Canada equity managers up domestic exposure; keep eye on Brexit

TORONTO (Reuters) - Canadian equity fund managers say they have raised their exposure to domestic stocks over recent months because of improved confidence in the local market, while keeping a close eye on the risk that would be posed by Britain's withdrawal from the European Union.

Canadian investors suffered last year as the main stock index fell 11 percent, its worst annual showing since the financial crisis.

However, the Toronto Stock Exchange's S&P/TSX composite index has rallied 7.7 percent year-to-date, outperforming many other major markets as commodity prices began to recover. The gain has spurred many managers to buy closer to home.

"We actually started to reduce U.S. equities and increase Canadian exposure in early March and have continued doing it in the past three months," said Steve Belisle, senior portfolio manager at Manulife Asset Management.

Typically, portfolio rebalancing occurs infrequently to minimize costs. While some traders said earlier this year that the rally was led by short covering, reallocation by fund managers suggests it may be on a more solid footing.

Belisle said he finds stocks more attractively valued in Canada and has reduced his U.S. exposure to 20 percent from 28 percent earlier this year.

He is not alone. Data from Statistics Canada on Thursday showed that Canadian investors reduced their holdings of foreign equities by C$13.9 billion ($10.9 billion) in the year to April. That compares with a C$1.8 billion addition during the same period in 2015.

"We have added energy and materials exposure because the internal indicators have gotten better. The better they got, the more we added," said Diana Avigdor, head of trading at Barometer Capital Management, who has increased her allocation to Canada.

Foreign investors have also participated. They acquired Canadian shares in April for an eighth consecutive month, data showed.

Ian Nakamoto, director of research at MacDougall, MacDougall & MacTier, said currency is another reason Canadians should consider increasing domestic holdings, given the possibility the U.S. dollar has peaked for now.

The possibility that British will withdraw from the European Union has rattled global markets. The TSX has pulled back 3 percent from a recent 10-month peak, and Canada's currency and economy are seen weakening if the "Leave" side wins.

At Global Securities, Vice President of Research Elvis Picardo says the retracement may deepen in the near-term but that he is happy with increased Canadian exposure.

"The market has always successfully climbed the wall of worry," said Picardo.

(Reporting by Fergal Smith; Editing by Steve Orlofsky)