While I have repeatedly written about my preference for passive, low-cost investing using ETFs or index mutual funds and that, in my opinion, the vast majority of mutual funds are hazardous to an investor’s wealth, a handful of active managers will be of interest to investors seeking to beat the benchmark indices. To find these mutual funds, it pays to ignore past performance, which has proven to be a poor indicator of future returns and instead look for mutual funds that satisfy a set of criteria such as cost, turnover, co-ownership etc. as suggested by David Swensen in Unconventional Success (read review).

It is easy to like Steadyhand funds. Its founder Tom Bradley counts himself among the fierce critics of the industry and constantly points out the shortcomings of the business through his blog posts and columns in the Globe and Mail. He calls the mutual fund business “fat and flabby” and is out to actually do something about the sorry state of affairs with Steadyhand:

Low cost: For a small mutual fund operation, Steadyhand’s fees are remarkably low. The fees range from 0.65% for a savings fund to 1.35% for the equity fund to 1.70% for a small-cap fund. A fee reduction program offers discounts for larger accounts and for longer-term investors. Steadyhand sells its funds directly to investors and does not pay commissions or trailers.

Concentration: Most mutual funds are bloated with hundreds of holdings and inevitably end up mirroring the benchmarks (and trailing it after fees). Active managers who construct portfolios concentrated in their “best ideas” are more likely to post returns that are also different from the index (note that the variation could be in either direction and obviously fund investors are looking for outperformance). Steadyhand’s equity funds aim to invest in 15 to 50 stocks.

Co-investment: While selecting active managers, it is important to look for ones that eat their own cooking. After all, managers are likely to be a lot more careful with the hard-earned money of shareholders if a significant amount of their wealth is invested in their own funds. Steadyhand’s sub-advisors and employees have disclosed their substantial investments in their own funds.

Low Turnover: Steadyhand’s funds do not have a long track record but the Equity Fund and Small-Cap Fund have reported low turnover for the past two years. As the Global Fund and the Income Fund seem to have remarkably high turnover, Steadyhand’s record on this score is decidedly mixed.

A word of caution: if you go the active management route, all you can do is put the odds in your favour; there is no guarantee that a mutual fund will beat the benchmark. And it is almost certain that active managers will have periods of underperformance and it is important to stick with them through thick and thin. Mutual fund investors should keep Charles Ellis’ warning in mind: if you don’t plan on staying married, don’t tie the knot in the first place.

Now, over to you: Which mutual funds, in your opinion, would be interesting for active investors? I have a few boutique mutual funds in mind but would be interested in your ideas for occasional posts on this topic.

PS: Don’t forget to enter your name in the Best of April 2009 Giveaway, which closes tomorrow at 8:00 PM EDT.

[Update: Scott Reynolds of Steadyhand Funds points out that the Global Fund’s high turnover in 2008 is attributable to cash management transactions related to a money market holding in the fund. Excluding this, the turnover is much lower at 35%. The manager of the Income Fund fund expects to have a higher turnover due to the nature of fixed income active management.]

This article has 14 comments

  1. Very interesting. Quite a timely article too since I happen to be looking into where to put some former pension money. Its not enough money for me to be investing in ETFs, so I get to investigate mutual funds and whatnot. Thank you for this information.

  2. Dave in Kanata

    These don’t seem to be available through TD Waterhouse – is that true??

  3. In my own personal opinion, I think the “index” will be range bound for the remaining duration of the economic downturn. So, in concept, I prefer the idea of stock picking in this market to separate the wheat from the chaff.

    Most Canadian equity mutual funds hold the same old stuff as their top holdings, which is usually some combination of the Big 5 Banks, the Big 3 Insurance or other Financial Services, the Biggest of the Oil & Gas or pipeline companies, maybe one of the biggest REITs. For those companies, my preference is to buy them individually – why pay any MER at all? It doesn’t take a rocket scientist to buy & hold RBC, Sun Life, TransCanada Pipeline, or RioCan shares, for example – they are very liquid and you only pay a one-time transaction fee.

    Once an investor has a “core portfolio” of the big name stocks like the aforementioned – then it might make sense for them to use an actively managed mutual fund for the remaining “growth” profile of their portfolio if they would prefer to hand that stock picking duty to an investment manager. Of course for ME personally, I prefer to pick my own high-risk / high growth potential stocks because for me, that’s the FUN part of my portfolio! But for someone else who isn’t interested in watching earnings and looking at market trends and such, maybe the Steadyhand funds would be appropriate.

  4. I forgot to mention that I hold the same opinion for fixed income as I do for large caps… Why hold them in a fund and pay any MER at all? It doesn’t take a rocket scientist to buy a GIC or T-Bill. It does take a little more consideration when looking at long bonds, but it’s still not like brain surgery. Besides, in a rising interest rate environment, holding individual securities is less risky because you’re likely to get all of your principal amount back upon maturity, whereas that’s not likely in a marked to market bond fund as they don’t mature.

  5. The PH&N series of mutual funds have relatively low MER and perform well compared to their peers. Tom Bradley was the CEO of PH&N until 2005 so his fingerprints are all over both companies.

    Now to see if RBC ruins it…

  6. My “actively managed” fund is Fairfax Financial and Berkshire 😉

  7. Canadian Capitalist

    Ananke: I plan on writing about BRK and FFH. Thanks for the idea!

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  11. have you guys heard of a fund company called capital group? they run american funds in the US, and charles ellis wrote a very flattering book on them. i looked up their website and virtually all of their funds beat the index – how does that happen? I heard they are available in Canada under the brand “Capital International” and their fees seem to be much lower than most brand name funds…..

    any thoughts?

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  13. Hey CC,


    From what I can see the Canadian Focused fund (net of fees) for August 31/2010 year to date return is -3.73% vs. TSX Composite 1.43% (no fees).