Manager commentary - December 31, 2018

Despite an exceptional rise in U.S. business profits, the decision by the U.S. Federal Reserve (Fed) to continue normalizing its monetary policy and the escalation of U.S.ÔÇÉChina trade tensions have created a highly volatile environment on Wall Street. This resulted in the S&P 500 Index posting a drop of nearly 15% in the fourth quarter of 2018, its worst quarterly performance in a decade. The last month of the year was particularly painful, recording a drop of 9.2% – the worst December since the 1930s.

Brexit was the centre of attention during the last quarter of the year. The U.K. parliament’s vote on Brexit was postponed to January 2019 because there was clearly not enough support in December, creating more uncertainty around the globe.

In Canada, the main factor that contributed to the economic slowdown was the weakness in Canadian oil prices. Not only have oil prices been under severe pressure across the world in the fourth quarter (the price per barrel of American crude fell from $75 to $45 in Q4 of 2018), but the price per barrel of Western Canadian Select slid to under $13 in late November. The reason for this major price difference was the difficulty in transporting heavy Canadian crude to export destinations (mainly the U.S.) because pipeline capacity and rail transportation were lacking, leading to a stockpile in Alberta.

The fourth quarter was marked by high volatility across all stock markets. The U.S. stock market, represented by the S&P 500 Index, had a total return of -13.5% in the fourth quarter (-8.6% in Canadian dollar terms). The Canadian stock market, represented by the S&P/TSX Composite Index, suffered a decline of 10.1%.

As the macroeconomic environment became more uncertain in the fourth quarter, investors lowered their expectations for U.S. Federal Reserve and Bank of Canada rate increases in 2019. The risk-off environment drove flows into safe-haven investments such as bonds, which lead to a significant decrease in yields, thereby elevating returns in the bond market. The Canadian bond market, represented by the FTSE Canada Universe Bond Index, posted a gain of 1.7%. The FTSE Canada Short Term Bond Index rose by 1.4% and the FTSE Canada Long Term Bond Index by 1.9%.

Risk assets suffered severe losses during the quarter. The slightly positive return of bonds was not enough to compensate and the Fund’s performance was down significantly.

The Fund underperformed its benchmark. Overall, the Fund’s overweight equity position detracted from performance in an environment where equities flirted with bear market territory. The Fund started the quarter with an overweight position in stocks, with a tilt towards Canada and EAFE, and an underweight in bonds. The overweight position in Canadian equities was a significant detractor from performance, as they significantly underperformed most global indices during the quarter. The return of elevated volatility was an opportunity to profit from the protection introduced last quarter through put options on the S&P 500, EAFE and S&P/TSX indices, as the market fell by approximately 7%. As the market slid, valuations became more attractive and the fund manager redeployed the profits from the protective puts into equity funds. The market then fell again by more than 10%, reaching a trough on December 24, 2018.

The fund manager’s put options strategy was a contributor to the Fund’s performance, while currency management detracted from performance. The underlying funds held by the Fund collectively underperformed their respective benchmarks.

The Fund’s current positioning is overweight Canadian equities with a partial hedge on the U.S. dollar, as the fund manager looks to benefit from a more cautious Fed. The Fund has a neutral weighting in U.S. stocks, as the market is rebounding from oversold conditions, and an underweight position in bonds to lower duration. The Fund also has an exposure to gold and gold miners to hedge geopolitical and market risks. Finally, the Fund holds targeted positions in Canadian preferred shares, which should benefit from higher interest rates in Canada.

Over the next quarter, the fund manager will be monitoring several risk factors, including a return of negative investor sentiment that could push markets into bear market territory, a more hawkish tone from the Federal Reserve and a potential deterioration of trade talks between the U.S. and China.

Fund and benchmark performance as at December 31, 20181 year3 year5 yearSince inception
(Jun. 2009)
IA Clarington Monthly Income Balanced Fund - Series T6-6.9%1.7%3.4%5.6%
40% FTSE TMX Canada Universe Bond Index, 60% S&P/TSX Composite Index-4.7%4.7%4.0%5.9%

 

Learn more about IA Clarington Monthly Income Balanced Fund

The performance data comparison presented is intended to illustrate the Fund’s historical performance as compared with historical performance of widely quoted market indices. There are various important differences that may exist between the Fund and the stated indices that may affect the performance of each. The benchmark is a blend of 40% FTSE Canada Universe Bond Index and 60% S&P/TSX Composite Index. The blended benchmark presented is intended to provide a more realistic representation of the general asset classes in which the Fund invests. The FTSE Canada Universe Bond Index is comprised of Canadian investment grade bonds and has significantly different portfolio duration characteristics. The FTSE Canada Universe Bond Index consists of a broadly diversified selection of investment-grade Government of Canada, provincial, corporate and municipal bonds issued domestically in Canada. The S&P/TSX Composite Index is the premier indicator of market activity for Canadian equity markets, with 95% coverage of Canadian-based, TSX-listed companies. The index includes common stock and income trust units and is designed to offer the representation of a broad benchmark index while maintaining the liquidity characteristics of narrower indices. The Fund's fixed income component may have different sector exposure, credit quality and interest rate sensitivity than the benchmark. The Fund may have exposure to equities and bonds domiciled both in Canada and outside of Canada while the benchmark only has exposure to equities and bonds domiciled in Canada. The Fund may have currency risk exposure while the benchmark has none. The Fund may hold cash while the benchmark does not. Overall, the Fund's bond and equity exposure can differ, because the Fund does not use a fixed ratio similar to the benchmark. It is not possible to invest directly in market indices. The performance comparison is for illustrative purposes only and does not imply future performance. On June 5, 2009, IA Clarington Diversified Balanced Fund, IA Clarington Canadian Growth & Income Fund and IA Clarington Canadian Income II merged into this fund.

MSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indices or any securities or financial products. This report is not approved, reviewed, or produced by MSCI.