Signs of slower growth, fallout from the Greek government debt crisis, and the Gulf oil spill have put a damper on the outlook for equities in many regions, according to the results of a second quarter survey from Russell Investments Canada Limited.

“As investment managers scale back their appetite for risk, the relative appeal of bonds and cash have risen from rock-bottom lows to more balanced levels,” says Sadiq Adatia, chief investment officer of Russell Canada.

“Although a solid majority of investment managers remain bullish toward equity markets, signs of caution have emerged this quarter. There are fewer bulls, more bears, and fewer managers standing in neutral ground. This polarization often goes hand-in-hand with higher volatility –something the market has certainly delivered in recent weeks.”

Canadian equities remain attractive

Canada continues to enjoy most-favoured equity market status, with the number of bullish managers declining slightly from 69% to 63%. The number of bears rose from a sparse 9% of managers to 19%.

“Canada remains attractive to investors as we emerge from the recession in much better shape than many other markets, thanks in part to strong corporate earnings,” explains Adatia.

Currently, only one-in-10 investment managers believe the Canadian market is overvalued, while 60% see it as fairly valued, and 30% consider it undervalued.

In terms of what risks might impact Canadian equities in the next 12 months, nearly half of investment managers cited geopolitical activity — everything from oil spills and government debt crises to military conflicts — as the greatest risk facing Canadian stocks. One-in-four managers said rising interest rates were a significant risk. Less than one-fifth named a strong loonie, falling consumer confidence and high commodity prices, and a handful said unemployment and inflation were concerns.

Sentiment for foreign markets decline

Emerging markets saw a dramatic pullback in sentiment, with the number of bullish managers dropping from 72% to 58%.

“While the long-term prospects for emerging markets remain attractive, slower growth — especially in China — and a general sense of caution among investors mean fewer investment managers are comfortable with the short-term risks,” says Adatia.

The number of managers saying they are bullish towards EAFE equities dropped 13 points to 33% this quarter.

Bonds bounce back

Positive sentiment towards Canadian bonds, which had hit an extreme low of just 3% of managers last quarter, rebounded substantially this quarter. Twenty-four per cent of investment managers now say they are bullish, and bears fell from 71% of managers to 48%. Bullishness towards cash also rose, from just 9% to 14%. However, high yield bonds are now in the doldrums, with the proportion of bullish investment managers falling from 24% to 14%.

Looking Ahead

Adatia understands why a majority of managers are more cautious in light of recent market volatility. However, he continues to believe that investors that have positioned their portfolios for diversification and long term growth will be rewarded. “Our view is that volatility will remain high in the coming quarter. That said, the world is still moving towards economic recovery with Canada and the U.S. on the right track,” says Adatia.

“Current jitters will subside, and we continue to believe that remaining fully invested and properly diversified is the best way to benefit from near-term market pullbacks and maximize gains over the long term.”

The Russell Investment Manager Outlook is completed and distributed at the end of each quarter. This report includes responses from investment managers with a variety of investment focuses.

Russell is headquartered in Tacoma, Washington. Russell Investments Canada Ltd. is a wholly owned subsidiary of Frank Russell Company.

IE