investment manager outlook

Investment ManagerOutlookDate: July 2008

Author: Sadiq S. Adatia, CFA, Chief Investment Officer

Country: Canada

Synopsis: Russell’s quarterly survey of Canadian investment managers and their views of the market.

Russell Investments // Investment Manager Outlook / July 2008 p 1

RuSSell InveStment mAnAgeR OutlOOk

key trends / June 2008 Investment manager Survey*

*Compared to survey results from Q1 2008 Investment manager Outlook Poll.

After several consecutive quarters of strong Canadian economic performance, a soaring loonie, record energy and materials prices, and seemingly modest inflation, it appears that investment managers have begun to doubt the continued upside potential of the Canadian market. In fact, the second quarter of 2008 saw a drop in bullishness towards every major economic region of the world except one — the united States.

the investment managers expressed these views in the latest quarterly Russell Investment manager Outlook poll conducted by Russell in late may and June of 2008.

After several quarters of weakness, bullishness towards u.S. equities climbed from 33 percent to 45 percent, and bearishness dropped 13 percent to 31 percent. As other global markets show signs of vulnerability, it appears that many investment managers are seeing attractive relative value in depressed u.S. equities.

Indeed, 49 percent of investment managers say the Canadian market is now currently overvalued (another 47 percent believe it is fairly valued), and bullishness has dropped from 43 percent to 33 percent. Opinions remain divided on whether Canadian natural resources can continue their historic ascent. meanwhile, only 14 percent of managers see the loonie rising further in value.

When asked what specific factors are negatively affecting equity performance, 65 percent of managers cited a slowing economy. nonetheless, they continue to strongly favour equities, over bonds. With no further rate cuts in the offing, only 18 percent say they are currently bullish on Canadian bonds.

Overall, investment managers are optimistic about only a handful of asset classes—most notably, u.S. equities. n

Summary of key findings

$CAD vs. $U.S. Energy & Materials Canadian Bonds U.S. Equities

MOREBULLISH

MOREBEARISH

MOREBEARISH

MOREBEARISH


As creators of the Russell indexes and the only firm that researches more than 4,500 investment manager products, Russell Investments has extraordinary access to senior-level Canadian investment decision-makers. Prior to the end of each quarter, Russell surveys a sample of those investment managers to collect their top-line opinions about the direction of the markets, sectors/styles to watch, and trends on the horizon that could impact investment strategy. the result of this survey is the Russell Investment manager Outlook.

three of the four questions posed to investment managers are repeated each quarter, so that results can be measured over time. the poll also includes one topical question that changes each quarter. In addition to providing quantitative results, Russell reviews the data collected each quarter, and provides a qualitative analysis from a senior investment strategist (see page 3).

the Russell Investment manager Outlook is completed and distributed at the end of each quarter. this report includes responses from investment managers with a variety of investment focuses.

The manager research that Russell conducts for investment purposes is done entirely independent of the Russell Investment Manager Outlook, and responses to the survey are on a purely voluntary basis.

media relations contacts

tOROntO

thien Huynh manager, Communications 416-640-2529

About the Investment manager Outlook


u.S. and Canadian equities are headed in opposite directions By Sadiq S. Adatia, CFA, Russell Investments Canada limited

COmmentARy & AnAlySIS

After several consecutive quarters of strong Canadian economic performance,

a soaring loonie, record energy and materials prices, and seemingly modest

inflation, it appears that investment managers have begun to doubt the continued

upside potential of the Canadian market. In fact, the second quarter of 2008 saw

a drop in bullishness towards every major economic region of the world except

one—the united States.

the investment managers expressed these views in the latest quarterly Russell

Investment manager Outlook poll conducted by Russell in late may and June of 2008.

Our most recent survey reveals a turnaround in sentiment. the u.S. market had

been considered the world’s economic Achilles heel for the better part of the

past year, yet in our latest survey, bullishness towards u.S. equities climbed from

33% to 45%, and bearishness dropped 13% to 31%.

there appears to be a widespread realization that Canadian, european and Asian

markets are not immune to the slower growth, higher energy costs, credit issues,

and other challenges that were once seen as primarily the domain of the u.S.

