Seeking Balance Following Market Extremes – AGF Perspectives
Author: Stephen Duench
March 9, 2023
The dramatic rotation in market leadership that defined equity returns during the first month of 2023 has become less acute in more recent weeks, but investors still need to be careful about its influence on portfolio positioning going forward.
Namely, it’s crucial to find a balance between this year’s early winners and losers. For instance, while some investors might want to load up more on outperforming sectors like Information Technology and real estate income trusts (REITs), this may not be prudent given the extreme nature of the outperformance that took place in January.
In fact, the rolling three-month relative performance of these two sectors was near or above the “upper bound” level at which future returns begin to wane – relatively speaking – both in Canada and the United States.
Canada Information Technology: Three-Month Rolling Relative Return
Source: AGF Investments Inc. using data from FactSet as of February 21, 2023. Three-month rolling relative return of the S&P/TSX Information Technology Index versus the S&P/TSX Composite Index. One cannot invest directly in an index. Past performance is not indicative of future results.
U.S. Information Technology: Three-Month Rolling Relative Return
Source: AGF Investments Inc. using data from FactSet as of February 21, 2023. Three-month rolling relative return of the S&P Information Technology Index versus the S&P 500 Index. One cannot invest directly in an index. Past performance is not indicative of future results.
Canada REITs: Three-Month Rolling Relative Return
Source: AGF Investments Inc. using data from FactSet as of February 21, 2023. Three-month rolling relative return of the S&P/TSX REIT Index versus the S&P/TSX Composite Index. One cannot invest directly in an index. Past performance is not indicative of future results.
U.S. REITs: Three-Month Rolling Relative Return
Source: AGF Investments Inc. using data from FactSet as of February 21, 2023. Three-month rolling relative return of the S&P REIT Index versus the S&P 500 Index. One cannot invest directly in an index. Past performance is not indicative of future results.
By extension, it’s probably not wise to completely neglect this year’s early losers, which include sectors like Canadian Energy and U.S. Healthcare, both of which underperformed at near or below the “lower bound” level that future relative returns begin to improve.
Canada Energy: Three-Month Rolling Relative Return
Source: AGF Investments Inc. using data from FactSet as of February 21, 2023. Three-month rolling relative return of the S&P/TSX Energy Index versus the S&P/TSX Composite Index. One cannot invest directly in an index. Past performance is not indicative of future results.
U.S. Healthcare: Three-Month Rolling Relative Return
Source: AGF Investments Inc. using data from FactSet as of February 21, 2023. Three-month rolling relative return of the S&P Healthcare Index versus the S&P 500 Index. One cannot invest directly in an index. Past performance is not indicative of future results.
To be clear, that doesn’t mean investors should do the complete opposite. Selling all your winners and buying the losers in hopes of a complete reversal in market leadership is a very difficult proposition to make given the uncertainty of the current market environment.
A better approach for many might be a “core and contrarian” strategy that maintains exposure to the strongest performing winners in a portfolio, while adding select laggards that show high conviction quality attributes.
As an example, from a dividend investing perspective, the REITs remain fertile ground for opportunities despite the sector’s outsized gains earlier this year. Moreover, there are several Energy and Healthcare names with great attributes that are even more attractive for having been on the wrong side of the rotation in market leadership. Not only are their yields higher for it today, but they’re also expected to keep growing at a time when dividend growth could become scarce as other companies brace for the potential of a severe economic downturn.
Ultimately, market extremes like those we experienced to start 2023 can be difficult to navigate, but by maintaining a balanced approach, investors are better positioned to navigate the risks, while taking advantage of the opportunities that arise.
The views expressed in this blog are those of the authors and do not necessarily represent the opinions of AGF, its subsidiaries or any of its affiliated companies, funds, or investment strategies.
Commentary and data sourced Bloomberg, Reuters and company reports unless otherwise noted. The commentaries contained herein are provided as a general source of information based on information available as of March 1, 2023 and are not intended to be comprehensive investment advice applicable to the circumstances of the individual. Every effort has been made to ensure accuracy in these commentaries at the time of publication, however, accuracy cannot be guaranteed. Market conditions may change and AGF Investments accepts no responsibility for individual investment decisions arising from the use or reliance on the information contained here.
