Mutual Fund Investor Performance

I read a study this weekend that discussed the performance variance of typical mutual fund investors in the United States (results for Canada should be similar). Here are the highlights:

This study examines the investment timing performance of equity mutual fund investors and its relationship to the distribution arrangement of the fund. We find that investors who transact through investment professionals using conventional distribution arrangements experience substantially poorer timing performance than investors who purchase pure no-load funds.

Investors in all three principal load-carrying retail share classes (A – Front End Load, B – Deferred Sales Charge, and C – Trailer Fees) significantly under-perform a buy-and-hold strategy. Among all load funds, Class B investors suffer from the poorest cash flow timing, underperforming a buy-and-hold strategy by 2.28% annually, compared with annual underperformance of 0.78% for investors in pure no-load funds. No-load index funds are the only funds found to show no evidence of poor investor timing. Although investors are ultimately responsible for their own investment choices, these findings question the value being added by investment professionals who sell mutual fund shares through conventional / commissioned distribution arrangements.

We examine the relationship between fund distribution arrangements and investor timing performance. Our study expands on the finding that the timing of shareholders’ trades causes their actual performance to lag behind the performance of the funds in which they invest. Given that the majority of fund shares are purchased through investment professionals, we explore whether shareholders who rely on the advice of such professionals benefit by avoiding the perils of market timing.

…..

We find that investors who use investment professionals to purchase load or legal no-load funds experience greater losses due to poor timing than investors who buy pure no-load funds. This finding persists whether the fund is actively or passively managed. Load fund Class B shares have the lowest alpha, reflecting relatively high annual expenses, and existing evidence suggests that B shares are generally a poor choice for investors. The finding that investors in Class B shares also experience the worst average timing performance casts these shares in a further bad light. However, it is worth highlighting the fact that investors in all of the retail share classes, except no-load index funds, experience significant underperformance due to poor cash flow timing.

These results sound a warning to fund investors who are considering whether to attempt market timing, either on their own initiative or through their broker’s advice. Rather than outperforming a given fund, the average active investor is more likely to under-perform a passive dollar invested in the fund, and the use of an investment professional to trade shares is correlated with even worse investment timing performance.

Maybe I'm putting myself out of work here but this study draws interesting conclusions to be sure. In addition to fixed income products, I also sell 'no-load' mutual funds so I am not as bad as most of my colleagues in the business. Watching the fee level on funds is important to me and most of my clients as it directly impacts performance. Investing in funds with good defensive characteristics and long-term outperformance is where value can be added in most of my client relationships.

In Canada, most no-load mutual funds have trailer fees which typically are paid by the mutual fund company to the firm selling the funds and subsequently to the advisor. If you do not have an advisory relationship, there are mutual funds available that do not have trailer fees, which typically saves the investor money. Of course you need to do a little bit of work yourself.

The question I have about this study is what would most of these investors do if they did not have an advisory relationship? Would they invest at all? Would they do as well on their own versus an advisor who sold them no-load funds?

FVREB November Statistics

The Fraser Valley Real Estate Board released their monthly statistics package this morning and here are the goods.

The Vancouver Sun Story

The press release:

(Surrey, BC) – The Fraser Valley Real Estate Board reports more activity on the Multiple Listing Service® (MLS®) in November compared to 2006. The total number of sales processed through the MLS® in November was 1,327, an increase of 11 per cent compared to the same month last year when 1,194 sales were processed. “The market typically slows a little at this time of year, which is evident in the decrease in November’s sales and new listings compared to October of this year,” says Jim McCaughan, president of the Board.

McCaughan, a 30-year real estate veteran, explains why November 2007 outperformed the same month last year, “It’s thanks to a healthier supply. We’ve had strong demand in the Fraser Valley for essentially the last five years, however we haven’t always had as broad a selection of product. Our recent increase in inventory is what’s keeping sales solid.” The Board added 2,154 new listings in November, an increase of 9 per cent compared to November 2006. The total active inventory for November 2007 was 8,593, an increase of 16 per cent compared to 7,391 active listings in November of last year.

The average price of a single-family detached home in the Fraser Valley in November was $511,176, an increase of 4.9 per cent from 2006 when the average price was $487,392.
Townhouses sold for an average of $325,409 in November, an increase of 6.2 per cent from 2006 when the average price was $306,509. The average apartment price went up 7.5 per cent in one year, from November 2006’s average of $200,032, to $215,118 for 2007.

Median prices are mostly flat since the summer period.

The quality and sales mix adjusted House Price Index is at the same level as late summer. The direction is lower right now but that could be just seasonal. Year over year price changes are much lower now than from the heyday of 2006. If US bubble markets are any indication, we should see negative year over year price changes 18 - 24 months after peak appreciation (this puts us in the January 2008 to June 2008 time period - January is not going to happen).

The inverse correlation gets stronger and stronger the more data I get. Months of Inventory is at 6.5 months right now and we have negative quarterly prices changes. If history is any guide this will happen 4 times out of 5.

REBGV Housing sales continue to rise in November

The insanity continues for another month. The activity level of sales is astonishing at current prices and mortgage rates. Clearly, some people have a lot of money or they can borrow a lot.

