www.advisor.ca ADVISOR’S EDGE REPORT JANUARY 2006 21
Capping Small Caps
Hesperian is in the process of cre- four-star Morningstar Rating.
ating a pooled fund investing in • Hillsdale Canadian Performance
micro-cap and small-cap stocks. Equity: An $18.2-million
Five-star rated Norrep II to be pulled from the shelves The two Norrep small-cap fund managed by Toronto-
funds will be able to invest in the based Hillsdale Investment
BY RUDY LUUKKO new pooled fund, which will be Management Inc. is also a four-
small enough to be able to take star fund.
Like children with their noses on fund performance. “It forces tions as small as $2.5 million with- $500,000 positions in companies. Of the above three managers
pressed to the window of a toy you to make decisions that are out owning more than 20% of What the pooled fund won’t offer, whose funds can still be purchased,
store, investors who are looking average to okay, versus good to their equity. however, is concentrated exposure QVGD is the one that is the clos-
for a strong performing Canadian great,” says Fernyc, whose strategy At $100 million, the average to a single terrific pick. est to facing capacity constraints.
small-cap equity mutual fund is to hold his 30 to 35 best ideas individual holding would rise to Based on the latest reported The $261-million Clarington
often find themselves on the out- in his small-cap portfolios. $2.5 million. The companies that data as of Nov. 30, the removal Canadian Small Cap and the
side looking in. The latest top-rated fund des- the fund held would have to have of Norrep II from the Canadian $224.2-million Ethical Special
It’s common for domestic tined to join the ranks of the capped market capitalizations of at least small-cap equity product shelves Equity now have combined assets
small-cap funds with top-quartile small-cap funds is Norrep II, $12.5 million, which still leaves would mean that more than half of of nearly $500 million.
performance numbers and high which will close its doors to new the investment universe pretty much the eight small-cap mutual fund Moreover, on Dec. 28, QVGD
Morningstar Ratings to be capped investors on or before March 1. A wide open. mandates with four or five-star took on an additional small-cap
by their managers, with no inten- sibling fund, Norrep, has been Morningstar Ratings would be mandate, the $62-million CI
tion of resuming sales for the fore- capped since March 2005, while Funds that are allowed to unavailable to new purchasers. Signature Canadian Small Cap
seeable future. also continuing to maintain a five- Right now, both the Bissett Corporate Class. The potentially
grow too large face two
Capping a Canadian small-cap star Morningstar Rating. Small Cap and Bissett Microcap dilutive impact of this new client
fund allows the manager to avoid The Norrep funds are managed
choices, neither of which mandates managed by Fernyc are will be mitigated, however, by CI’s
having to dilute the returns that by Calgary-based Hesperian Capital is in the best interests of capped, as are Mawer New Canada decision to revise the fund’s invest-
attracted investors to the fund in the Management Inc., a private firm investors. and Resolute Growth. ment strategy to relax its minimum
first place. Chris Fernyc, an accom- headed by president Randy Oliver, Remaining on sale are several required Canadian content to 51%.
plished small-cap manager with who wants to limit his firm’s But at $400 million – the self- highly rated funds, representing the QVGD’s Leigh Pullen and his
Bissett Investment Management in Canadian small-cap assets under imposed threshold that Hesperian is stock-picking efforts of three dif- co-manager Joe Jugovic have assured
Calgary, says managers of funds that management to $400 million. nearing – the average investment in ferent portfolio managers. They are: fund company clients that they still
are allowed to grow too large face Like Bissett’s Fernyc, Oliver has a 40-stock portfolio would be $10 • Clarington Canadian Small Cap have room to increase their small-
two choices, neither of which is in liquidity constraints that curb his million. Again, assuming the man- and Ethical Special Equity: cap assets under management with-
the best interests of investors. willingness to take on new assets. ager did not want to hold any more While not identical because of out compromising performance.
