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Funds Added to the List
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Funds Removed from the List
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Funds of Note
PowerShares 1 – 5 Year Laddered Corporate Bond Fund (AIM 53203– Front End Units) – In June, this laddered short term corporate bond fund underwent its annual reconstitution. When this happens, the five shortest duration bonds are removed from the index and replaced with ten bonds that have a term to maturity of five years are added in their place. The reason that ten bonds are replacing the five that were removed is last year, the index provider announced that over the next five years, the number of bonds in the index would be increased from 25 to 50. After the reconstitution, the fund held 35 bonds. I really see this as a positive, as the increased number of bonds increases the diversification, and reduces the security specific risk in the fund.
Whenever these reconstitutions take place, there are a few changes to the makeup of the portfolio. One such change is the duration will increase slightly, as longer term bonds are being added to the mix. This time around, the duration was lengthened to 3.39 years from 2.47 years. While this increases the shorter term interest rate sensitivity of the portfolio, the duration will gradually shorten as the next June 30 reconstitution date approaches.
Another change that happens is the yield to maturity (YTM) will often increase. That didn’t happen so much this time around in the current rate environment, with the YTM remaining essentially flat, coming in at 1.82%. Even without much of a change, it still offers a higher YTM than the PH&N Short Term Bond and Mortgage Fund, which was listed at 1.5% at the end of June.
Given the current makeup of the portfolio, I would expect it to outperform in all environments except a sharply rising yield environment. However, given the fragility of the economy, I find it tough to envision a circumstance in the near term where that is likely, making this a solid pick in the near term.
TD Canadian Core Plus Bond Fund (TDB 695 – Front End Units, TDB 696 – DSC Units) – TD Asset Management has long had one of the most respected fixed income teams on the street and has consistently delivered returns that are in line with the FTSE/TMX Canadian Bond Universe, with comparable levels of volatility. In the fixed income world, that is no small feat. This fund is very similar to the highly regarded TD Canadian Bond Fund. Both are managed by the same, well-resourced team, use the same fundamentally driven bottom up investment process, and both invest mainly in investment grade bonds. The key difference is this offering allows the managers the ability to invest up to 30% of the fund in “non-core” investments such as high yield bond, and investment grade global bonds.
At the end of July, the fund was nearly fully invested, with 97% of the fund invested in bonds. Of this, 83% was in Canadian bonds, while 14% were invested in U.S. bonds. About two-thirds of the fund was investment grade corporate bonds, with around 10% in high yield. As a result, the fund offers a yield to maturity that is higher than the benchmark, and a duration that was modestly lower. By the end of June however, the managers brought the duration to be more neutral to its benchmark. This positioning should help it in a flat rate environment, and outperform when should they start to rise.
I continue to view this as one of the best Canadian bond funds around. It has a solid management team, following a disciplined, repeatable process, and is offered at a reasonable cost. It tends to deliver most of the upside of the market, while participating in less of the downside. Looking at the current environment, it is unlikely we will see any meaningful upward pressure on interest rates in Canada, making this a strong pick for now. However, I would likely lean towards the PH&N Total Return Bond Fund, with its lower MER being the differentiator. However, when it looks as though rates will move higher, this TD offering would be expected to outpace PH&N.
CI Signature Select Canadian Fund (CIG 677 – Front End Units, CIG 777 – DSC Units) – Managed by CI’s Signature Global Advisors, this is a fund that has a very solid long term track record, and has outpaced not only its peer group, but also the S&P/TSX Composite Index over a five and 15-year period. The risk reward metrics have also been decent, with levels of volatility that are in line or modestly lower than the index. It has also tended to deliver more upside than downside over the years.
However, in recent quarters, I have become somewhat concerned that the fund is not differentiating itself from its peers the way it once did. Returns have been acceptable, but have tended to be more middle of the pack than standout. In the second quarter, it finished in positive territory, outpacing its peer group, but lagging the index. It was its underweight in gold names that was the main reason for this, with gold rallying on the flight to safety trade that resulted from the Brexit vote. Healthcare names, and its holdings in physical gold helped performance.
