Investing and business strategies
for a global capital market
Chairman & CEO
RBC Funds Inc. and
RBC Global Investment Management Inc.
Mississauga Board of Trade
Tuesday, May 28, 2002
Thank you and good afternoon.
Thank you very much for your introduction and kind words.
This is not an easy time to be making financial decisions,
either for your business, or for your own personal investments.
The fact is, these are uncertain times. Many variables could
affect global economic performance over the near to mid
term. There are even more divergent opinions as to how these
variables will affect you as an investor and as a business
We are all searching for that one "truth" that
will serve as a guidepost for our businesses and investment
portfolios. Unfortunately, our experience is likely to be
similar to the quest of the philosophy student for the perfect
political and economic system. Instead, he finds himself
confronted by the Bovinian Theory of Economics and Political
Philosophies explained in simple "Two Cow" terms:
Socialism : You have two cows. The government takes
one and gives it to your neighbour.
Communism: You have two cows. The government takes
them both and provides you with milk.
Fascism: You have two cows. The government takes
them both and sells you the milk.
Bureaucracy: You have two cows. The government takes
them both, shoots one, milks the other, pays you for the
milk, and then pours it down the drain.
Corporatism: You have two cows. You sell one and
force the other to produce the milk of four cows and then
act surprised when it drops dead.
Capitalism: You have two cows. You sell one and buy
Clearly the preferred alternative.
I would like to share three things with you today -
First, to provide RBC Investments perspective on the capital
markets and long term investing in these challenging times.
Second, to review how RBC Funds Inc. and its primary investment
manager, RBC Global Investment Management, are charting
a new course as businesses facing large global competitors;
we believe there are parallels in the challenges faced by
many Canadian-based businesses. Finally, to share with you
some thoughts on the importance of a "new culture of
responsibility" in a post-September 11th, post-Enron
Let me begin by providing you with the current capital market
outlook of the RBC Investments Strategy Committee. First,
what is RBC Investments and second, what is its Strategy
Committee? RBC Investments is the division of the RBC Financial
Group focused on meeting the investment needs of individual
clients - through our financial planning teams in RBC Banking
branches, our self-directed and full-service brokerage businesses,
and our discretionary investment counselling, private banking
and trust services for high net worth individuals.
The mandate of the RBC Investments Strategy Committee is
to provide a quarterly strategic review of the capital markets
and recommended asset mix for use by all RBC Investments
businesses in serving their clients. It is comprised of
investment management professionals from around the globe
- North America, Europe and Asia. It is supported by an
in-house research team that is focused exclusively on the
needs of investors. It is Chaired by Mark Arthur, the President
& Chief Investment Officer, of RBC Global Investment
Management, the investment manager of the Royal Mutual Funds
family and the RBC Advisor Series Funds family. In short,
it is truly global in scope and capability.
While dire economic news may make headlines, the fact is
the fundamentals of our economy remain sound, and we estimate
a moderate economic recovery in 2002. The North American
economy is being revived through unprecedented interest
rate relief and stronger fiscal stimulus. We are seeing
evidence of this rate relief in the economies of both North
America and Europe.
While the Fed's desire to ensure an economic recovery in
the U.S., combined with the lack of obvious inflationary
pressures, may temper interest rate increases, we don't
expect returns on short or long-term government bonds to
exceed their coupon rate.
Turning from the economy and bond markets to our view of
the equity markets, it is important to recognize that equity
markets don't wait for the actual economic recovery before
rising. In 1990/1991, the market bottomed six months before
positive GDP growth and a full 18 months before the peak
in unemployment rates.
During the first few weeks or months of emergence from
a long bear market, low interest rates and excess financial
liquidity can make it possible for stocks to rally. This
is what happened in the last quarter of 2001 following the
September 11 tragedy and subsequent short-term dive in global
For such a bounce to have staying power, investors will
need to stick through the current climate of disappointing
reported earnings and rising corporate layoffs. Once investors
begin to see a plausible and probable resumption of earnings
growth and regain confidence in the accounting behind those
earnings (which we believe will occur), we will see more
To sum up, this is an environment where we would recommend
a modest overweight for equities vs. fixed-income securities.
