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Funds for the year ahead

With vastly different predictions for 2003, some market pros offer GAIL EL BAROUDI their outlooks and their top picks

Few investors will be sad to say farewell to the equity markets of 2002.

Two consecutive years of double-digit losses have many dismayed investors wondering what is in store for next year -- and how best to play their fund holdings.

Such decisions won't be easy. Market watchers have very conflicting views about what lies ahead. Some see a robust market recovery in 2003 while others say equities remain vulnerable on the downside and still others predict markets will simply pitch and roll aimlessly.

Given these widely varied predictions, where should investors be seeking the best returns? We asked several experts to offer their market outlooks and top picks for the coming year.

They make no rash promises that these funds will be the best performers in the next 12 months but they have all have chosen funds they believe offer superior potential for 2003 and beyond.

Steve Kangas, fund analyst at Toronto-based Fundlibrary.com, says he looks for a "mediocre to blah" market at best in 2003, so in his view, forget index funds, which simply move as the markets do.

"Going forward, the market won't be your friend and looking for growth and momentum won't work; capital preservation and dividend yield are the ways to go."

He favours a conservative stock pickers' approach and recommends the $677.2-million CI Canadian Investment Fund (formerly the Spectrum Canadian Investment Fund), managed since 1996 by Kim Shannon. With major holdings in banks, real estate and insurance firms, it gained 2.4 per cent in the year ended Nov. 30.

"This fund has low volatility and, in a brutal year, it has held up well. Kim Shannon uses a slow and steady value approach and she has an impressive track record."

His favourite sector for long-term appreciation is health care. In that category, he recommends the $850.1-million Talvest Global Health Care Fund, which lost 9.1 per cent in the year ended Nov. 30.

An aging population inevitably means ballooning expenditures on hospital services, pharmaceuticals and biotechnology over the next five to 10 years, he says.

He chooses the Talvest fund because of its manager, Edward Owens, of Boston-based Wellington Management Co., who has run the fund since 1998. A widely respected value investor, Mr. Owens is a veteran with more than 15 years of experience in the healthcare sector and has invested the fund in biotech, medical devices, healthcare maintenance and currently has it heavily weighted in major pharmaceutical companies, Mr. Kangas says.

Dan Hallett, senior analyst at Windsor, Ont.-based Sterling Mutuals Inc., says he doesn't feel at home in either the bull or the bear camp. "My expectation is not of doom and gloom but not gangbusters growth either, so I prefer a blend -- not deep value and not all-out growth, more of a growth at a reasonable price approach."

He adds that he sees this as a good entry point for international funds. Even though the average one lost 17.3 per cent over the last year, he notes valuations are substantially lower in major overseas markets. The MSCI EAFE (European Australasian, Far East) index trades at about 19 times earnings while major North American indexes, such as the Standard & Poor's 500, sit at about 27 times earnings, he says.

Mr. Hallett recommends the $148.2-million Mawer World Investment Fund, which lost 8.4 per cent over the year ended Nov. 30 and has been managed by Gerald Cooper-Key since its 1987 start.

"He's done a fabulous job. For the last eight years, this fund has been a consistent first-quartile performer with the exception of only two quarters," he says.

Another pick in this category is the $3.9-billion Templeton International Stock Fund, managed by Donald Reed since 1989.

Historically a good performer, the fund has suffered recently, losing 18.2 per cent in the year ended Nov. 30.

"This fund has been hurt in the short term and its compound numbers aren't pretty, but I'm bullish on its future potential," he says. "It will bounce back eventually, due to the soundness of the portfolio team and its value-oriented style and, as I see it, it's better to be in early than to miss the party altogether."

He also recommends moving into high-yield bond funds. The difference between corporate and government bond yields is now the highest in 50 years, he says, because of a flight to government issues, which has raised their prices, combined with a sharp slump in corporate bond prices, following weak company profits and widely publicized accounting scandals.

James Gauthier, analyst with Toronto-based Dundee Securities Corp. agrees, noting that, in the 10-year term, the average high-yield corporate bond yields almost twice as much as government issues -- 11.5 per cent versus about 5.4 per cent.

"Corporate bonds will always have a higher yield, but managers say the spread now is higher than it has even been."

Within the next two to three years, the economy and corporate profits are bound to strengthen, which will lead to more confidence in corporate bonds, he says. "Then we should see the prices of high-yield bonds, which have been falling, moving up and the price of government issues moving down."

Both Mr. Hallett and Mr. Gauthier like the $960.1-million Trimark Advantage Bond Fund, which gained 4.3 per cent in the year ended Nov. 30, citing the impressive track record of manager Rex Chong. "The management expense ratio is one of the lowest in the high-yield bond fund category, at 1.4 per cent, so you have a combination of low fees and a strong team of managers," Mr. Hallett says.

He also recommends the $378.9-million Phillips, Hager & North High-Yield Bond Fund, which gained 4.7 per cent in the year ended Nov. 30. It has a rock-bottom management fee of 0.87 per cent and a talented, fixed-income team headed by veteran manager Scott Lamont, he says.

Another pick from Mr. Gauthier is the $28.5-million Northwest Specialty High-Yield Bond Fund, a top performer that gained 11.3 per cent in the year ended Nov. 30. He says manager Wayne Deans "confidently expects returns of between 10 per cent and 12 per cent from this fund over the next two or three years, which is more than we might see in equity markets."

Scott Barlow, senior fund analyst at Toronto-based CIBC Wood Gundy Inc., says analysts at his firm have come out with two diametrically opposed outlooks.

Jeffrey Rubin, the chief economist at CIBC World Markets, says equity markets may face major challenges in 2003, due to weakening consumer demand, which so far has been propping up the U.S. economy.

However Subodh Kumar, the company's portfolio strategist, believes that a resurgence in corporate spending will boost markets and send both the S&P/TSX and S&P 500 soaring by more than 30 per cent from current levels.

For investors who subscribe to Mr. Rubin's scenario and want to limit market risk, Mr. Barlow says an ideal choice would be the $877.7-million CI Harbour Growth and Income Fund, a balanced fund managed by Gerry Coleman since its 1997 inception, which gained 3.9 per cent in the year ended Nov. 30.

"On the equity side, the emphasis is on stable companies with attractive valuations and the bonds are a defensive play, even if interest rates don't fall any further," he says.

For believers in Mr. Kumar's growth scenario, Mr. Barlow recommends the $186.5-million Clarington Global Equity Fund, managed by Bill Wilby of Denver-based Oppenheimer Fund Inc., which lost 17.2 per cent in the year ended Nov 30.

"This manager plays technology by buying mid-caps in niche areas, where he can get decent multiples and he's also investing in luxury goods, especially in Europe, where he's finding good valuations. Both these sectors would do well in an economic rebound," he says.

© 2007 The Globe and Mail. All rights reserved.

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