In a recent commentary, the managers noted they were cautious and defensively positioned, holding about 10% in cash. They are also significantly overweight the more defensive sectors including consumer focused names as well has healthcare and technology. It is also about evenly split between Canadian and foreign exposure. They believe the world economy is stable, but realize that things can change quickly. In this environment, they are expected to remain defensive, but will use the team’s holistic, fundamentally driven, bottom up investment process to find opportunities that offer compelling risk reward tradeoffs.
I am cautiously optimistic that we will see this fund’s risk reward metrics begin to improve again. I will continue to monitor it closely.
Sentry Small Mid Cap Income Fund (NCE 721 – Front End Units, NCE 321 – DSC Units) – Over the years, this has been one of the best small/mid cap funds around, delivering strong performance with lower than average volatility, resulting in superior risk adjusted returns. To do this, manager Aubrey Hearn uses a bottom up security selection process that looks for small and mid-cap companies in Canada and the U.S. that have a history of delivering high return on capital, low leverage, rising free cash flow, low earnings volatility, strong management teams, high barriers to entry, sustainable competitive advantages, and the ability to consistently grow their dividends over time. Valuation is also a consideration in the process, as they don’t want to overpay for an investment.
The portfolio tends to be fairly well diversified, typically holding in the neighborhood of 60 names, and the top ten will usually be around 30% of the fund. Because the manager is building the portfolio on a stock by stock basis and the sector mix is the result of the stock selection process, it often looks dramatically different than its benchmark and its peer group. For example, at the end of June, the fund had 8% invested in energy, compared with its benchmark that had 17%. The fund had only 8% in materials, compared with more than 17% in the benchmark. It is a similar situation with materials, which make up around 8% of the fund, yet make up 18% of the index. It also had more than 40% invested in the U.S.
This is important to note because this is precisely why the fund has underperformed of late. With significant underweights in the two hottest, and also largest sectors of the benchmark, the fund has been unable to keep pace. Looking at the most recent quarter, the fund gained 3.9%, while the S&P/TSX Small Cap Index gained nearly 18%. Looking specifically at the energy sector, it rose by nearly 10%, while the materials sector was up a staggering 26%. Another drag on the fund was its U.S. exposure. The Russell 2000, rose by 4% in Canadian dollar terms. Putting it all together, and you have a recipe for near term underperformance.
Despite this recent blip, I continue to believe in this fund, and see it as one of the stronger small/mid-cap offerings available. It has a solid management team using a disciplined, sound and repeatable investment process. They focus on the long term, and will use short term price dislocations to improve the portfolio. In a recent commentary, the managers noted the weakness in the energy sector has created some opportunities to pick up some quality small cap energy names at attractive valuations. They are expecting the Western Canadian economy to improve in the second half of the year, and are looking to pick up non-energy companies that are also expected to benefit from the energy recovery. For their U.S. names, they see most small caps trading near full value, they are still finding some opportunities in names that have been excessively discounted as a result of the turmoil in Europe and the UK from the Brexit vote.
I expect we’ll see more volatility and the potential for underperformance from this fund in the near term. But longer term, I expect it to deliver what it has done over the longer term, above average returns with below average levels of volatility. I continue to follow it closely.
Trimark U.S. Companies Fund (AIM 1743 – Front End Units, AIM 1741 – DSC Units) – Managed by Jim Young since October 1999, this concentrated U.S. equity fund uses Trimark’s fundamentally driven, quality focused, bottom up approach to picking stocks. Mr. Young looks to find what he believes are well managed, high quality companies that have a distinct proprietary advantage, are industry leaders, and are trading at a level that is below what he believes it is worth.
Like other Trimark funds, it is fairly concentrated, holding around 40 names, and has a sector mix that is much different from its benchmark. At the end of June, he was significantly overweight in technology and healthcare, with no exposure to real estate, communications, or utilities. Not surprisingly, this has given the portfolio a bit of a growth tilt, and has pushed valuation levels above those of the S&P 500. Also higher than the index is the portfolios forecasted growth rates, which when taken into account help to somewhat justify the higher multiples.
