CI Fund sets date for plunge into risky world of short-selling

Date: Monday, July 19, 2004

Critics blast move, which has divided the industry: By KEITH DAMSELL, MUTUAL FUNDS REPORTER: CI Fund Management Inc. will join the growing list of mutual fund companies short-selling stocks within its portfolio this September, an increasingly popular practice that has divided the industry and been condemned by some small investors. In a June 30 letter to unit holders, CI said it has received approval from securities regulators to begin shorting securities in 14 mutual funds. Up to 10 per cent of a fund's net assets may be sold short, the Toronto company said. In an interview, Bill Holland, CI president and chief executive officer, described short-selling as "a risk-reduction tool" that will be used on a limited basis within the company's funds. "Portfolio managers that do a lot of analysis feel that they run into stocks that are just as unattractive as the ones they buy are attractive. Being able to short a modest amount of it, they feel, will improve the returns," Mr. Holland said. Short-selling is a risky strategy where investors bet that a company's stock price will fall. They typically borrow shares and sell them, with the commitment to buy back the shares at a later date -- and, if their bet is correct, at a lower price than what they sold for. The tactic pays off when prices are falling but, if prices rise, losses can be significant. Shorting is common practice among Canada's estimated 50 hedge fund firms, but a growing number of mutual fund providers are looking to short-selling to boost returns. In April, six funds managed by Toronto's Dynamic Mutual Funds Ltd. began shorting stocks. Later this year, funds managed by National Bank of Canada and Groupe Desjardins plan to begin short-selling. Mutual fund managers interviewed said shorting allows them to take advantage of what they describe as the current "sideways" equity market marked by short-term volatility and long-term single-digit returns. "The big objective is to participate," said Jacques Chartrand, portfolio manager of National Bank's $175-million Canadian Opportunities Fund. "If we think a stock goes up, we buy it and if we think a stock can go down, we short." The trend has raised the ire of the Small Investor Protection Association, an outspoken Toronto group that fears there will be little regulatory oversight of short-selling mutual funds. "If you want a hedge fund, go to a hedge fund," said Ken Kivenko, chairman of SIPA's advisory committee. "There is going to be a disaster. It's just another thing put in the way of risk." Rudy Luukko, investment funds editor at Morningstar.ca, expects short-selling to spark "a lively debate" in the industry. Some fund companies advocate "zero tolerance" when it comes to hedging, while other firms continue to experiment with alternative investing strategies, he said. Seven mutual fund companies contacted at random were generally negative on short-selling. Five firms -- ClaringtonFunds Inc., Fidelity Investments, Franklin Templeton Investments Corp., Investors Group Inc. and Scotia Securities Inc. -- do not short-sell stocks within their mutual funds and have no plans to do so. Management at Mackenzie Financial Services Inc., meanwhile, is currently studying the pros and cons of short-selling. AIM Funds Management Inc. was the most outspoken short-selling critic, noting the firm's value-driven investment style "is all about buying good businesses and not about shorting bad ones," said vice-president Dwayne Dreger. Short-selling advocates argue that the strategy presents the best means to protect against -- rather than simply reduce -- the volatility in a portfolio. "These really aren't hedge funds," said Simon Hitzig, vice-president of marketing at Dynamic. Regulators have required funds that short-sell stocks to adopt a long list of measures to protect investors, including the 10-per-cent asset hedging limit, a cash cover equal to 150 per cent of the value of the security sold short and a requirement to purchase the shorted security if it exceeds 108 per cent of the short price, he said. Brian Singer, chief investment officer for UBS Global Asset Management (Americas) Inc. of Chicago, said mutual fund shorting is an increasingly common tool for fund managers and is definitely here to stay. "If we are able to, in fact, take advantage of the negative view we have of some companies, we can buy the companies we like, we can sell the companies that we don't like," Mr. Singer said. "We are eliminating uncompensated risk and reducing total risk."