However, where these markets have not yet priced-in any significant downside,

the u.S. market has already been driven to what some believe are worst-case-

scenario valuations.

Further, the Federal Reserve has indicated that it will tame inflation and defend

the u.S. dollar with aggressive interest rate increases if necessary. the potential

impact of this policy position can already be seen in a slipping Canadian dollar,

and investment manager bullishness towards the loonie diving from 50% a year

ago to just 14% today.

looking at the whole picture, it’s likely that investment managers are simply

finding better relative values in the depressed u.S. market than elsewhere in the

world, and may be looking to shift profits from Canada and other markets back

into American stocks.

Indeed, 49% of investment managers say the Canadian market is now overvalued

(another 47% believe it is fairly valued), and bullishness towards Canadian equities


Manager Expectations by Asset Class (As of June 2008)

note: Bearish = percent of managers responding with 1-3 on a scale of 1-7. Bullish = percent of managers responding with 5-7 on a scale of 1-7. Scores for neutral (4) are not included.

See detailed charts on the following pages.

= % Bearish1 = % Bullish2

CANADIAN EQUITIES (BROAD MARKET)

EMERGING MARKET EQUITIES

EAFE EQUITIES

CANADIAN EQUITIES (SMALL CAP)

U.S. EQUITIES

CANADIAN BONDS

$CAD VS $U.S.

CANADIAN HIGH YIELD BONDS

REAL ESTATE

CASH

33%

45%

15%

26%

26%

18%

28%

14%

29%

34%15%

44%

31%

62%

36%

48%

61%

50%

48%

44%


u.S. and Canadian equities are headed in opposite directions (continued)

has dropped from 43% to 33%. Digging a bit deeper, bullishness

towards the materials sector—dominated by gold stocks—plummeted

from 62% to just 32%. And, while 51% of managers remain bullish

toward the energy sector, bears have surged from 23% to 41%.

In our view, this illustrates the increasing divide between those who

believe Canadian natural resources are in the midst of a long-term secular

growth trend driven by a fundamental shift in the global economy, and

those who believe we are merely witnessing a classic bubble.

the Financial Services sector is another one with two distinct camps:

the 43% of investment managers who are bullish and believe we will see

a rebound within a reasonable timeframe, and the 43% who are bearish

and see today’s sub-prime debt issue as a serious, long-term problem.

After bottoming-out in the previous quarter, bullish sentiment towards

Real estate tripled this quarter, from a mere 6% of managers to

just over 15%. Information technology also saw bullishness rise

considerably, from 40% to 69%, although it’s important to note that

this sector is largely a proxy for RIm, which is perhaps Canada’s best-

known growth stock.

When asked what specific factors are negatively affecting equity

performance, 65% of investment managers cited a slowing economy,

while credit markets, low corporate earnings, inflation and energy

costs were each cited by 25%. Interestingly, interest rate policy was

cited by less than 5% of investment managers. this could be because

the market dislikes uncertainty, and there is currently a high level of

certainty that rates in Canada and the u.S. will be flat or nominally

higher over the balance of 2008.


Manager Expectations by Sector (As of June 2008)

note: Bearish = percent of managers responding with 1-3 on a scale of 1-7. Bullish = percent of managers responding with 5-7 on a scale of 1-7. Scores for neutral (4) are not included.

See detailed charts on the following pages.

= % Bearish1 = % Bullish2

24%

43%

32%

42%

41%

51%

32%

70%

40%

31%29%

27%

43%

42%

31%

19%

41%

53%

17%

26%

UTILITIES

MATERIALS

INDUSTRIALS

TELECOMMUNICATIONS SERVICES

FINANCIAL SERVICES

ENERGY

INFORMATION TECHNOLOGY

CONSUMER STAPLES

CONSUMER DISCRETIONARY

HEALTH CARE


Similarly, bullishness towards the Consumer Discretionary sector

rose from 19% to 32%, despite the conventional wisdom that says

this sector will suffer during a slowdown. It’s possible that managers

believe major players magna and Canadian tire have already been

driven down to attractive valuations.

