Large-cap managers in Canada posted their strongest benchmark-relative performance in 12 years in 2013, according to Russell Investments.
The median return for the year was 19.1%, more than 6% ahead of the S&P/TSX Composite Index’s return of 13.0%. Using annual returns, 94% of large-cap managers beat the benchmark in 2013 compared to 76% in 2012. This was the highest percentage since Russell began to closely track the data in 2000.
The year ended on a positive note, with 86% of large-cap managers beating the benchmark in the fourth quarter of 2013. That followed 74% in the third quarter, 95% in the second and 79% in the first quarter. The median large cap return was 8.4% in the fourth quarter of 2013, which was well above the S&P/TSX Composite Index’s return of 7.3%.
What benefited managers for the year overall was positive sector breadth, with eight out of 10 sectors beating the benchmark; the most breadth since 2001. “Investment managers were also helped by the decline in gold stocks in the year,” says Kathleen Wylie, head of Canadian Equity Research at Russell Investments. Gold stocks fell 44% in 2013 and large-cap managers in Canada were roughly 3.5% underweight gold stocks on average throughout the year.
“Gold stock performance has been a problem for active managers in the past, particularly in 2011, when their weight reached a peak of 14% and active managers were roughly 6% underweight the stocks,” explains Wylie. “Managers were significantly underweight gold stocks back then since they were such a large weight in the Index so when the stocks spiked, it would have a big negative impact on their benchmark-relative performance.”
All styles of large managers beat the benchmark for the year, but dividend managers led the way. They were helped by having the largest underweight to gold stocks. As well, they benefited from the strong performance of financial stocks last year since they have an overweight position. The median dividend manager return for the year was 20.6%, over 7% ahead of the S&P/TSX Composite Index’s return of 13.0%. Differences between value and growth managers for the year were nominal with growth managers 7.1% ahead of the benchmark and value managers 7.0% ahead.
In the fourth quarter, dividend managers pulled ahead with 93%, beating the benchmark and a median return of 8.9% compared to the benchmark return of 7.3%. That compares to 83% of growth and 81% of value managers beating the S&P/TSX Composite Index’s return. Dividend managers were helped in the quarter by being overweight financials and more underweight gold stocks compared to other investment styles.
On average, dividend managers were 4.4% underweight gold stocks at the start of the fourth quarter compared to value managers who were 3.2% underweight and growth managers who were 2.7% underweight on average. Gold stocks fell 9.8% in the fourth quarter alone so that helped dividend managers the most. Of the 10 largest negative contributing stocks, six of them were gold stocks.
The strength in the banks was also a key contributor for dividend managers who tend to hold them more broadly than value and growth managers. The top contributing stock in the fourth quarter was Royal Bank, up 9.3% and held by 83% of dividend managers compared to 70% of value and 75% of growth managers. Bank of Nova Scotia was the second top-contributing stocks, and rose 12.6% in the fourth quarter. That was held by 90% of dividend managers, 88% of growth and 79% of value managers. TD Bank was the third top-contributing stock, up 8.9% and also held by 90% of dividend, 88% of growth and 79% of value managers.
More than halfway into the first quarter, it looks like the environment has become challenging for large-cap managers in Canada. Sector breadth is narrower with only four sectors ahead of the benchmark and the materials sector is among the top outperformers. Large-cap managers on average are 3% underweight materials stocks so that is hurting their benchmark-relative performance.
Within materials, gold stocks are up roughly 26%, which is hurting large-cap managers, who are 3% underweight on average. Dividend managers are likely lagging the most since they have the largest underweight to gold stocks, which are outperforming and are overweight Financials, which are underperforming.
Although the environment is not as favourable so far in 2014, active management has added value for three consecutive years in Canada after challenges in 2009 and 2010. “There will be periods where active management struggles,” says Wylie, “but we continue to believe that investment managers who have disciplined processes and the skill to construct portfolios of fundamentally strong companies trading at reasonable valuations with solid management teams, will add value in the long run.” Over the last 10 years, an average of 55% of large-cap managers have beaten the benchmark.