steep loss means that it still must gain more than 45 per cent to touch its previous peak on a total return basis. This is but one illustration of one of Carrick's other points: the mathematics of loss recovery.

The bear market test

Once comfortable with this analysis, the tables below detail start and end dates and other selected data for U.S. and Canadian equity bear markets post-World War II. Realistically, it may be relevant to replicate the above analysis for only the last two bear markets but it's useful to look further back in time to get a better feel for overall risk for the asset class.

You'll find that many funds sailed through the previous bear market that began in 2000. This gave many investors too much confidence in the bear market saviours of that time. Investors weren't so lucky a few years ago since there was nowhere to hide within equity markets from the 2007-09 bear. But starting with a simple screen (for calendar 2008 returns) and doing a bit of extra work to isolate bear market losses will help provide greater context of a fund's historical risk.

Source of all raw data: Dr. Robert Schiller, S&P/Citigroup, BlackRock Inc.

Data for U.S. stocks are in U.S. dollars. Averages are for all U.S. stock bear markets starting in 1871.

Dan Hallett, CFA, CFP, is director of asset management for HighView Financial Group and a contributor to thewealthsteward.com. He has spent more than a dozen years doing research on investment funds, portfolio managers and financial markets. Formerly the president of Dan Hallett and Associates Inc. in Windsor, he is now responsible for manager research, portfolio construction and investment program design at HighView. Mr. Hallett has a Bachelor of Commerce degree from the Odette School of Business at the University of Windsor.

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