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Additions
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Deletions
Guardian Global Dividend Growth Fund (GCG 570 – Front End Units) – It’s no secret that I’ve been frustrated by the performance of this Fund for some time. While some of this underperformance is a function of the Fund’s investment style, it has also been lagging other Funds with comparable mandates more frequently. Because of this, I have opted to remove the Fund from the Recommended List.
The Fund is managed by Sri Iyer and the systematic equities team at Guardian Capital. The team uses a multi-factor model that scores dividend paying companies on growth, efficiency, quality, credit risk, valuation, size, momentum, and sentiment. While the model uses the same factors across sectors, their importance will differ. Scores are tallied with the top decile representing the buy list, and any stock that lands in the bottom three deciles are sold. The portfolio construction process looks to separate risks and avoiding unintended portfolio exposures. The result is a diversified portfolio of roughly 90 names, high quality companies that offer a sustainable and growing dividend stream to investors.
The portfolio has a value tilt to it, which results in valuation numbers that are more attractive than the broader market or peer group. Unfortunately, in the past few years, it has been the more “growthy” names that have garnered the favour of investors, resulting in underperformance compared to the broader global equity market. However, even when I compare the Fund to other dividend offerings of a similar style, performance has lagged, particularly on a risk adjusted basis. The Fund’s information ratio on a three and five-year basis ranks near the bottom of the value focused global equity peer group category. Further, the batting average on a three and five-year basis is barely above 25%, indicating it underperforms nearly 75% of the time. Most of the other Funds in the peer group are well above 40%, which is still not great, but considering the value tilt is respectable.
While intuitively I appreciate and understand the investment process, the results have been middle of the pack at best. As a result, I am removing the Fund from the Recommended List.
Funds of Note
Invesco 1-5 Year Laddered Corporate Bond Index ETF Fund (AIM 53203 – Front Units, AIM 53207 – Fee Based Units) – I have always liked the concept of this Fund’s laddered approach to investing in short-term investment grade corporate bonds. Very simply, the Fund is divided up into five equally weighted buckets with staggered maturities between one and five years. Each of these buckets will hold ten equally weighted bonds with roughly the same term to maturity. In a perfect world, the bonds are first purchased when they have a term to maturity of five years and roll down through each of the maturity buckets until they are no longer in the Fund as they approach maturity. The Fund is rebalanced annually in June with those in the lowest maturity bucket moving out of the Fund, and a new batch of five-year bonds are added.
The Fund recently underwent its latest rebalancing. As a result, the duration in the Fund has increased from 2.6 years to 3.3 years. Over the course of the year, the duration will gradually shorten as June approaches, only to be lengthen when the new batch of five-year bonds are added at the next rebalancing. The yield to maturity was also increased in the Fund, moving from 2.7% to 2.9% as higher yielding bonds were added at the rebalance.
While the fund has trailed some of its actively managed peers in the shorter term, its lower cost is expected to allow it to outperform over the longer term. The fund may also trail in periods of extreme equity market volatility as investors move to the safe haven of governments and shun corporate issues.
Still, it remains a very solid pick for those looking for lower cost exposure to short-term corporate bonds.
TD U.S. Blue Chip Fund (TDB 310 – Front Units, TDB 370 – Low Load Units) – With growth stocks continuing to be the market favourites, it’s not surprising to see this growth-tilted U.S. equity fund posting above-average returns. For the first half, it has risen by 15.9%, handily outpacing the S&P 500, which is up 7.8%. Longer-term numbers are even more impressive, with a 5-year average annual compounded rate of return of nearly 22% to May 31, compared with 13.4% for the index.
The portfolio is diversified yet focused. It holds just over 100 names, while the top 10 make up 46% of the portfolio. It’s exposure to the FAANG stocks has certainly helped propel returns. At the end of June, its top holding, Amazon.com, alone represented more than 10% the portfolio. In fact, tech is the largest sector exposure at 34%, followed by consumer services at 21%, and financials at 15%.