One alternative is to buy more He maintains relatively concentrated than 20% of a company’s equity, the latter’s screening for socially “While they are aware of the con-
shares of the fund’s existing hold- portfolios of less than 40 stocks, the minimum market capitalization responsible investments, these straints that a large-asset, small-cap
ings. Since small-cap stocks tend to and normally does not like to own required would be $50 million. two funds are similar because portfolio may face, it is not an issue
be illiquid, and therefore more any more than 20% of a company’s Though a $50-million market both are managed by Calgary- now nor is it expected to be for sev-
price-sensitive to trading volume equity. This alone reduces the capitalization is still well within based QVGD Investors Inc. In eral years,” Russell Moldowan,
than larger-cap names, this could number of stocks that he can hold micro-cap territory, it would rule recognition of their many simi- manager, portfolio analysis, for
diminish the fund’s returns. The as the total assets in his small-cap out many of the emerging compa- larities, the funds were the co- Ethical Funds, told Morningstar.
additional shares – all other things funds grow larger. nies that have contributed to the winners of the Canadian Small Moldowan added that at this
being equal – would tend to be To illustrate the impact of asset excellent past performance of Cap Equity Fund of the Year point there is no need to cap Ethical
more expensive than those previ- size, Oliver says a Canadian small- Norrep II and its sibling. award at the 2005 Canadian Special Equity, and his firm is con-
ously acquired. cap portfolio holding 40 names Realizing this, Oliver is taking Investment Awards. fident that QVGD has a strategy in
The other alternative – and one would only need to invest $500,000 steps to ensure that Norrep and • Renaissance Canadian Small place to provide for the success of
that is equally unpalatable to stock- in each of its holdings if its assets Norrep II will continue to have Cap: A $93-million fund man- the fund over the long term. AER
pickers like Fernyc – is to add to the were $20 million. A fund of this exposure to some of the smallest aged by Gaelen Morphet of the
number of names in the portfolio. size would be able to invest in companies in the Canadian equity Toronto office of TAL Global Rudy Luukko is investment funds editor at
This, too, can have a dilutive impact companies with market capitaliza- universe. He told Morningstar that Asset Management Inc. has a Morningstar Canada.
many names dilutes the value added by the manager and keeps sector weights within 5% of Russell 2000 weightings.
Analyst’s Report: makes returns more index-like. While we understand the appeal of low tracking error, it is
Fidelity Small Cap On the other hand, portfolio turnover should fall under
Hense. Harmon was an aggressive trader at times, resulting
our experience that sector-neutral offerings often have diffi-
culty consistently beating their benchmarks.
America in turnover rates ranging from a low of 143% in 2004 to
as high as 789% in 2001.
The new manager is not a newbie to the field of invest-
ments. Hense has held the director of equity research position
BY MARK CHOW Hense’s management style will be another change that at Fidelity before and managed a strongly performing small
will impact volatility. Harmon was a growth-at-a-reason- cap pooled offering available in the U.S. But Harmon pro-
With new management taking over, investors in Fidelity Small able-price (GARP) manager with a value bent, whereas duced good results as manager, so we will wait to see if
Cap America should expect some of its characteristics to Hense considers himself less value-oriented.The value style Hense can live up to his predecessor’s billing.
change. In October 2005, manager James Harmon moved to generally translates into lower volatility.
a higher-profile Fidelity offering in the U.S., leaving Thomas Hense looks for companies that have a catalyst for change OF NOTE
Hense in the driver’s seat. Hense has since made several such as new management. He prefers businesses that • One of the fund’s holdings under Harmon’s tenure was
changes, some of which should help this fund’s performance, increase their share within a growing market. Overall, the Berkshire Hathaway (hardly small cap).
while others leave us with a feeling of uncertainty. portfolio is geared to have better growth characteristics and • The fund’s MER of 2.65% is higher than the category
Going forward, the fund may be a tad more volatile. Its a lower price/earnings ratio than the Russell 2000. median.
previous manager held the reins for over five years and Though Fidelity’s modus operandi is usually to add value • This fund has a long tail. The top 10 names represent
delivered a fund that was more small-to-mid cap than a via stock selection rather than sector allocation, Harmon only 18% of assets, while the top 50 only make up 57%.
pure small cap. Hense has sold some of the larger-cap did actively over and underweight sectors. Before leaving the • Having previously been director of high yield research
names and seems to be much more focused.The fund now fund, he had underweighted information technology stocks and equity research, Hense gets buy ideas from many
holds roughly 150 names while under Harmon it held as by over nine percentage points versus the Russell 2000 and sources at Fidelity. This can give him several points of
much as 300 when he felt unsure of the markets. Although overweighted the energy sector by nearly the same amount. view on the same company. AER
we think a more focused portfolio will serve investors better, We liked the freedom this offered the manager to add value.
Harmon’s approach did reduce the fund’s volatility. But too Hense more closely follows Fidelity’s teachings and Mark Chow is an analyst at Morningstar Canada.