However, the larger message is that we don't believe that
all sectors of the equity markets will perform equally well
over the next twelve months, or even the next decade. Rather
than a broad market advance across all sectors - financial
services, consumer stocks, technology, communications and
media, natural resources, health sciences, and infrastructure-related
stocks - we expect significant returns will depend on careful
sector and stock selection.
With this backdrop, there is no substitute for a financial
plan that includes a balanced asset mix and diversification
within these asset classes. While asset mix should depend
on your investment objectives and risk profile, the RBC
Investments Strategy Committee currently recommends an equity
weighting of 60% for long term balanced and growth oriented
investors. A diversified portfolio, with stock exposure
at this modestly over-weight position will give your portfolio
greater staying power.
With respect to diversification within the equity component
of your portfolio, in a market with reduced visibility of
earnings and elevated risks, one of the best strategies
to manage those risks is by looking at the sector make-up
of your holdings.
Traditionally, investors have diversified their portfolios
along geographic lines, complementing their Canadian holdings
with some US equities and perhaps European, Asian or Latin
American holdings. While it is extremely important to use
your allowed foreign content of 30% within your RRSP,
at RBC Investments and RBC Global Investment Management,
we focus on a sector approach, and recommend apportioning
your portfolio into industry groups, thereby achieving geographic
Why have we adopted this approach? Well, in terms of conducting
basic research and portfolio management this approach reflects
the increasingly "borderless" markets when it
comes to major businesses. Swings in various industries
occur globally rather than within the confines of a specific
region. Furthermore, as long as one has a defined investment
process, which we do at RBC Global Investment Management
company conducting global equity management by sector, rather
than geography, can concentrate most of its research and
investment management resources in a few locations. As such,
while RBC Global Investment Management has personnel in
six international centres, the vast majority of our 200
investment research, portfoio mangement and other investment
management employees are concentrated in Canada
The most important reason for adopting the global sector
approach is simply this; the benefits of geographic diversification
for investors have gone down over the last five years, while
the benefits of sector diversification have gone up.
Numerous academic studies of the performance of equity
markets around the globe, certainly in developed markets,
have shown that the correlation among geographic markets
has risen - U.S., Canadian, European, Asian markets have
moved more in tandem in recent years. This means there is
less diversification benefit from having exposure to each
of these geographic markets.
On the other hand, these same studies have shown that there
is less correlation of stock market performance across different
industry sectors - financial services companies perform
differently from health sciences companies, which perform
differently from technology companies within one market
and across geographic markets. This means that there are
more diversification benefits from having exposure to each
sector in a global investment portfolio.
While academic studies support this, we don't have to strain
to recall a real-world example of this in terms of the performance
of equity markets for most of 2000 and 2001. Investors who
believed they enjoyed diversification by holding Canadian
equity funds, U.S. equity funds, European equity funds and,
yes, even Asian equity funds had a rude awakening when all
declined significantly. The underlying reason in most cases
was an exposure to technology stocks of 30-40% in each fund.
A better means of cushioning the blow would have been to
balance an investment in these funds with, for example the
Royal Global Health Sciences Fund (up 10% in 2001). For
investors desiring simplicity, another alternative is a
global equity fund with exposure to all industry sectors,
such as our Global Titans Fund. In the spirit of Canadian-based
fair play, I should note that a few of our large foreign
competitors also offer these kinds of funds.
In terms of allocating investments among various sectors
under current market conditions, there are conflicting short
term arguments in favour of various sectors. The RBC Investments
Strategy Committee has recommended a consistent underweighting
of Technology and Telecom for the last six months, with
an overweight recommendation in Consumer and Industrial
Sectors. One sector within the Consumer area which we believe
will be particulary attractive over the long term for demographic,
technological and other reasons is Health Sciences.
However, rather than attempt to predict which sector will
outperform in the next twelve months, I would like to re-inforce
the basic message of the RBC Investments Strategy Committee
to you as individual investors -
#1 maintain an asset mix that fits with your investment
objectives and has a sufficiently large equity exposure
(60%) to enable you to meet your long term goals; and,
#2 ensure that the equity portion of your portfolio is diversified
across industry sectors on a global basis.