Part of the reason this has happened, is the manager is willing to “pay up” for quality and growth potential, and he believes the names he holds are better positioned for the current economic environment. One of the trends he sees as dominating the markets in the next few quarters will be the accelerating rate of change that is beginning to undermine many business models. He has seen this take hold in a number of sectors including retail, media, and electronic hardware. He is looking to find companies that are embracing, and in many cases driving these changes. One worry I have with this strategy is that in a rapidly changing environment, there are often few winners, so there is little room for error, particularly in a portfolio as concentrated as this. This is potentially compounded by the managers tending to keep the fund fully invested, unlike other Trimark branded funds where cash tends to rise when there is a shortage of quality ideas.
In recent quarters, there has been some erosion in the risk reward metrics of the fund, not only on an absolute, but also a relative basis. Year to date (June 30), the fund is down more than 9%, while the broader U.S. market is down only 3.1% in Canadian dollar terms. Volatility has been on the upswing, but perhaps more disturbingly, so too has the correlation of the fund compared with the S&P 500. Part of this can be explained by the heightened levels of volatility, as when markets get volatile as they have been, correlations do tend to increase. However, that is likely only part of it, and I am watching the portfolio closely for any further erosion in the risk reward metrics. Another concern I have with the fund is its cost, carrying an MER of 2.71%, which is high. As a result, I am keeping the fund UNDER REVIEW.
TD U.S. Mid Cap Growth Fund (TDB 312 – Front End Units, TDB 342 – DSC Units) – It’s been a tough first half for this T. Rowe Price managed offering, dropping 6%, while the Russell 2000 Index gained more than 3.5% in Canadian dollar terms. It was s similar story in the most recent quarter, with the fund gaining very modest 1.2%, lagging the 4.1% rise in the index. It was the fund’s consumer and financial names that were the biggest drag during the quarter, while a strong showing from its industrial and tech names helped.
As the name suggests, the portfolio has a growth tilt to it, and as a result, is concentrated in industrials, healthcare, technology and consumer focused names. It is well diversified, and will typically hold between 120 and 130 names, with the top ten usually making up between 15% and 20% of the portfolio. The process used by managers Brian Berghuis and John Wakeman looks for companies that have market caps of between $1 billion and $12 billion which have annual earnings growth rates of more than 12%. Companies must also be underpriced, relative to their growth prospects, before they are added to the portfolio. Portfolio turnover is modest, averaging between 40% and 50% per year. Over the past year, they have added to their industrial, healthcare, and consumer exposure, while paring technology, and energy holdings.
In a recent commentary, the managers noted that the higher growth sectors they favour have struggled as the overall pace of economic growth has moderated. They believe the market is expecting continued slow economic growth, and more modest earnings growth from many mid-cap names. They also see that many companies are being prices as though there is a sharp recession eminent, which they believe to be an unlikely outcome. As a result, they feel that much of their portfolio has been discounted for a worst case scenario, which should help them to hold up better in periods of volatility. Further, they see this as an opportunity to find some higher quality names at more favourable prices, which can help to improve the overall portfolio.
I continue to like this fund for the long term, but do have some concerns in the short term. My concerns stem more from the valuation levels of mid cap stocks specifically, and the upside potential in the near term. However, for long term, patient investors who can withstand a higher level of risk in their portfolio, who are looking for mid-cap U.S. equity in their portfolio, this is a fund worthy of consideration.
Invesco International Growth Class (AIM 633 – Front End Units, AIM 631 – DSC Units) – This has long been one of my favourite international equity funds, with a long-term history of delivering above average returns, with below average volatility. To achieve this, the fund’s Austin, Texas based management team headed by Clas Olsson, uses an investment process they refer to as “EQV”, which focuses on finding companies with sustained earnings growth, high quality businesses, trading at attractive valuations. The process is founded on the belief that over the long term, a company’s share price will be driven by its ability to deliver sustainable earnings growth.
