Manager commentary - December 31, 2018

As we look back at 2018, we see a mix of good, bad and ugly. The good was accelerating economic growth in the U.S. that drove earnings growth to levels we haven’t witnessed in many years. That growth led to higher market returns for most of the year, while consumer and sentiment levels remained relatively high. The bad came at the beginning of the year and was likely a precursor of things to come, as interest rates increased quickly to levels that had some believing that risk-free rates were close to becoming stiff competition for the equity markets. Equity markets and interest-rate-sensitive fixed income struggled during this period before giving way to better returns as the year progressed. The ugly occurred in the last couple of months of the year as fears of an economic downturn, combined with global trade disputes and a non-accommodating central bank in the U.S., led to one of the worst-performing months of December in many decades.

Although the Fund faired relatively well during the year, we gave up some of our annual gains in December when speculation seemed to have overtaken facts. While we concede that earnings growth and economic growth in the North American markets will likely decelerate during the next 12 months, we see very little evidence of a pending recession and expect earnings growth, while lower, to remain positive, which historically has been associated with higher market returns. Based on these assumptions, we expect equity market returns to rebound as 2019 progresses and credit spreads for less interest-rate-sensitive fixed income to decrease as positive momentum is factored into investment analyses. Other potential catalysts include a thaw in trade war disputes as well as a U.S. Federal Reserve that will likely keep overall liquidity in the system relatively high by not raising short-term rates too aggressively.

In terms of our fixed income exposure, we remain invested primarily in higher-yielding corporate bonds with low sensitivity to rising interest rates and find that current yields of approximately 8% and spreads at 500 basis points are attractive after overcorrecting during the fourth quarter. We believe that for the first time in two years yields and spreads are at a level that can potentially produce capital gains in addition to an attractive current yield. Default rates are at historically low levels and will likely remain muted as long as there is positive economic and earnings growth to help support overall expected returns during the next year.

The Fund outperformed its benchmark during the quarter, mainly due to our overall defensive positioning. This included high relative cash levels and a larger exposure to defensive stocks within our equity allocation. We generally avoided one of the worst-performing sectors in the market with a low relative exposure to energy while having a higher exposure to U.S. health care. We increased our defensive positioning and our cash levels during the quarter.

The Funds top two contributors to performance during the past three months were holdings in PulteGroup Inc. and Merck & Co. Inc. PulteGroup is a large U.S.-based homebuilder that focuses on the higher end of entry-level priced houses. We added our position in the name near the tail end of a market correction in homebuilding-related securities, which was an attractive entry point. Merck has enjoyed the benefits of improving growth in its main business lines and an attractive relative valuation over the past year. We remain positive on Merck’s investment prospects. Within our fixed-income holdings, Fresenius Medical Care US Finance II Inc. 5.625% of 2019 and Vistra Energy Corp. 7.375% of 2022 bonds had the largest positive contribution to the Fund during the past three months.

The largest detractor from performance during the quarter came from an exposure to Royal Caribbean Cruises Ltd. Royal Caribbean is one of the higher-quality cruise operators in the world with a relatively low debt profile. We expect positive trends around travel and consumer wealth to support higher prices for Royal Caribbean’s shares. Our exposure to Frontier Communications 7.125% of 2023 bonds was the Fund’s largest fixed-income detractor from performance. We believe that the majority of the negative price pressure on the bonds is related to near-term weakness in communications products as well as management execution of recent acquisitions.

Fund and benchmark performance as at December 31, 20181 year3 years 5 yearsSince inception
(Nov. 2013)
IA Clarington Strategic U.S. Growth & Income Fund - Series A0.0%5.2%3.8%3.8%
25% Barclays U.S. Aggregate (CAD Hedged) Index, 75% S&P 500 Index3.3%7.1%11.3%12.0%

Learn more about IA Clarington Strategic U.S. Growth and Income 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 25% Barclays U.S. Aggregate Index and 75% S&P 500. The blended benchmark presented is intended to provide a more realistic representation of the general asset classes in which the Fund invests. The Barclays U.S. Aggregate Index is composed of securities from the Barclays Government/Corporate Bond Index, Mortgage-Backed Securities Index and Asset-Backed Securities Index. The S&P 500 Index includes 500 leading companies in leading industries of the U.S. economy and is widely regarded as the best single gauge of the U.S. equities market. Although the S&P 500 Index focuses on the large cap segment of the market, its coverage includes approximately 80% of the market.
The Fund’s equity component invests in dividend paying stocks while the benchmark is comprised of companies which may not necessarily pay a dividend. The Fund's fixed-income component can invest in both investment grade and high yield bonds while the benchmark has exposure only to investment grade bonds. 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.