Canada isn’t the only global market that stands to see increased capital

outflows as the u.S. returns to favour. Bullishness towards eAFe

equities slipped from 34% to 26%, and bullishness towards emerging

markets fell from 36% to 28%. Again, we speculate that this is a

reflection of more attractive u.S. asset prices on a relative basis.

Overall, investment managers continue to strongly favour equities over

bonds. With no expectation of future rate cuts, bullishness towards

Canadians bonds sits at only 18%, and more than 61% of investment

managers say they are now bearish. Among those managers who are

concerned about equity performance, cash appears to be the preferred

alternative, with 34% of managers saying they’re bullish on the asset class.

In sum, market sentiment deteriorated somewhat in the second quarter

of 2008. A broad-based economic slowdown is the consensus view,

and investment managers are optimistic about only a handful of asset

classes—most notably, u.S. equities. n

u.S. and Canadian equities are headed in opposite directions (continued)


valuation of the Canadian equity market

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Fairly valued

undervaluednote: numbers may not add to 100 percent due to rounding.

Question:

Which of these general valuation conditions best describes the current Canadian equity market?

Key Findings:

49% of managers consider the market overvalued•

47% of managers believe the Canadian market is fairly valued •

4% of managers say the market is undervalued •


ReSultS

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Asset class expectations

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Scale is 1 to 7

1 = Strongly bearish 4 = neutral 7 = Strongly bullish

Chart data is based on percentage of respondents.

note: numbers may not add to 100 percent due to rounding.

Question:

What are your expectations for the performance of the following asset classes over the next 12 months?

Key Findings:

Bullishness towards u.S. equities climbed from 33% to 45%•

Bullishness towards real estate tripled •

Bears dominate sentiment on Canadian dollar•


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Asset class expectations (continued)

Scale is 1 to 7




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Scale is 1 to 7




Sector expectations

Question:

What are your expectations for the performance of the following sectors over the next 12 months?

Key Findings:

Increase in bearishness towards energy and materials •

Bulls and bears evenly split on Financials•

Increase in bullishness towards Information technology •

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Scale is 1 to 7



Sector expectations (continued)

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Factors affecting Canadian equity performance

Question:

What factors are you most concerned could negatively affect Canadian equity market performance during the second half of 2008? (Please select your top two):

Key Findings:

A slowing economy topped all picks, followed by credit markets, energy costs, •inflation and low corporate earnings.Interest rate policy in the u.S. and Canada was not ranked highly.•

65%

28%26% 24% 24%

15%13%

2% 2%

Slowingeconomy

Creditmarkets

energyCosts

lowCorporateearnings

Inflation value ofCanadian

Dollar

Other u.S.FederalReserveInterest

RateDecisions

Bank ofCanadaInterest

RateDecisions

% o

f R

espo

nda

nts

note: numbers do not add to 100 percent. managers were asked to select two factors from a list of nine.


Supplementary information

Annualized Asset Class Returns to May 2008

-25.00

-15.00

-5.00

5.00

15.00

25.00

35.00

Canadian equity(Broad market)

Canadian equity

(Small Cap)

u.S. equity

eAFe equity

emergingmarkets equity

Canadian bonds

Canadian highyield bonds

Cash

1 yr (%) 3 yrs (%) 5 yrs (%) 10 yrs (%)

the Asset Classes are based on an appropriate, broad-based index applicable to that sector. For example, returns for the broad Canadian equity market represented are based on the S&P/tSX Composite Index.

