Look North for Opportunities

11/04/2010 12:00 pm EST

Focus: FUNDS

Mark Salzinger

Editor and Publisher, The No-Load Fund Investor

Mark Salzinger, editor of the No-Load Fund Investor, and associate editor John League recommend a fund and ETF to invest in Canada’s strong economy and currency.

Canada has a diversified economy, a strong financial system, and vast natural resources. Its huge reserves of petroleum, natural gas, zinc, gold, uranium, and timber typically make Canada’s stock market move in the same direction as commodity prices.

But unlike many other commodity-exporting countries, Canada hasn’t been an especially strong performer over the past 12 months—which we think offers investors an opportunity to buy into a strong economy at an attractive price.

Canada has enjoyed steady economic growth, falling unemployment, and a strengthening currency over the past 18 months. Real GDP growth (economic growth without inflation) is expected to reach 3% in 2010, while unemployment has steadily ticked down this year from a high of 8.5% to 8.0% recently. The Canadian dollar recently achieved one-to-one exchange-rate parity with the US dollar, which historically has been stronger than the Canadian currency.

The US is Canada’s largest trading partner. However, Canada is becoming less dependent on the US, which consumed only 63% of Canadian exports in 2009, vs. 71% in 2005. Also in 2009, countries other than the US bought more than 25% of Canadian exports, the first time that’s happened since the Canadian government began keeping such records.

Many investors may be missing exposure to Canada, because Canadian stocks are excluded from the MSCI EAFE Index, the most popular developed-market equity benchmark.

To gain such exposure, or to augment that which you already have, we can recommend both Fidelity Canada (FICDX) and iShares MSCI Canada (NYSEArca: EWC) ETF. They have relatively low expense ratios (Fidelity subsidizes its Canada Fund’s expense ratio to make it lower for investors), and they have similar performance records.

Fidelity Canada is managed by Doug Lober, who ran Fidelity’s Canada-equity research team for a decade. He tends to stick with the major players in Canada’s three biggest industries—materials, energy, and financials—which make up about 60% of the portfolio.

He does devote more of the portfolio to other sectors than is found in EWC, and he invests more in smaller companies. Consumer-discretionary, industrial and health care stocks make up about 25% of Fidelity Canada, but only about 10% of EWC. About one-third of the portfolio is in midsized stocks, vs. about 12% for EWC.

Investors who prefer more direct exposure to Canada’s energy and materials stocks would prefer the ETF, which has about 47% of its portfolio in those sectors, compared with about 40% for Fidelity Canada. EWC also has nearly one-third of its portfolio in financial-services stocks, and most of that allocation consists of the five largest Canadian banks and insurers, all among the ETF’s top 15 holdings. 

EWC’s average price/earnings ratio recently was 20.7x, which is about 20% lower than its level six months ago (25.7x), even though the prospects for sustained global demand for commodities are stronger now.

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