I will now turn to a review of how RBC Funds Inc. and RBC
Global Investment Management are evolving our business model
to address these trends and our competition. We must begin
at the foundation - by focusing on the investment process
we use to select stocks for each of our sector funds and
our diversified Global Titans fund.
Why must we begin here? Because simply selecting the sector
versus geographic approach to portfolio construction is
not sufficient from a business or investment management
perspective. Other global asset management companies, such
as Merrill Lynch and Deutsche Asset Management have announced
their intention to follow this approach, presumably after
having noticed the launch of RBC Global Investment Management's
sector approach and related Royal Mutual Funds in January
2001. So what makes our approach unique?
First, in order to make our in-depth research process effective
and efficient, we screen the over 1500 companies in the
MSCI global stock market index for ten years of results
along several criteria : profitability, leverage, sales
growth, return on invested capital, predictability of results,
and valuation, using a metric which corrects for accounting
differences among different jurisdictions. Once the companies
have passed this proprietary screening process, roughly
500 remain, which results in 50-75 stocks for each of our
sector research analysts to examine.
The second part of our process involves conducting in-depth
research, including a traditional competitive analysis of
industry structure, competitors, suppliers, regulatory environment,
as well as a review of the company's operations, management
team and approach to governance. In this respect, we are
particularly interested in a company's adoption of a "North
American" model in terms of being committed to creating
shareholder value and otherwise recognizing the rights of
shareholders as owners of the company.
Our universe of stocks is then ranked based on this analysis
and RBC Global Investment Management's portfolio managers
use this analysis in making the actual investments in the
sector funds in the Royal Mutual Funds and RBC Advisor Fund
It is clear that the effect of borderless markets is having
a major impact on the decisions facing Canadian companies,
including our own. Global competitors, industry rationalization
and tight capital markets face virtually every business.
In an uncertain world, it is tempting to retrench and hold
one's position. But in our business, RBC Funds Inc.and RBC
Global Investment Management, we are taking the opposite
tack. We are forging ahead and facing up to our foreign
competitors by taking what has made us successful and offering
it more broadly.
Our line of 54 Royal Mutual Funds is extremely popular
among Canadians, but prior to 2001, they were distributed
almost entirely through the RBC Royal Bank branch network.
Through this channel, we grew to be the second largest
mutual fund company in Canada, ahead of companies such as
CI Funds, AGF, Fidelity and AIM/Trimark. In January of 2001,
by expanding our product line to include more global funds,
including the sector funds I mentioned earlier, we ensured
that there would be no investment product reason for a branch-based
client to change his or her relationship.
However, as a mutual fund and investment management company,
we no longer wanted there to be any barriers for Canadian
investors to hold our funds based on where or from whom
they received their financial advice. For example, more
than 50% of the assets held in mutual funds in Canada are
held by clients of full-service brokers, such as the Private
Client Division of RBC Investments, as well as independent
financial planners. To remain a top-five mutual fund company
in Canada over the long run, we had to address these channels,
which we had previously left to be served by these other
fund companies. We began this process in 2001 and as a result,
increased our assets under management outside the RBC Royal
Bank network by $1.8 billion. That is a 50% increase over
RBC Funds Inc. and RBC Global Investment Management will
continue to grow in this way, expanding into different distribution
channels, including beyond Canada's borders. We will allow
our products and underlying investment management to reach
more investors through their financial advisors, whether
they are based in RBC Royal Bank branches or not.
Other businesses may have gone through a similar high-growth
phase in the 1990s. A narrow group of customers or a single
channel of distribution typically fuel the growth of many
businesses during this phase, during which the appropriate
strategy is to maximize business with your traditional partners.
However, with the global economy slowing and the growth
rates of some industries along with it, it may be appropriate
for these businesses to look not just at what they are offering,
but at the way they are offering their services and products.
The expansion of channels and flexibility of delivery will
be the keys to remaining strong in the face of increased
global competition and market uncertainty.
In reflecting on the messages I've shared with you today
concerning setting investment and business strategies in
this uncertain environment, I hope you'll agree on their
basic logic. But logic rests on basic assumptions and premises
about our world and our economy.
