Schlanger – Vanguard’s Canadian risk speedometer

As part of financial literacy month in Canada, we are proud to announce the launch of Vanguard’s Canadian risk speedometers.

These speedometers were originally designed by my colleagues in the United States to provide a factual representation of how investor risk appetite is trending today, relative to the past.

In order to generate the speedometers, we calculated net cash as a percentage of total assets under management, (in this case, within the universe of Canadian mutual funds and ETFs) into high-risk and low-risk asset categories. We then looked at the relative cash flows into high- versus low-risk asset classes, relative to history.

The end result is a risk measure that can be tracked through time and displayed in a risk speedometer index, as shown in Figure 1 over the 1-, 3-, and 12-month periods ending September 30, 2017. When risk appetite is above its historical average—such as over the 12-month period, the needle is to the right of centre, indicating higher risk appetite. When the needle is to the left of centre, risk appetite is below average. In addition to the current risk appetite readings, we also display the prior 1-, 3-, and 12-month readings for comparison.

Figure 1: Vanguard’s Canadian risk speedometers, September 30, 2017

Vanguard’s Canadian risk speedometers, September 30, 2017

Notes: Vanguard’s risk speedometers measure the difference between net cash flows into higher-risk asset classes and lower-risk asset classes, in this case within the universe of Canadian mutual funds and ETFs. The lighter-shaded areas represent values that are within one standard deviation of the mean, which means they occur roughly 68.2% of the time (34.1% higher and 34.1% lower). The middle shades represent readings between one and two standard deviations from the mean, occurring 27.2% of the time (13.6% higher and 13.6% lower). The dark edges represent values more than two standard deviations from the mean, occurring the remaining 4.6% of the time (2.3% higher and 2.3% lower). Speedometer values for previous periods may change from what was initially reported as the current value in prior periods because of changes made in Morningstar, Inc., data, and to the updating of the five-year average.

Sources: Vanguard calculations, using data provided by Morningstar, Inc., as of September 30, 2017.

Along with the risk speedometers, we will be providing underlying asset category details (the top winners and losers in each category) in terms of net cash flows and changes in assets under management that resulted in the current risk appetite readings, as shown in Figure 2 (for the same periods, ending September 30, 2017).

Figure 2: Highest net inflows and outflows

Top winners

1-month inflows ($B) 3-month inflows ($B) 12-month inflows ($B)
1 Global bond 1.1 Global bond 3.1 Global bond 13.8
2 CAD bond 0.9 Global equity 1.9 Global equity 5.4
3 Global equity 0.7 Intl equity 1.7 Global equity bal 5.2
1-month inflows (% of AUM) 3-month inflows (% of AUM) 12-month inflows (% of AUM)
1 Trading-misc 13% Volatility 29.2% Preferred share bond 54.1%
2 CAD long-term bond 5.6% U.S. money market 12.7% Floating rate loans 54.0%
3 Cmdty-prec metals 5.2% Trading-misc 12.5% Volatility 50.6%

Top losers

1-month inflows ($B) 3-month inflows ($B) 12-month inflows ($B)
1 CAD equity -1.8 CAD equity -1.7 CAD equity -2.3
2 CAD neutral bal -0.4 CAD neutral bal -1.1 CAD foc equity -2.2
3 CAD foc equity -0.4 CAD foc equity -1.0 CAD neutral bal -1.5
1-month inflows (% of AUM) 3-month inflows (% of AUM) 12-month inflows (% of AUM)
1 Passive inverse/Levgd -5.8% Passive Inverse/Levgd -4.7% Passive inverse/Levgd -34.7%
2 Financial services -3.4% Misc-inc and real prop -3.1% Multicurrency -17.7%
3 CAD equity -2.0% Natural resources -2.6% Trading-misc -16.3%

Sources: Vanguard calculations, using Canadian mutual fund and ETF cash flow data from Morningstar, Inc., as of September 30, 2017. Currency is Canadian dollars.

Putting the data into perspective

While cash-flow data are widely reported, their interpretation can be more complex than conventional wisdom often suggests. Therefore, it is worth noting that our risk speedometers and net cash flow data are factual in nature and, given the diverse client groups that make up the Canadian investment industry, it can be difficult to develop firm conclusions.

Having said that, when trends emerge we will highlight them along with any themes we see from our experience and research. The current risk speedometers show appetite for risk as being either at or below its historical average in an environment where stock market returns have been above average and market volatility has been below average, with low episodes of drawdown risk.1

For example, within the Vanguard Advisor’s Alpha™ framework, we show that behavioural coaching is often the largest source of value advisors can add relative to what investors would achieve on their own.2 By providing a lens on investors’ evolving risk appetite, especially in bull and bear markets, we hope to provide a tool that supports financial advisors’ behavioural coaching strategies and helps clients stay the course.

The “winners” and “losers” tables provide an additional lens on investor’s asset category choices. They currently show investors have been embracing the benefits of global diversification and reducing positions in narrow slices of the market and specialty or niche products. We also see these trends as positive within the context of building well-balanced and diversified portfolios.

1 For example, Canadian and global equity market returns over the 12 months ending September 30, 2017, were an annualized +2.63% and +7.57% above their 20-year historical average with annualized volatility that was -9.67% and -6.31% lower, respectively. Source: Vanguard calculations, using data from Macrobond. Canadian equities are represented by the S&P TSX Composite Index and global equities are represented by the MSCI AC World IMI Index in CAD. Annualized return and volatility measures were computed from daily return data for the 12-month and 20-year periods ending September 30, 2017.

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