Markov Processes International

Equity Europe

Equity Europe funds’ performances range from -29.7% to 10.84% over the last 52 weeks (ending September 30, 2011), in EUR terms. On average, the best 5% of the funds outperform the market (pegged to the MSCI Europe Index) by approximately 9.67% and the worst 5% underperform by approximately 11.3%. We last analyzed this asset class back in October 2010 and found that at the time the best funds outperformed the benchmark by 15% and the worst funds underperformed by the same 15%. Volatility in the markets has caused greater dispersion in the funds’ performance this year when compared to the year before. Click here to download the PDF.

Of the top funds in our analysis a year ago, only 6% remain in the top funds’ portfolio while 3% now make up the bottom funds’ portfolio this year. Of the bottom funds a year ago, over 7% remain at the bottom and while over 12% went from being among the bottom funds to being among the top funds’ portfolio. However, it must be noted that the top performers a year ago, still rank in the top quartile and the bottom funds a year ago, still rank at the bottom quartile among their peers this year.

We examine factors describing the best and worst performing funds on an aggregate basis. When funds are aggregated in a group, their common factors crystallize and specific bets are diversified away, which provides the basis for such an analysis. The analysis suggests that the top and bottom funds, on average, were exposed to different capitalization and style factors which can help explain their very diverse performance. Please note that our conclusions may change if a different timeframe is used to select the best/worst funds.

Selection of Top/Bottom Fund Groups


–          Based on the universe of 680 funds, the total annualized performance is calculated during the last 52 weeks to rank the funds. Using the top 5% (34 funds) and bottom 5% (41 funds) equally weighted, daily rebalanced portfolios are created to try to identify why, on average, one group performed better in terms of style exposures.


–          The top 5% funds’ cumulative returns are approximately 9.67% higher than the MSCI Europe Index while the returns of the bottom 5% are 11.30% lower. In the chart below we include the results for the top funds and bottom funds as of our original analysis of October 2010. It is worth noting that the top funds remain in the top quartile of the peer group and that the bottom funds remain at the bottom quartile.

Chart 1: Cumulative Performance Chart



Returns-Based Style Analysis Highlights


–          The average RBSA style loadings show that the peer universe, comprised of 680 funds, is diversified with exposures across all size and style factors, with large value making up about 35% of the exposures and large growth a further 16%. Cash and cash equivalent exposures make up almost 11% of the exposure. This exposure might reflect the willingness of managers to increase their cash holdings over the past few months in light of the unresolved European sovereign debt problems.

–          When comparing these results to the results of the same analysis done last year [1], it becomes evident that the style exposures for the peer group are different. The largest exposures were to small cap value and large cap growth, which made up close to 80% of the portfolio. The results of the most recent analysis, which can be seen in Chart 2 below, show an exposure to small value of slightly lower than 10%; large value makes up close to 30% of the total exposure. Exposure to cash and equivalents shows up in the most recent analysis, making up close to 10% of the portfolio, whereas a year ago, the peer group showed no exposure to cash.


–          Using MSCI Europe style and capitalization indices as well as the MSCI Emerging Eastern Europe index as factors, our RBSA analysis demonstrates that the top and bottom funds have exposures to different factors. As shown in Chart 2 below, the top funds had a large exposure to Cash and Cash Equivalents which increased from close to 30% to 40% in the 12 weeks prior to August 2011. This increased exposure to Cash allowed the top funds to avoid the steep losses suffered during August and September. On the other hand, the bottom funds small Cash exposure did not shield them from the drop in the market.

–          As expected, the benchmark displays no exposure to cash or cash equivalents, proxied by the EONIA Index. Comparing the exposures of the portfolio and benchmark helps us understand the excess performance sources for the top and bottom portfolios.

Chart 2: Universe, Funds’, and Benchmark Average Asset Loadings




–          The most recent exposures for the top and bottom funds of our October 2010 analysis show that the funds have changed their style over the past 52 weeks. These exposures can be compared to those for the most recent top and bottom funds. The top funds of 2011 outperformed the top funds of 2010 due to having a larger exposure to cash or cash equivalents; on the other hand, the bottom funds of 2011 underperformed the bottom funds of 2010 because they had a lower exposure to cash or cash equivalents.

–          Over the period analyzed, if we remove the exposure to cash, on a re-scaled basis, the style of the bottom funds tends to converge, with value strategies dominating the overall style. The largest exposures of both bottom funds’ portfolio are to large and small value. The top funds show that small value exposure dominates the style of the best funds of 2010, whereas it is mid growth exposure that dominates the best funds of 2011. This style drift can be seen in the chart below.

Chart 3 – MSCI Europe Style and Capitalization Map

–          The analysis suggests that the worst performing funds in the past are quick to adjust their exposures in order to avoid further losses by increasing their cash exposures, but they do not completely change their style. From the chart above, one can see that both groups of bottom funds are much more exposed to value stocks than to growth stocks i.e. to shares in companies whose earnings are expected to grow at an above-average rate relative to the market. On the other hand, the best performing funds tend to maintain a more diversified profile while increasing their exposure to cash in order to protect prior gains.

–          Style attribution analysis shows that the overweight exposure to cash is the main factor behind the top funds’ above average performance. On the other hand, the bottom funds overweight exposures to emerging Eastern Europe and mid value were the most damaging bets.

Chart 4: Excess Return Contribution


During a turbulent time for European equity markets, only 12 out of 680 funds (i.e. 1.8%) managed to generate positive returns over the 52 weeks ending on September 30th 2011. A portfolio created from the top 5% best performing funds would have generated positive returns in excess of the benchmark, although the absolute performance was of 16 basis points. It is important to understand how the best performing funds weathered the storm and managed to not lose any money. A sizable exposure to Cash and Cash Equivalents, which increased in the weeks leading to the end of July, served to protect the top funds from going into the red. On the other hand, the worst performing funds were completely exposed to the markets, which ultimately hurt their performance.

As displayed above, the equally weighted portfolio of the best 5% performing funds of our October 2010 analysis remain at the top quartile of the peer group and the worst performing 5% funds remain at the bottom quartile of the peer group. This finding suggests that over a period of one year, performance persistence of European equity funds works both ways, good managers tend to remain at the top and bad managers tend to remain at the bottom.



Style Return: Return of the Best Fit Portfolio for the Manager Series, where the holdings of the portfolio are the Style Indices.

Selection Return: Calculated as the Manager’s Return subtracted by the Style Return. This is an indication of the Manager’s Selection or Stock Picking abilities.

Timing Return: Calculated as the Manager’s Style Return subtracted by the Benchmark’s Style Return. This indicates whether the Manager’s decisions, to over or under weight the style holdings, as compared to the benchmark, added to the portfolio’s return or not.

Style R Squared (R2): Measure of the model’s power in describing the Manager’s past behaviour in terms of style. The higher the Style R Squared value, the better the model’s explanatory power.


Predicted Style R Squared (PR2): Measure of the model’s power in predicting the Manager’s future behaviour in terms of style. The higher the Predicted Style R Squared value, the better the model’s predictive power.


Style Map: Graphic representation of the results of the Style Analysis. The series being analyzed are mapped unto a Cartesian plane, in which the X and Y axis represent exposures to different Styles and Sizes.


Asset Loadings: Weights of the Style Indices, as holdings, of the Style Portfolio, as calculated by mpi Stylus Pro.


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[1] “European Equity” October 2010.
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