Manager Larry Puglia uses a bottom-up, fundamental investment process that looks for companies with have a history of generating free cash flow and a management team that has demonstrated ability for strong capital allocation. He looks for companies that can grow their cash flow even after covering necessary capital expenditures. Also, like other growth-focused managers, he likes companies that can compound earnings through self-sustained growth.
Puglia is also incredibly patient, with portfolio turnover averaging about 40% for the past five years compared with the 100% for other growth managers. He has reportedly held U.S. tech and health sciences firm Danaher for more than 24 years.
Granted, valuations within the fund are extremely high, with the weighted average P/E listed at more than 25 times earnings, compared with 17 for the index. Other valuation metrics are similarly high. However, forward-looking growth rates are also higher, making the valuation levels a bit more palatable. Given the growth tilt, the fund is more volatile than the index or peer group.
Over the long-term, this is an excellent growth-focused U.S. equity offering, and I see no reason for that to change. However, I do have some concerns about the extremely high levels of valuation. While I expect the fund to run hotter than the market, it is now well ahead of the broader market, and a correction or period of below-average returns is to be expected. Unfortunately, we don’t know when that will occur. In the interim, further gains are possible.
If you have held this for a while, you will definitely want to take some profits and reduce your exposure.
Mackenzie Ivy Foreign Equity Fund (MFC 081 – Front Units, MFC 7107 – Low Load Units) – As I have stated a number of times, this has historically been one of the best global equity funds around. It is a concentrated portfolio of high quality, multi-national companies that the manager believes are trading at a level below what they are truly worth. However, in the past few quarters, the Fund has really struggled, delivering performance that has disappointed, trailing not only its benchmark, but also its peer group.
There are several factors at play that are responsible for this underperformance. One of the larger contributors is the high cash balance the manager has carried. The Manager has noted that market valuations are high, and he believes there is trouble on the horizon on a number of fronts. For most of last year, it has carried around a third of the Fund in cash. Only in the past quarter, in the wake of higher levels of volatility has the Manager put some of that cash to work, bringing the cash balance down to roughly a quarter of the Fund. This has created a significant headwind to the Fund, particularly in rising markets.
Another factor that has dragged returns has been its underweight in technology stocks. Given the Manager’s focus on quality and valuation, he has been significantly underweight tech names. However, it has been the mega-cap tech names, specifically the FAANG stocks (Facebook, Amazon, Apple, Netflix, and Google) that have been responsible for a big chunk of the market gains. With no exposure to these high-flying tech names, the Fund has trailed much of its global equity brethren.
Yet another significant issue affecting Fund performance has been security specific issues within the consumer discretionary holdings. The biggest detractor in the sector has been clothing brand H&M, which has struggled in the midst of worries over the retail sector and a marketing gaffe or two, the stock has been punished by investors. The Managers believe the company has a business model that is resilient and poised for growth in this challenging retail environment. That combined with the very attractive share price set the table for what the Manager believes will be a solid rebound in the stock.
Other stocks that have dragged include Samsonite which was hit by a short seller’s report, and Hyundai Motors which sold off in the face of the potential trade tariffs.
So, where do we go from here? Historically, this has been one of the best funds in volatile market environments. It has exhibited less volatility than the index or peer group and has protected the downside significantly better. I see no reason based on the manager’s investment process or portfolio positioning that it will be any different this time around. I also expect that as the market again rewards fundamentals and valuation over growth, the Fund will see its performance improve accordingly.
For the long-term this can be a great core holding for investors. Unfortunately, it has recently undergone a “perfect storm” which has hurt performance and dampened investor confidence in the Fund. I will continue to watch it closely. Regardless, those looking for more upside and growth potential would be wise to find an alternative to this offering. But for those looking for a very risk managed conservative global offering, this is one that may be worth considering.