This document may contain forward-looking information that reflects our current expectations or forecasts of future events. Forward-looking information is inherently subject to, among other things, risks, uncertainties, and assumptions that could cause actual results to differ materially from those expressed.
AGF Investments is a group of wholly owned subsidiaries of AGF Management Limited, a Canadian reporting issuer. The subsidiaries included in AGF Investments are AGF Investments Inc. (AGFI), AGF Investments America Inc. (AGFA), AGF Investments LLC (AGFUS) and AGF International Advisors Company Limited (AGFIA). AGFA and AGFUS are registered advisors in the U.S. AGFI is registered as a portfolio manager across Canadian securities commissions. AGFIA is regulated by the Central Bank of Ireland and registered with the Australian Securities & Investments Commission. The subsidiaries that form AGF Investments manage a variety of mandates comprised of equity, fixed income and balanced assets.
® The “AGF” logo is a registered trademark of AGF Management Limited and used under licence.
About AGF Management Limited
Founded in 1957, AGF Management Limited (AGF) is an independent and globally diverse asset management firm. AGF brings a disciplined approach to delivering excellence in investment management through its fundamental, quantitative, alternative and high-net-worth businesses focused on providing an exceptional client experience. AGF’s suite of investment solutions extends globally to a wide range of clients, from financial advisors and individual investors to institutional investors including pension plans, corporate plans, sovereign wealth funds and endowments and foundations.
For further information, please visit AGF.com.
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Manitobans lose more than $700K from investment fraud, securities commission finds
More than 60 Manitobans were victims of investment fraud recently, as the number of fraudulent investment websites continues to grow, the Manitoba Securities Commission (MSC) said.
“Their lives are forever altered,” said Jason Roy, a senior investigator with the MSC.
An ongoing cryptocurrency investigation by the MSC, a division of the Manitoba Financial Services Agency (MFSA), found that the victims were scammed by 34 different fraudulent investment websites, all of which promote cryptocurrency or Forex (foreign exchange market) trading, according to an MFSA news release on Wednesday.
About 62 Manitobans lost a total of $710,000, with victims losing anywhere between $320 and $206,000, according to the statement.
“The individuals that are running these scams have become more sophisticated,” Roy said in a phone interview. They are “designed in order to trick you.”
Roy said the number of online fraudulent investment sites has been dramatically increasing over the last few years.
In 2022, investment fraud caused the highest levels of reported fraud victim losses, especially cryptocurrency fraud, according to the RCMP.
“There is certainly legitimate cryptocurrency … opportunities out there, but there are far more fraudulent cryptocurrency scamsters and websites popping up all the time,” Ainsley Cunningham, a spokesperson for MSC, said in a phone interview.
The scammers, who operate offshore but say they have offices in Canada, targeted their victims on social media, usually through fake news articles or fake celebrity endorsements.
They then got victims to invest a small amount of money – around $350, Cunningham said – and would show them fake profits, enticing them to invest more. Scammers also ask victims to convert their money to cryptocurrency, making the funds nearly impossible to recover.
“They really like to get people hooked in,” Cunningham said. “You’ll sort of think, ‘Wow, I’m making a lot of money here.'”
If victims try to withdraw their supposed profit, scammers will ignore or block them, or they might tell victims to invest more in order to make withdrawals.
“Once it’s gone, it’s gone,” Roy said.
Anger, embarrassment, frustration
Cunningham said it’s heartbreaking to tell people they are victims of fraud.
“It’s so hard to hear the stories. They’re very emotional conversations,” she said.
The victims ranged in age between early-20s to late-60s. Some lost money intended for their children or retirement savings, she said.
“There’s anger, there’s embarrassment, frustration. Some people, there’s a little bit of hope, thinking, ‘Well, maybe I still can get my money back.'”
Cunningham said she tells those who invested a small amount to look at it as an “expensive education.”
For others, the consequences are more serious and might even include having to return to work.
“It cost them a lot,” she said. “It’s painful to hear how it’s affecting their family life, their relationships.”
Cunningham said there’s thousands of fraudulent websites to watch out for.
“While we’re aware of these 34, we know that there’s many, many more websites out there,” she said.
Many sites will scam as many people as possible, shut down once they get caught, and then will pop up again under another site or company, Cunningham said.
There are a few ways to make sure an investment company is legitimate, Cunningham and Roy said.
