Funds that invest in Canadian income-producing equities offered the best returns in April, according to preliminary fund performance data released today by Morningstar Canada.

The Canadian high income equity fund index had the best return among the 42 Morningstar Canada fund indices, gaining 3.5% for the month thanks to strong performances from income trusts.

The five fund categories that focus on Canadian equities dominated the fund index rankings last month, despite the S&P/TSX composite index dropping 215 points (1.6%) on April 30. Canadian small/mid cap equity gained 3.2% and Canadian anchored small/mid cap equity was up 2.5%; these two fund indices ranked third and fourth overall, respectively.

Meanwhile the Canadian equity and Canadian anchored equity fund indices ranked sixth and seventh, each with a gain of 1.8%. Before the market loss on the last day of the month, these five fund indices had returns ranging from 3.1% to 4.3%.

The Natural resources equity fund index ranked second in April with a 3.3% gain, reflecting a renewed strength in energy stocks. This sector also helped diversified Canadian equity funds, many of which have significant overlaps with resource funds. “Heightened geopolitical risks in Nigeria and better-than-expected GDP growth in China pushed these stocks higher,” said Morningstar Canada fund analyst Jordan Benincasa, in a news release. “While natural resources continues to charge forward for 2007, investors should continue to expect sharp swings on the upside and downside from this volatile sector.”

The European equity fund index had the fifth best return with a 2.1% gain, marking the third time in four months where it has posted a monthly return above 2%. European equity funds have been among the most consistent performers over the past year and a half. In 2006, the fund index gained 33.5%, the third best return for that year. It had only one negative one-month return that year, while six of its 11 monthly gains were above 4%.

Among the major European markets, Germany had the strongest performance in April, with the DAX Index gaining 7.1%. Meanwhile, the French CAC 40 gained 5.8% and the UK’s FTSE 100 was up 2.2%. “Most European markets benefited from highly resilient consumer sectors because of an improving labour market. However, inflation continues to be closely watched by central European banks,” Benincasa said. Unfortunately for Canadian investors, the euro declined by 2% versus the Canadian dollar during the month, wiping out a large portion of the market upswing.

The soaring loonie also had adverse effects on other types of foreign equity funds, most of which were not as successful as their Canadian and European counterparts in April. South of the border, the S&P 500 gained 4.3% and the small-cap focused Russell 2000 was up 3.9% during the month, but those returns were nullified by our dollar’s 4.2% appreciation against the U.S. dollar. As a result, the U.S. equity fund index returned just 0.5% for the month while U.S. small/mid cap equity was flat.

The hardest hit victim of currency effects in April was the Japanese equity fund index, which had the worst return for the month among all the Morningstar Canada fund indices. Japan’s Nikkei 225 Index actually managed a marginal gain last month, but the yen’s 5.8% drop against the loonie translated into a 6.5% decline for the fund index. Also affected was the Asia Pacific Rim equity fund index, whose constituent funds allocate on average about half their assets to Japanese equities. It had the only other negative return among equity-based fund indices with a 2.4% loss. Among other sector-diversified foreign equity categories, international equity was up 0.3% and global equity gained 0.2%.

April was not a very good month for fixed income funds due to the market’s expectation that interest rate hikes may be coming. The Canadian inflation-protected fixed income fund index had the only gain in that group with 0.6%. This category typically outperforms its nominal fixed-income counterparts when inflation is expected to rise. The other Canada-focused bond categories were either flat or suffered slight losses, while global fixed income dropped 1.3%.

Final performance figures will be published next week.