In November, we introduced Vanguard’s Canadian risk speedometers. We found
that investors were well balanced in their risk appetite, which was an
encouraging sign given that higher risk equity-type assets had outperformed
more conservative bond-like investments in recent periods.
In Figure 1, we update the risk speedometers for the periods ending October
31, 2017, and find that risk has edged slightly higher in October relative
to September, but continues to be well balanced over all periods.
Similar to last month, we regard that balance to be an encouraging sign
considering that the Canadian equity market has outperformed the Canadian
bond markets by 1.0%, 4.7% and 11.3% over the past 1-, 3- and 12-month
periods, and global equities have similarly outpaced hedged global bonds by
4.8%, 7.0% and 18.0%, respectively, over the same periods with volatility
This period does appear to be somewhat different than the typical pattern
of increased risk appetite and performance-chasing that we have seen in
other similar periods when equity returns have been above average and
volatility below average. However, this could change as investor behaviour
typically lags market returns, and there was a small period of
outperformance by Canadian bonds in 2015, making the duration of the
Canadian equity markets outperformance less than two years. The other thing
to keep in mind is that a balanced risk appetite may reflect an environment
where valuations are high and risk premiums compressed across asset
Nevertheless, moderate risk appetite is an encouraging sign and shows that
investors could be embracing the benefits of a well-balanced asset
allocation and rebalancing to an appropriate asset mix in a period of
There are two other positive signs that Canadian investors could be
embracing strategic asset allocation. The first is the global nature of net
cash flows, shown in Figure 2. Indeed, all but one of the top three net
inflow categories over the 1-, 3-, and 12-month periods were into global
investments while the corresponding outflow categories were all from
Canadian investments. Combined with a balanced risk appetite, these global
flows provide greater diversification relative to the concentrated Canadian
equity and bond markets, reducing idiosyncratic risks and providing
exposure to a greater number of securities, markets, sectors, and economic
and inflation environments.
The second positive sign to note is that to the extent that trends in the
Canadian markets trail those of the U.S., it can often be seen as a leading
indicator of trends that could emerge within Canada. In the U.S. we publish
similar risk speedometers and have found the trend to asset allocation even
further along amid an equity bull market that has been greater in magnitude
and longer in duration. Against this backdrop, the October U.S. risk
speedometers are below those of the Canadian market over all periods,
suggesting rebalancing is occurring.
When examining net flows relative to their asset base, we find conflicting
signals. Significant growth in the global bond category over the past 12
months of 42% is consistent with our hypothesis of a shift toward global
asset allocation. However, other more niche and specialty categories
dominated the list of both positive and negative relative flows. While
these flows were not large enough to make it into the top three net flow
tables in absolute terms, growth of speculative asset categories like
volatility-based, inverse/leverage, and trading-based investments would
seem to run counter to the hypothesis, although on the other hand they were
the three most negative categories over the 12-month period. Significant
growth of higher risk yield-centric categories, such as preferred share
bonds and floating-rate loans, also buck the diversification trend.
If there is a trend to global asset allocation, it could be the result of
fragmented behaviour within the investor base of individual, advisor, and
institutional investors or that these investments are being used as smaller
satellite allocations alongside a more diversified core investment
portfolio, or both. Given complications arising from analyzing aggregate
flows from a diverse population of investors, it is difficult to know for
As time passes, we will continue to monitor the risk appetite and net flows
of Canadian investors and comment on these and other trends as they
Todd Schlanger, CFA, is a senior investment strategist in Vanguard’s Investment
Strategy Group (ISG) based in Toronto, Canada, where his
responsibilities include research on the capital markets, portfolio
construction and design, and investment market commentary.
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