Over the past few months investors have been reassessing their exposure to risky asset classes. The global credit crisis and worries about the weakening of the US economy began to raise fears of a global economic slowdown. Investors took a flight to safety by heading towards large-cap companies. Such companies tend to have stable and diversified revenue flows which can weather tough market conditions better than small- and mid-cap companies. However, data from the month of February suggests that markets’ appetite for risk is perking up.

Emerging Markets Claw Back Some Losses.
Emerging markets produced dire results in January, with many ranking at the bottom of the Morningstar categories list during the month. During the month of February, however, the emerging markets fund categories made a decent recovery. The Morningstar Latin America Equity category had an astounding month as the best performing category with a return of 12.8 per cent after having lost 7.5 per cent in January. The Morningstar Greater China Equity category, which was one of the worst performing categories in January, made up some ground by posting a return of 8.1 per cent, followed by Russia Equity (+8%), China Equity (+7.9%) and Emerging Markets Equity (+7.9%). The Morningstar India Equity category continued its fall into February, albeit with a narrower loss of 1.9% compared with January’s result (-14.7%), whereas the Morningstar Asia ex-Japan Equity category posted a return of 5.7 per cent.

UK Equities on a Steadier Footing.
UK equities posted significant losses in January, with all the Morningstar UK Equity categories posting losses. However, the dramatic drop in UK small-cap equities seems to have presented investors with some buying opportunities. In uncertain markets, it’s usually small-caps that endure the most losses, as was the case in 2007, but in February the Morningstar UK Small-Cap Equity was the best performing UK equity category with a return of 4.6 per cent. The Morningstar UK Large-Cap Growth (+3.8%) and UK Large-Cap Blend (+3%) followed, outperforming the UK Mid-cap Equity category (+2.6%) and the UK Large-Cap Value category (+1.5%--this group tends to have high exposure to the struggling financials sector) in the process. The Morningstar Europe and Morningstar Eurozone Equity category groups clawed back some losses, with all the relevant categories posting positive results ranging from 3 per cent to 6.5 per cent: The large-cap categories tended to underperform the small- and mid-cap European categories in February.

Focused Funds: Cyclical sectors make a comeback.
The drop in oil prices during January contributed to a fall of 11.4% in the Morningstar Sector Equity: Energy category. However, oil prices broke through the US $100 per barrel mark in February which is expected to boost the profits of energy companies. The sentiment is reflected in the performance of this particular sector which returned 10.4 per cent during February. The Morningstar Sector Equity: Industrial Materials also posted a positive return of 10.7%, bolstered by demand from developing economies, while the Morningstar Sector Equity: Precious Metals continued its run into February; after posting a 6 per cent return in January, it climbed 10.7 per cent in February. Demand for gold as an alternative asset continues to be strong in light of volatile stock markets and a weakening dollar - gold prices which have risen around 15% since the turn of the year.

The performance of the Morningstar Sector Equity: Financial Services category in February suggests that uncertainly still abounds and the full extent of losses emanating from the US sub-prime crisis is still unclear. Apart from the India Equity category, the Financial Services category was the only other equity sector to post a loss, although the magnitude of loss was significantly reduced - the sector posted a negative return of 0.1%. UK property funds, after a difficult 2007, ended the month of February in positive territory with the average direct property fund posting a meager return of just 23 basis points.

Bonds Fall
After posting positive returns in January when investors fled to what they perceive as safe-havens, bonds were hurt by inflation fears and the continued rationalization of the spreads demanded by investors for assuming credit risk. The Morningstar Sterling Corporate Bond category (-2%) was the worst performing sector in February while Morningstar Sterling High Yield category lost 1.7 per cent. The average fund in the Morningstar Sterling Government Bond category lost 0.3 per cent.