Vancouver, B.C. December 4, 2007 –
The Real Estate Board of Greater Vancouver (REBGV) reports that total residential sales reached 2,883 units in November 2007, an increase of 22.2 per cent compared to 2,358 sales in November 2006, and a 1.9 per cent decrease compared to the 2,938 units sold in November 2005.

Property listings increased 6.6 per cent compared to last year’s levels, with 3,377 active listings at November month-end, compared to 3,168 during the same period last year. “The housing market continues to be strong,” says REBGV president Brian Naphtali. “November figures show strong growth compared to last year, are basically on par with figures from 2005, and are 16 per cent higher than the same period in 2004.

“Affordability is a key question,” Naphtali says. “Our data indicates that about 60 per cent of residential homes purchased in November were multi-family, which includes condos and townhomes. The benchmark price for a condo in Greater Vancouver is about $375,000. However, there are units available for considerably less than this price. For example, the benchmark for condos in Port Coquitlam in November was $243,624; in Maple Ridge, $254,703; and in Coquitlam, $283,830.”

Certainly looking like a market top.

According to Multiple Listings Service® (MLS®) data, sales of apartment properties increased by 21.5 per cent to 1,276 sales in November 2007 compared to 1,050 sales in November 2006. The benchmark price of an apartment property in Greater Vancouver, calculated by the MLSLink® Housing Price Index, is $374,393, up 13.6 per cent from one year ago.

Sales of attached properties increased by 33.7 per cent in November 2007 to 540 sales, compared to 404 sales in November 2006. The benchmark price of an attached unit is $455,332, up 11 per cent from a year ago.

Sales of detached properties increased by 18 per cent in November 2007 to 1,067 sales, compared to 904 sales in November 2006. The benchmark price of a detached unit is $729,011, up 12.6 per cent from last year.

Some data points that were not mentioned in the press release are that annual appreciation in the outer suburbs of Coquitlam, South Delta, Port Moody, Maple Ridge and New Westminster is decidedly lower (in the 7% range as opposed to the 12% range cited in the press release). This is in line with my postulation that market softness and subsequent price declines will show up in the suburbs first and move from the outside in. This is why I watch the FVREB release more closely than any other data. This outside-in movement has been typical in the bubbly US markets.

Central Banking

The video is an interesting history lesson with some controversial conclusions.

And here in Canada - - - all is (not) well.

OTTAWA (Reuters) - The Bank of Canada may have overstepped its legal powers during the summer credit crunch and legislative changes are needed to clarify its role in future financial market crises, an independent report said on Tuesday.

From August 15 to September 7, the central bank temporarily expanded its list of collateral used when conducting open-market operations to boost liquidity and reinforce its target for the overnight interest rate.

The bank stepped into "questionable legal territory" when it began accepting commercial paper, foreign bonds and corporate bonds in addition to the usual government securities, bills of exchange and promissory notes, argued John-Paul Koning of the C.D. Howe Institute, a think tank.

"The bank's actions may have exceeded its statutory authority and, if Parliament believes it necessary that the bank should have the scope to act as it did, legislative changes are needed," Koning wrote.

The law governing the Bank of Canada says that only government-issued and guaranteed securities may be used as collateral for central bank operations designed to influence the overnight lending rate. These include the Special Purchase and Resale Agreements, whereby it buys securities with the agreement to sell them back the next business day.

The list of collateral is less restrictive for lending through the Bank of Canada's Standard Liquidity Facility. It was this list that the bank adopted temporarily for its purchase and sale operations in the market.

The law gives the central bank extended buying and selling powers in times of financial emergency but only if the governor publicly states that an emergency exists, something Bank of Canada Governor David Dodge did not do in August.

Lawmakers should decide whether they want to give the Bank of Canada the power to use private sector debt as collateral when ensuring short-term financing in times of financial market difficulty, Koning said.

"The Bank of Canada should offer Canadians a comment on its actions of this past August. Policymakers should also revisit the thinking behind certain sections of the Bank of Canada Act," he said.

"Failure to do so could hamper the bank's response the next time the financial system runs into trouble."

Dodge signaled on October 21 that he was mulling possible changes to the bank's liquidity provisions. In a speech in Washington, he floated the idea of a new central bank facility that would provide liquidity to banks at terms longer than overnight, collateralized with a possibly wider range of securities.

Deputy Governor Pierre Duguay repeated the idea in a November 20 speech. "The types of market failure that such a facility would be designed to deal with would obviously need to be very carefully considered to avoid weakening the incentive for preventive risk and liquidity management by market participants," he said.

Dodge and Senior Deputy Governor Paul Jenkins will be answering questions from the Senate Banking Committee on Thursday and the incoming governor, Mark Carney, appears before the House of Commons finance committee on Wednesday afternoon.

(Reporting by Louise Egan; Editing by Peter Galloway)

Warren Buffett - Going Global on CNBC

With all the inclement weather over the weekend I had some time to watch TV and there was a CNBC special on Friday night featuring Warren Buffett and a recent brief trip to Asia. It was intriguing and I am sure they had trouble keeping it down to one hour. I encourage you to check it out over on CNBC's website.