People can visit aretheyregistered.ca, search the name of the company or individual in question, and find out whether the person or company is registered to do business in Manitoba or Canada.
Manitobans can also call MSC’s anti-fraud line to ask questions about a possible fraud or to report one.
“It’s important to recognize it, and it’s also important to report it,” Roy said.
“If we don’t know about it, you know, there’s nothing we can do. We can’t get the message out.”
4 Indian investors explain how their investment strategy has changed since 2021
India has long harbored a strong entrepreneurial spirit, and it’s not uncommon to see people leaving jobs to set up their own businesses. A hallmark of that spirit is quite visible these days in the country’s flourishing startup ecosystem, which has expanded rapidly in the past few years, to say the least.
However, the global slowdown has impacted startups’ growth in the country, just like everywhere else in the world. After a blockbuster year for venture capital funding in 2021, the flow of capital to Indian startups seemed like it would buck global trends in early 2022, but dried up in the second half of 2022.
Nevertheless, investors are optimistic about their prospects in the country and feel that the global slowdown is helping founders focus more on building and strengthening their core business.
“While this is a tough environment for companies, we see it as an opportunity to pause, take stock and consolidate,” said GV Ravishankar, managing director of Sequoia India.
“Founders are becoming a lot more focused on building and strengthening their core business and are getting sharper about capital allocation and driving improvements in the economic shape of their businesses,” he said.
“Working with uncertainty is very much the nature of the beast.” Roopan Aulakh, managing director, Pi Ventures
All the investors we spoke to agreed that in order to make the best of the situation, startups should conserve runway and prioritize growth if they can afford to do so.
For Ashutosh Sharma, head of India investments at Prosus Ventures, it is paramount for startups to ensure their existence at this time. “This allows startups to take a step back and focus on internal processes, business model evolution and organizational issues [ … ] These factors, once fixed, will lead to more organic product-market fit, which will lead to growth alongside economics.”
India’s startup landscape has changed immensely over the past couple of years, so to better understand how Indian investors are approaching investments, the regulations they are looking out for, which sectors currently have their attention and how they prefer to be approached, we spoke with a few active investors:
GV Ravishankar, managing director, Sequoia India
After a year of hot investments, India saw a significant drop in VC funding in 2022, and this year is likely to be similar. How has your investment strategy changed?
After more than a 12-year bull run for tech in the global markets supported by low interest rates, since the beginning of 2022, we have witnessed a significant slowdown in capital flows. This has resulted in a difficult environment from a capital availability perspective in India and other emerging markets.
While this is a tough environment for companies, we see it as an opportunity to pause, take stock and consolidate. Founders are becoming a lot more focused on building and strengthening their core business and are getting sharper about capital allocation and driving improvements in the economic shape of their businesses.
So it is actually a healthy period and it will result in high-quality businesses coming out of this market in the next couple of years.
What advice would you give your portfolio startups to continue growing at this time?
Focus on growth with good economics and don’t “buy” growth, as that will come with poor economics and hence is not sustainable. Focus on the core business and deprioritize experimental investments.
Double down on the core product if capital is available, as there is a chance to pull ahead from competitors in a market like this through the right investments. The current environment can also provide good opportunities to acquire capabilities through M&A at attractive prices if capital is available.
Compared to 2019, what were the most notable investment trends in India in 2022? Do you expect these trends to continue into 2023? Which sectors do you think will emerge as the next big thing by 2025?
There has been continuous innovation over the last several years thanks to more digital adoption and lower data pricing. After COVID, we saw significant uptick in e-commerce, edtech and technology-enabled service delivery across sectors. We also saw fintech pick up as a big theme and supply chains got digitized, including in manufacturing and agriculture.
Our core sectors are software, consumer, consumer internet, fintech and financial services. These remain continued areas of focus for us and constitute 80% of our efforts. Other upcoming sectors are EVs, climate tech, space tech and opportunities from supply chain shifts to India. Today, these are small and emerging sectors, but tomorrow, they could be massive opportunities.
So we are meeting early-stage founders who are building in this space and partnering with startups that are trying to create innovative solutions for some of the challenges faced in these industries.
The 20% of what we do keeps changing every few years because of market trends and tech innovations, but, by and large, the 80% has remained the same for nearly 17 years. Fundamentally, we are looking to partner with founders who are going after large problems in large markets to make a dent in the world. That will always remain the same.