These assumptions and premises were tested in a very clear
way by the external attacks of September 11th. In my view,
President Bush expressed not only the American view, but
the view of the civilized world when he detailed these basic
premises in his 2002 State of the Union Address. He referred
to them as the "non-negotiable demands of human dignity"
: " the rule of law; limits on the power of the state;
respect for women; private property; free speech; equal
justice; and religious tolerance."
If we pause and reflect on those "non-negotiable demands
for human dignity", we will realize that wherever they
have been met, in either the Western or Eastern hemisphere,
the cause of humanity has advanced.
So where does the greatest threat to these guarantees of
human dignity exist today? I do not wish to diminish the
personal tragedies of September 11th, the ongoing risk of
global terrorist groups, or the threat from governments
that respect none of these demands for human dignity. Nor
do I wish to equate in any way, the immorality of those
who committed the acts of human destruction on September
11th, with those who committed the acts of document destruction
in the Enron situation at around the same time. However,
over the long term, the more serious threat to these guarantees
of human dignity is from abuses by those who benefit from
them, rather than attacks by those who don't believe in
For how can we defend the "rule of law", if some
of our organizations seek ways to skirt, if not break it?How
can the "power of the state be limited" if some
individuals and organizations use the freedom of these limits
to deceive others?How can there be "respect for women"
if there is an insufficient number of women's voices at
senior levels of our organizations? Or if these voices go
How long will "free speech" be defended in all
forums, when in the forum of financial reporting, there
is both a lack of clarity in the speech and a lack of diligence
in its analysis?
All businesses, charities, regulators, governments and
individuals will have to come to grips with these issues
to create what President Bush referred to as a "new
culture of responsibility", which is the best guarantor
of these "non-negotiable demands for human dignity".
As a large, diversified financial services company, RBC
Financial Group has been fortunate in that the very nature
of our industry, combined with the need to ensure that our
diverse businesses share common elements of culture, required
us to focus on these issues well before these recent events.
Over the last several months, we have articulated a common
set of five RBC Values which our President & CEO, Gord
Nixon, outlined at a recent analyst presentation :
#1 "Excellent service to clients and each other".
#2 "Working together to succeed".
#3 "Personal responsibility for high performance".
#4 "Diversity for growth and innovation".
I want to spend a few minutes on this particular
There will be three areas of focus with respect to Diversity,
driven by an RBC Financial Group Diversity Leadership Council,
chaired by Gord Nixon and with senior executive champions
for our various businesses, such as myself for RBC Investments.
These three areas are:
1. Selecting senior management from a more diverse talent
pool, with a particular focus on women and minorities.
2. Increasing our representation of persons with disabilities
at all levels of our organization, and
3. Leadership and education on diversity across the enterprise.
#5 Our fifth and final core value is self-evident : "Trust
through integrity in everything we do."
These RBC Values are more than words on a page. These values
will be incorporated into business unit plans and personal
performance plans, ensuring that we "walk the walk"
as well as "talk the talk".
I would hasten to add that this is not a new focus, nor
are these necessarily new values, for the RBC Financial
Group, but our recent growth and acquisitions have spurred
us to more strongly emphasize these common values. Nor is
the focus on values and integrity new for most companies.
In fact, it is extremely important to remember that recent
aberrations, such as the Enron situation, are aberrations
and not the norm.
I know a speech concerning the importance of human dignity
and values was more than we advertised. However, an assessment
of these factors is necessary to provide a complete review
of the capital markets at this time. After all, the markets
are subject to the full range of human emotion, including
fear, greed, worry, pride or exuberance (whether rational
On that note, I leave you with the assurance
that this protracted period of market downturn will pass,
as others have before, but we must do our part:
Diversify your portfolios from a personal
and business perspective.
Diversify your personal investment portfolios
by sector. Broaden the channels of distribution for your
core business competency.
- Make the defense of the non-negotiables
of human dignity part of that core competency.
On behalf of my colleagues at the RBC Financial Group,
thank you very much for the opportunity to share these thoughts
with you today.