As Canadian Equities lose favour with some domestic money managers, managing clients’ asset allocation has become a little bit trickier.

Case in point: in December, Mackenzie Financial Corp. announced that it had lost some enthusiasm for Canada’s equity markets and even backed that up with a legal move. The Toronto-based company reduced its minimum Canadian exposure to 51% from 70% by prospectus in several of its large funds for the new calendar year. “Canadians should be seeking ways to diversify their portfolios outside of Canada,” says Fred Sturm, Mackenzie’s executive vice president and chief investment officer.

Mackenzie Growth Fund, Cundill Canadian Security Fund, Ivy Canadian Fund, Universal Canadian Growth Fund and Maxxum Canadian Value Fund are affected by the decision, which effectively moves them into a new Canadian Investment Funds Standard Committee category — Canadian focus — requiring a minimum domestic investment of just 51%.

The federal government dropped the foreign-content limit for registered plans more than two years ago. But, Sturm says, the impact of that change on portfolios was deferred because Canadian companies were performing well in the stock market cycle and the Canadian dollar was strong.

A broad prospectus change such as Mackenzie’s is not common but is emblematic of a wider industry trend by Canadian equity managers to tip the balance toward foreign equities. That means advisors may have to watch their clients’ portfolios for unplanned asset-allocation changes.

Fund holdings are transparent, but there is still a need for companies to be clear about changes to their investment policies, mandates and prospectus changes. Dan Hallett, president of fund analyst Dan Hallett & Associates Inc. in Windsor, Ont., praises Mackenzie’s public announcement, adding, “It’s going to become a bit more of an issue because, by mandate, the funds will change and the ranges will bounce around a little more.”

Hallett says advisors will either like the shift or hate it: “You’re either going to say, ‘I’m buying the manager,’ or ‘I want an asset class exposure and, if the fund won’t give it to me, I’ll look elsewhere’.”

Investors and advisors are already piling cash into foreign funds, so as managers change their approach to Canada, the asset allocation balance in an individual investor’s portfolio could tip. According to data and commentary from the Investment Funds Institute of Canada, foreign mutual fund sales gained momentum in 2006. Foreign equity fund assets increased to 17% from 16% at the end of 2005; since the end of that year, their assets under management are up by more than 24% and are almost 11 percentage points higher than the overall mutual funds industry.

Looking at the larger picture, Mackenzie’s move marks a definite stance on how Canada may fit into the global investment picture. Analysts and fund managers are now comparing Canadian companies with businesses around the world, in the belief that companies that perform best will earn the portfolios a higher return over time.

“Going forward, the relative outperformance of the resources sector will be muted, and the currency effect will be muted,” says Sturm. “So, the guts of the decision — Which is the better company? — becomes more prominent. It will apply to the stock market in aggregate and sector by sector.”

There is no reason why Canada cannot have world-class companies, particularly in the resources and telecommunications sectors, Sturm says. But this country comprises less than 4% of the global market and investors are free to invest globally — “As they ought to be,” he adds.

Mackenzie and other fund companies making similar moves may be doing unitholders a service by giving them more foreign exposure indirectly, given the home-market bias Canadians demonstrate and the long-term underperformance of the Canadian market, says industry consultant Dan Richards, president of Strategic Imperatives Inc. of Toronto: “There’s a line that you can’t cross and still call a fund ‘Canadian.’ But you can make an argument for 50% just as much as you can for 70%.”

To some extent, Sturm’s announcement is a formality for his company, as it has been for the mutual fund industry. Fund companies had dealt with Canadian content regulations in the past by developing RRSP-clone funds, and many fund managers were already pushing the boundaries of their prospectuses, Hallett says.

@page_break@“The largest fund companies with the largest funds benefit the most because they have a lot of assets and we have a small market with a shrinking number of names,” Hallett says. “It has been a challenge for some of the bigger funds to keep all their funds in Canada.”

In fact, Richards says, foreign content has been as much a competitive factor as anything else: “If 50% foreign exposure outperforms 30% exposure, over time that is where the assets will flow.”

Fund companies have handled the change in the foreign-content limit in various ways. Peter Anderson, president and CEO of CI Investments Inc. in Toronto, says most decisions about fund portfolios are left up to the portfolio managers, some of whom have decided to increase foreign content on their own. He cites Eric Bushell, manager of CI Signature Select Canadian Fund, for example, who has bumped up his foreign equities to about 37%. That level is within the fund’s prospectus statement that foreign securities will “generally be no more than one-third … but at no time greater than 50% of the fund’s assets” but stretches the 70% minimum limit on the CIFSC category in which it resides, Canadian equity.

On the other hand, a corporate decision was made last year concerning CI Can-Am Small Cap Corporate Class, which is submanaged by QVGD Investors Inc. of Calgary. The manager was given a more North American global small-cap mandate, with the option to invest up to 49% in foreign securities.

Simon Hitzig, vice president of marketing at Dynamic Mutual Funds Ltd. , says the day after the government lifted RRSP foreign-content restrictions in 2005, his company debated at a corporate level about whether to leave asset allocation up to advisors. “In the end, we thought it was our fiduciary duty to act,” he says.

Dynamic started to reduce its Canadian holdings immediately. By prospectus, most of the company’s Canadian equity funds had allowed as much as 49% foreign equities, so the company was merely acting on that potential, Hitzig adds. Dynamic has not made any regulatory prospectus changes since the government decision, however.

Todd Asman, assistant vice president of strategic investment planning at Winnipeg-based Investors Group Inc. , which offers its sister company’s Mackenzie funds to its advisors, says Investors hasn’t modified Canadian content on its branded funds.

Instead, it decided to alter advisors’ asset-allocation models — a move that was well advertised to the company’s advisors last year. For example, the foreign-content limit on its aggressive investor model was raised to 60%, up from the 30%. Says Asman: “Our experience is that investors are increasing foreign investments.” IE