Annualized Asset Class Returns to may 2008

Index Sources: mSCI 3 , PC Bond 4, tSX group Inc.5, Russell Investments Canada limited

Asset Classes 1 Year (%) 3 Years (%) 5 Years (%) 10 Years (%)

Canadian equity (Broad market) 7.40 18.00 18.98 8.84

Canadian equity (Small Cap) -10.11 8.05 12.11 n/A

u.S. equity -13.20 -0.04 3.63 0.84

eAFe equity -9.41 7.90 11.90 3.05

emerging markets equity 13.09 23.20 25.72 11.67

Canadian bonds 6.58 4.10 5.22 6.06

Canadian high yield bonds 2.73 5.90 7.00 7.55

Cash 3.73 3.66 3.19 3.64


Canadian equity (Broad Market)Index Source: S&P/TSX Composite Index

Canadian equities are a growth asset involving the purchase of ownership interests—and the rights to profits and voting that this implies—in a company listed on the S&P/tSX Composite Index. equities may be purchased from the global Industry Classification Standard sectors, including financials, energy, materials, industrials, consumer discretionary, consumer staples, health care, information technology, telecommunications, and utilities.

the risks faced by Canadian equities include liquidity risk, market risk and company-specific risk. the value of investments is subject to changes to management, product distribution, investor confidence, internal operations and the company’s business environment.

Canadian equity (Small Cap) Index Source: S&P/TSX Small Cap Index

these securities are small capitalization stocks which are represented by the S&P/tSX Small Cap Index. the S&P/tSX Small Cap Index is a benchmark of smaller Canadian companies that have been included in the S&P/tSX Composite Index, but are not members of the S&P/tSX 60 or the S&P/tSX midcap Indices.

U.S. equityIndex Source: Russell 3000® Index

u.S. equity is a growth asset involving the purchase of ownership interests—and the rights to profits and voting that this implies—in companies listed on an American equity benchmark, such as the Russell 3000® Index.

the Russell 3000® Index offers investors access to the broad u.S. equity universe representing approximately 98% of the u.S. market. the risks faced by u.S. equity include liquidity risk, market risk and company-specific risk. the value of investments is subject to changes to management, product distribution, investor confidence, internal operations and the company’s business environment.

EAFE equityIndex Source: MSCI EAFE Index

mSCI eAFe is a morgan Stanley Capital International index that is designed to measure the performance of the overseas developed stock markets of europe, Australasia, and the Far east. International equities have historically produced higher long-term returns than lower risk investments; however they tend to be relatively less liquid and more volatile than domestic equities.

International equities entail different risks than those typically associated with domestic equities, including currency fluctuations, political and economic instability, accounting changes and foreign taxation.

Asset class definitions


Emerging markets equityIndex Source: MSCI Emerging Markets Index

Index investments in emerging or developing foreign markets involve exposure to economic structures that are generally less diverse and mature, and to political systems which can be expected to have less stability than those of more developed countries. As a result, emerging markets securities may be less liquid and more volatile than domestic and more developed foreign markets.

Canadian bondsIndex Source: DEX Universe Bond Index

Index Canadian bonds (Canadian fixed income) are a defensive asset providing debt capital to organizations in return for coupon payments and return of capital at expiry. Canadian bonds may be sold which finance a variety of sectors including government, corporate, and international fixed income products. the sector chosen will determine, in part, the bond’s level of risk.

the primary risks associated with Canadian bonds include interest rate risk, inflation risk and credit risk. In general, there is a negative relationship between interest rates and the value of bonds.

Canadian high yield bondsIndex Source: DEX High Yield Bond Index

Index high yield bonds are non-investment grade debt obligations. In general, when interest rates rise, the value of bonds will decline. Bond investors should carefully consider risks such as interest rate risk, credit risk, inflation, securities lending, repurchase and reverse repurchase transaction risk. Portfolios that invest primarily in high yield bonds are subject to additional risks such as limited liquidity and increased volatility.

CashIndex Source: DEX 30-day T-Bill Index

Index cash is a defensive, low-risk asset that typically involves instruments such as 90-day government treasury Bills, high quality short term notes and commercial paper issued by major financial institutions and blue chip companies. Cash provides diversification and liquidity benefits to a portfolio; however cash generally provides lower investment returns than investments such as fixed income or equities. While highly liquid, cash generally has not kept pace with inflation.

Asset class definitions (continued)


methodology and background about Russell

Methodology

Russell Investments conducted the Russell Investment manager Outlook survey between may 28th and June 6th, 2008. the survey was sent to investment managers with a variety of investment focuses. Having a financial relationship with Russell Investments was not part of the criteria for being included in the survey.