What sets the sectors you are currently investing in apart from others? How do you evaluate the potential of a startup in these sectors before making an investment?
We evaluate a startup by the market they are going after (whether it is large, growing and has profit pools), the team (founder-market fit; why this team) and business model/moats (do they have a better mouse trap and why will they sustain their advantage?).
What qualities do you find most important in a founder when evaluating their potential for success? Conversely, what is a major red flag that would cause you to back off?
One of the most important qualities we look for in founders is their perseverance and grit to go after the problems they’ve set out to solve. From a founder-market fit perspective, we also ask what makes a founder or a founding team best positioned to win in the market, and what are their unique insights into the problem they are solving.
Red flags are linked to failed background checks or if the business metrics represented don’t check out in diligence.
Ashutosh Sharma, head of India investments, Prosus Ventures
After a year of hot investments, India saw a significant drop in VC funding in 2022, and this year is likely to be similar. How has your investment strategy changed?
Given the environment of rate hikes and geopolitical uncertainty, last year, we adopted a more conservative approach, setting the bar much higher for investments. Following that, we shifted our investment focus to smaller ticket sizes, earlier stages and toward companies in the SaaS and B2B domains.
Some investment firms not adhering to new conflict of interest rules, regulatory review concludes
Some Canadian wealth management firms are not adhering to new conflict-of-interest rules, particularly when selling their own proprietary products, according to a new compliance report by an industry watchdog.
In a report released this week, the New Self-Regulatory Organization of Canada revealed that while a number of investment dealers have implemented strong controls to “identify, disclose and address” conflicts in the best interest of their clients, there are still a “few common weaknesses” involving various aspects of the conflict-of-interest rules that began in 2021.
One such weakness is that solely providing disclosure to a client does not satisfy the rules and investment dealers must implement controls to address the conflict in the client’s best interest.
While the rule applies to any type of conflict – such as third-party compensation, product recommendation, sales incentives – the New SRO review identified specific gaps by investment dealers in controls to address conflicts associated with the sale of proprietary products.
The New SRO is the amalgamation of the Investment Industry Regulatory Organization of Canada (IIROC) and the Mutual Fund Dealers Association of Canada (MFDA).
The new rules, known as client focused reforms or CFRs, came into effect in June, 2021, and were intended to address conflict-of-interest concerns in certain situations – for instance, if an adviser’s compensation is linked to selling an institution’s proprietary products.
But the rule reforms also brought unintended consequences when several of Canada’s largest banks halted sales of third-party investment products from their financial planning arms in 2021. Certain banks shifted to only offering their own proprietary mutual funds, and clients working with financial planners are no longer able to purchase independent funds in their investment portfolios.
Shortly after, both IIROC and the MFDA, along with the Canadian Securities Administrators, launched an industry-wide compliance sweep to determine how the new rules were being implemented by investment firms – including the Big Six banks.
This involves examining conflicts associated with proprietary products and restrictions related to a firm’s product shelf.
In addition to deficiencies with proprietary products, the New SRO also found firms did not always disclose all three components of the conflict of interest to clients: the nature and extent of the conflict; the potential impact and risk that a conflict could pose to the client; and how the conflict of interest has been, or will be, addressed by the investment dealer.
And some investment firms did not adequately document their assessment of conflicts to provide evidence to regulators that they are addressing the conflict in the best interest of the client.
IIROC declined to comment on whether the review included examining the product shelves of bank-owned discount brokerages that have come under scrutiny by the industry for blocking do-it-yourself investors from purchasing low-risk cash exchange-traded funds.
The New SRO said the separate joint report – which will be released at future date – will more provide more details of the “deficiencies” identified across all investment dealers and platforms as well as some best practices observed during the sweep.
The sweep is independent of another review conducted last year by the Ontario Securities Commission on the product offerings of Canada’s largest banks. Ontario Finance Minister Peter Bethlenfalvy launched that review after he had concerns about financial institutions halting sales or “unduly” restricting sales of third-party investment funds.
The OSC submitted recommendations to him on Feb. 28, 2022. The report has not yet been released to the public. Last month, a spokesperson for the Finance Minister told The Globe and Mail that Mr. Bethlenfalvy is still reviewing the OSC’s recommendations, more than a year later.
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