They tend to favour companies that are able to generate solid organic revenue growth, have pricing power in their markets, strong balance sheets and offer a more defensive growth profile. They can invest in both large and mid-cap stocks that are located in Western Europe and the Pacific basin, but the focus tends to be more on the larger cap names. It is a very well diversified, holding around 70 names, with the top ten making up just over 20% of the fund. They take a longer term outlook when reviewing a company, which is reflected in their modest levels of portfolio turnover. The portfolio is built using a bottom up basis, and tends to be different from its benchmark. At the end of June, it was overweight consumer discretionary, technology and financial, with virtually no exposure to materials, utilities or real estate.
Performance has been strong, outpacing its peer group over the most recent five-year period, but roughly matching the MSCI EAFE Index in Canadian dollar terms. Longer term numbers are even more impressive, finishing near the top of the category for the past ten and fifteen year periods. What is more impressive is these numbers have been achieved with lower levels of volatility than the index or its peer group, resulting in stronger risk adjusted returns.
The fund struggled in the second quarter, lagging both the index and peer group. It was its UK holdings that created the biggest headwind in the aftermath of the Brexit vote. At the end of June, it had nearly 27% invested in the UK, by far its largest country allocation. This was somewhat offset by the strong showing from its emerging markets allocation. The manager has not made significant changes within the portfolio, but did use the recent volatility as a chance to add to some current holdings at more attractive valuation levels.
Looking ahead, they see the outlook for the balance of the year as being and expect market volatility to remain above average. In a recent commentary, they expressed some concern over the valuation levels in many developed markets, and expect earnings growth to be challenged. Despite this, they are looking to use any market volatility as an opportunity to improve the fundamentals of the portfolio.
I see this as an excellent international equity pick. My biggest concern is its cost, with an MER of 2.84%, which is well above average for the category. While in most markets, the outperformance has justified this higher cost, it does make it more difficult to outperform.
Trimark Global Endeavour Fund (AIM 1593 – Front End Units, AIM 1591 – DSC Units) – With a loss of 4% in the quarter, this concentrated, all cap global equity offering lagged both its benchmark and its competition. The biggest reason for this was a disappointing showing from a couple of its UK based names in the aftermath of the Brexit vote.
The managers believe that a lot of the fallout from the vote was overdone, and were able to find some opportunities in the selloff. As a result, they were able to reduce the fund’s cash holdings from 12% to 9%, as they added to some of their current holdings at more attractive valuation levels.
As we move forward, the absolute levels of valuation remain a concern to the team but they continue to focus on finding high quality companies with strong balance sheets, and attractive valuations. This discipline, combined with a concentrated portfolio is expected to put the fund in a strong position to outperform over the long term.
One very big caveat though, is this fund is very different from its index, which means there may be periods where its performance looks nothing like its benchmark or its peer group. This can be a positive or negative, depending on which side they are on. Another concern would be the relatively high cost. With an MER of 2.56%, it is pricey, but over the long term, this cost has so far been justified.
Manulife Global Infrastructure Fund (MMF 4569 – Front End Units, MMF 4469 – DSC Units) – After struggling in the second half of 2015 and the first quarter of the year on the energy selloff, infrastructure bounced back nicely, with this fund gaining 8.8%, handily outpacing the MSCI World Index and its peer group. Much of this rebound can be attributed to the bounce back in energy infrastructure names, as nearly a quarter of the fund is in energy. Even with this rally, the managers are still finding attractive valuations in the space. They are looking to focus more on gatherers and processors in the North American Shale basis, as they expect these companies to be the beneficiaries of the first uptick in spending by oil and gas companies.
Looking at the current environment, the outlook for infrastructure looks strong. With interest rates likely to be lower for longer, this will create some investor demand for the higher yields that are typically offered from infrastructure stocks. Further, with many countries struggling to boost their economies, a number of governments have announced significant investment in infrastructure projects, which will provide an underpinning of support for many names in the sector. They did note that valuations in utilities are higher, but they are focusing on finding companies that have a specific catalyst that can help push stock prices higher. Given the uncertainty in Europe, they are reducing some of their exposures in the region.
I believe that infrastructure is a very solid long term investment, and can be a part of a well-diversified portfolio. I like this offering specifically for the management team involved. Brookfield has a long track record in infrastructure, and believe they can deliver strong risk adjusted returns over the long term. However, I continue to watch the fund closely for any meaningful erosion in the risk reward metrics.