In total, 33 investment management firms and 46 investment managers from Canada participated in the survey. the large majority of individual respondents to the Russell Investment manager Outlook have senior-level investment decision responsibilities, and are often portfolio managers. Other participants included investment strategists, research analysts and others. the manager research that Russell Investments conducts for investment purposes is done entirely independent of Russell Investment manager Outlook, and responses to the survey are on a purely voluntary basis.

About Russell Investments

Russell Investment group provides strategic advice, world-class implementation, state-of-the-art performance benchmarks and a range of institutional-quality investment products. With more than C$218 billion in assets under management as of April 2008, Russell Investments serves individual, institutional and advisor clients in more than 40 countries. Russell Investments provides access to some of the world’s best money managers. It helps investors put this access to work in corporate defined benefit and defined contribution plans, and in the life savings of individual investors.

Founded in 1936, Russell Investments is a subsidiary of northwestern mutual and is headquartered in tacoma, Washington, with additional offices in new york, toronto, london, Paris, Sydney, Singapore, Auckland and tokyo. Russell Investments Canada limited is a wholly-owned subsidiary of Frank Russell Company.

For more information, please visit www.russell.com/ca.

www.russell.com/ca


1We define bearish as on balance, an organization’s or individual’s predominant view based on a belief that general market conditions for the period in question will be negative, and relative valuations of securities in general will trend downward. this view should not be considered investment advice nor does it apply to any specific security.

2We define bullish as on balance, an organization’s or individual’s predominant view based on a belief that overall market conditions for the period in question will be positive, and relative valuations of securities in general will trend upward. this view should not be considered investment advice nor does it apply to any specific security.

3mSCI Index Information: mSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any mSCI data contained herein. the mSCI data may not be further redistributed or used to create indices or financial products. this report is not approved or produced by mSCI.

4PC-Bond, a business unit of tSX Inc. Copyright © tSX Inc. All rights reserved. the information contained herein may not be redistributed, sold or modified or used to create any derivative work without the prior written consent of tSX Inc.”

tHe uSeR AgReeS tHAt tSX InC. AnD tHe PARtIeS FROm WHOm tSX InC. OBtAInS DAtA DO nOt HAve Any lIABIlIty FOR tHe ACCuRACy OR COmPleteneSS OF tHe DAtA PROvIDeD OR FOR DelAyS, InteRRuPtIOnS OR OmmISIOnS tHeReIn OR tHe ReSultS tO Be OBtAIneD tHROugH tHe uSe OF tHIS DAtA.

tHe uSeR FuRtHeR AgReeS tHAt neItHeR tSX InC. nOR tHe PARtIeS FROm WHOm It OBtAInS DAtA mAke Any RePReSentAtIOn, WARRAnty OR COnDItIOn, eItHeR eXPReSS OR ImPlIeD, AS tO tHe ReSultS tO Be OBtAIneD FROm tHe uSe OF tHe DAtA, OR AS tO tHe meRCHAntABle QuAlIty OR FItneSS OF tHe DAtA FOR A PARtICulAR PuRPOSe.

5tSX Copyright 1997 tSX Inc. All rights reserved.

this is a publication of Russell Investments Canada limited. It should not be construed as investment advice. It is not a solicitation or recommendation to purchase any services of any organization unless otherwise noted. the contents are intended for general information purposes only, and you are urged to consult your own investment advisor concerning your own situation and any specific investment questions you may have. For further information about these contents, please contact Russell Investments Canada limited. the information contained herein has been obtained from sources that we believe to be reliable, but its accuracy and completeness are not guaranteed. Russell Investments Canada limited reserves the right at anytime and without notice to change, amend, or cease publishing the information. It has been prepared solely for informative purposes. It is made available on an “as is” basis. Russell Investments Canada limited does not make any warranty or representation regarding the information. Without prior written permission from Russell Investments Canada limited, it may not be reproduced, in whole or in part, in any form, other than for your own personal, non-commercial use. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.

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Copyright © Russell Investments Canada limited, 2008.

Date of publication: July 2008

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