That said, the one area which continues to be a source of concern for me is the high cash balance carried by the Manager. I would like to see a continuation of the recent trend where he uses periods of market weakness to effectively deploy cash, picking up attractive names with good prospects at compelling valuations. I am not asking him to fully invest the proceeds immediately, but a more measured approach. If there is a marked increase in cash without a significant erosion in market or economic fundamentals, the Fund’s standing on the Recommended List will need to be reviewed.
Sentry Canadian Income Fund (NCE 717 – Front Units, NCE 217 – Low Load Units) – While this fund has been a solid performer for the long-term, in the past couple of years it has trailed the Canadian market significantly. Its 2-year average annual compounded rate of return to May 31 was a meagre 3.4%, while the S&P/TSX Composite delivered 10%. While it’s easy to point to the large market cap of the holdings for the underperformance, I believe there is another reason.
The fund really started to underperform in 2016 and 2017 and has been focused on larger companies for at least the past five years, if not longer, meaning moving up cap is not the main reason for its recent underperformance. Rather, I believe the underperformance is more a function of the investment process, which has focused on higher-yielding equity securities.
Managers Michael Simpson and Aubrey Hearn look for well-managed, high-yielding equity names that have the ability to deliver strong and growing cash flows.
The portfolio will typically hold around 60 names and tends to look much different than its benchmark. It can invest up to 49% of the fund in the U.S., and it can also hold preferreds, corporate bonds, and low-risk options to help boost the internal yield.
While not a value fund per se, valuation plays a key role in the stock selection process and this eye on valuation has resulted in the fund’s maintaining an underweight position in Canadian banks, which has dampened performance in the short run.
Unlike other Canadian-focused dividend strategies, this fund does not have a bank in the top 10 holdings, mainly because the managers feel the sector is vulnerable to an overheated housing market and excessive consumer debt. A quick back-of-the-envelope calculation shows that banks made up less than 3% of the portfolio at May 31 compared with nearly one quarter of the S&P/TSX Index.
The managers’ steadfast refusal to chase hot trends and momentum plays has hurt the fund over the past couple of years. But as we head into a more volatile period, I believe the market will again rewards those companies that are producing strong levels of cash flow, have low levels of operating leverage, and are well managed.
The biggest drawback to the fund is its cost, with an MER of 2.33%, which is in the upper end of the category. However, the managers continue to focus on the fundamentals, and that discipline has been very successful for them over the long-term. The fund remains a very strong pick for the long term and I believe it can be a core holding in most portfolios. It also generates an attractive distribution yield.
Manulife Global Infrastructure Fund (MMF 4569 – Front Units, MMF 4769 – Low Load Units) – – The Fund posted a strong quarter on the back of an overweight allocation to energy stocks, with a nice pop coming from Enbridge. Enbridge rose by more than 17% on news it would be simplifying its corporate structure, with a massive consolidation and restructuring of its assets. The markets reacted very favourably to this announcement. The Managers added to their holdings after this announcement, noting it shows a strong execution of the company’s strategy. The Managers remain optimistic on energy infrastructure on the belief that volume growth will be strong. Further, they believe that current valuation levels are somewhat compelling, particularly if growth picks up.
Many utility companies have seen their share prices fall sharply in the face of rising interest rates. This has created an excellent opportunity for the Managers to pick up some high-quality names at very attractive prices. They continue to favour companies with an emphasis on low cost renewable power generation.
Geographically, the team is finding attractive opportunities in Europe and Latin America in the transportation sector, but geopolitical factors are causing them to remain cautious and defensive.
Interest rates, particularly in the U.S. are expected to continue to move higher. This is expected to weigh on many areas of the infrastructure sector. This is expected to create strong buying opportunities for the Fund.
I continue to watch the Fund closely. The pedigree of the Management team is keeping the Fund on the list, but I continue to be frustrated by the performance relative to the peer group and the index. The Fund remains UNDER REVIEW.