Steadyhand Income Fund is one of a kind

A reader looks for an alternative to this “bond beater” fund

Recently a reader asked: “My discount broker does not allow me to purchase the Steadyhand Income Fund. Is there another fund with a similar allocation that you can recommend for my RSP portfolio?”

My first reaction was that this shouldn’t be too difficult of a task. After all, with thousands of mutual funds available for sale in Canada, there had to be more than a few that had a similar asset mix to the Steadyhand offering. The fund’s asset mix is pretty basic with a target allocation of 75% bonds and 25% dividend paying stocks and REITs.

As of June 30, this mix was 72% in bonds, 20% in dividend paying stocks and 8% in REITs. Given the current rate environment, the fixed income holdings are heavily weighted towards corporate bonds, which make up about two-thirds of the bond allocation. This mix should provide higher returns than a pure bond fund in a flat interest rate environment and provide better downside protection should rates begin to move higher.

Armed with this information, I set out to find a replacement fund for this loyal reader. After spending a few hours screening the mutual fund universe in a number of different ways, I’m thinking it might be easier to switch discount brokers than to find a fund that is similar to the Steadyhand Income Fund.

From an asset mix perspective, there are a few funds which have a comparable asset mix. However, having an asset mix that is similar and delivering a rate of return that is comparable on both an absolute and risk adjusted basis are two different things. Based on my review, I have found a few options that offer a similar asset mix and reasonable risk adjusted returns. However, when we compare the returns that these funds have generated compared to the Steadyhand offering, there really is no comparison. Some of the contenders include:

Source: Fundata, Morningstar, Paterson & Associates database

BMO Guardian Income Solution (GGF 2011) – This BMO Guardian offering invests in a mix of other BMO funds with a strong emphasis on capital preservation and income generation. The target asset mix is set at 80% fixed income and 20% high yielding equities such as common shares, preferred shares and REITs. The equity exposure comes from one of our favourite income funds, the BMO Guardian Monthly High Income II Fund, which is about 20% of the fund. The rest of it is made up of a mix of BMO and BMO Guardian fixed income funds. Fees are a touch on the high side at 2.24% and performance has lagged Steadyhand, while volatility has been higher. It’s close from an asset mix perspective, but that’s about it.

Fidelity Income Allocation Fund (FID 294) – From a performance standpoint, this Fidelity offering is probably the most similar, outpacing Steadyhand on a three year basis, with a nearly 12% gain. Unlike Steadyhand, the asset mix is managed a bit more tactically, although it does have a target mix of 30% equity and 70% bonds. The managers have the ability to take the equity exposure up to 50% of the fund. The fixed income portion of the fund will typically be quite diversified, with the managers having the flexibility to invest in any type of fixed income investment they feel best for the fund based on their view of the current investing climate. The front end version of the fund is reasonably priced with an MER of 1.78%. While the absolute performance of this fund has been strong, it simply does not measure up to the Steadyhand fund on a risk adjusted basis. It also has the potential for big drops in value. For example, between August 2008 and February 2009, it dropped by 28.3%, while Steadyhand was down by 11.7%.

TD Income Advantage Portfolio (TDB 963) – While the absolute performance may have lagged the Steadyhand Income Fund, the risk adjusted numbers are definitely respectable. It invests in a mix of other TD managed funds with the objective of providing investors with income, while providing some potential for capital gains. The equity exposure is currently targeted at 20%, but in the coming weeks, TD will be making some tweaks to the fund to bring the equity target up to around 25% with the addition of a new low volatility fund that TD has launched. We don’t anticipate this move increasing the volatility in a meaningful way, but does provide a bit more potential for upside. Further, it is also the lowest cost option that we looked at. Considering all of this, if we had to pick one fund as a replacement for Steadyhand Income, this would be it.

Bottom Line: The perception among many investors is that most mutual funds are the same. While that may be true in some cases, this exercise has shown me that the Steadyhand Income Fund is a very unique offering that has no equal at the moment. That is not to say that there are not a number of other quality funds with similar mandates out there, but that Steadyhand has been head and shoulders above most of their peer group.

Can they repeat this going forward? Quite frankly, we do not expect that the fund will be able to deliver the same level of absolute returns going forward. With a 75% weighting in fixed income, and a flat to rising rate environment in the near term, returning 9.5% over the next three years will likely prove to be a very difficult task. However, we do expect that the fund has the potential to outpace most of its peer group on a relative basis going forward. It has a great management team behind it and a low cost hurdle which should make that easier to achieve.

Finally, for anyone who is unable to invest with Steadyhand through their discount broker, there is the option to invest with the company directly. For those wishing to take advantage of this option, the minimum initial investment is $10,000.