Download investment update for the Switzer Dividend Growth Fund from 31 May here.

INVESTMENT OBJECTIVE

The Switzer Dividend Growth Fund (SWTZ) is an income-focused exchange traded managed fund with a mix of yield and quality companies. The objective of the fund is to generate an above-market yield while maximising franking where possible and to deliver capital growth over the long term. We select companies that, in aggregate, generate sustainable dividend income. The fund is characterised by a strong and diverse portfolio of companies that exhibit good cash flows and strong business models.

PERFORMANCE SUMMARY

Over the past 12 months, SWTZ has paid a distribution yield of 7.47%, or 9.83% including franking credits. Distribution yield is calculated as the distributions paid over the 12 months to 31 May 2019 relative to the unit price at the beginning of the period.

Given its focus on income and capital preservation, over the long term we expect SWTZ to marginally underperform in rising markets and marginally outperform in falling markets. The portfolio was higher over the month being up 1.0% against a market move, as measured by the ASX 200 Accumulation Index, of 1.7%.

PORTFOLIO COMMENTARY

The targeted cash level in the fund is usually 1.5-2%. At 31 May, cash was above this target at around 3.6%. Major bank dividends are expected towards the end of this month and the funds will be opportunistically invested.

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Activity was again modest over the month. We sold a portion of our holdings in CSL at a substantial profit. The fund also switched some exposure from Commonwealth Bank to National Australia Bank with a 1% pick-up in yield. The change came after analysing the NAB result, but before the payment of the dividend. We view the recent changes in management at NAB and dividend policy favourably. We also sold some AGL Energy as regulatory headwinds build.

MARKET COMMENTARY

Global markets were buffeted over the month with all significant exchanges lower. The decline was led by the NASDAQ which was down 8.4%. The Dow Jones was down 6.7% while European exchanges and Asian exchanges were 6-8% lower.

The Australian market was marginally higher over the month, as the surprising Federal Election result helped the local index.

Bond markets around the world continue to rally (lower rates). The benchmark 10-year US government bond fell from 2.5% to 2.1% over the month, a significant move. The rally in bonds and sell off in equities reflect ongoing trade war concerns and a slowdown in world growth estimates, which, of course, may be related.

Sectoral performance was diverse over the month of May, with Communication Services (+7.3%), Healthcare (+3.3%) and Materials (+3.1%) being strongest. In contrast, Consumer Staples (-4.0%), Energy (-3.9%) and Information Technology (-4.1%) were the poorest. SWTZ is skewed away from the Healthcare and Materials sectors. Post the election the Financial sector, in which the portfolio is overweight, outperformed, assisting returns for the fund.

The best performing stocks were Stockland (+17.5%) and Aristocrat Leisure (+12.5%). The fund suffered two earnings downgrades over the month with Reliance Worldwide (-24.8%), giving up all of its recent gains and Link Administration Holdings (-21.5%) downgrading earnings on the last day of the month. We remain positive on the longer-term outlook for both stocks.

The portfolio benefited from the election result and the improved sentiment across many of the fund’s holdings. The specific company downgrades were disappointing in what was a good performance from many of the fund’s core holdings.

PORTFOLIO OUTLOOK

Over the month there were two significant events for the portfolio. Firstly, the unexpected election win for the Coalition and secondly, the significant move lower in interest rates, both worldwide and in Australia.

The election outcome is undoubtedly positive for SWTZ. Given the portfolio’s yield and franked dividend focus, a change to franking legislation would have been a sub-optimal outcome for the portfolio. The ALP policy agenda brought significant uncertainty across many areas of the investment landscape, including housing, retail, banking and wealth management. These are large sectors of the economy and we would anticipate an increase in consumer confidence to occur which should assist the portfolio after a sustained period of pressure.

The ongoing decline in interest rates will focus investors on the worth of securing yield. Although there may be a bounce higher in yield post any trade resolution, underlying world growth remains modest at best.

The fund remains with a significant exposure to the bond sensitive sector and will likely remain so. These investments should be increasingly valuable in a world of low rates.

Interest rates remain low and economic activity, although slowing, remains positive. While volatility in equity markets is expected to continue, indications of inflation remain largely benign giving confidence that the investment outlook remains favourable over the medium term.