October 04, 2023
NCM Income Experts Webinar Replay
Watch Alex Sasso, CFA, Jason Isaac, CFA and Michael Simpson, CFA share their latest insights on investing for growth and income in this interview with Wan Kim. Originally broadcasted on October 4, 2023.
1:04 Mike, what’s something that financial advisors don’t know about you?
2:47 Jason, tell us something we don’t know about you.
4:49 How about you, Alex? What don’t we know?
5:58 Mike, why do you focus on profits and earnings?
8:29 Alex, why do investors need dividends?
14:41 Jason, why are barriers to entry so important?
21:09 Alex, Should I take the distribution from your fund or reinvest it?
25:21 Alex, can you remind everyone what corporate class means?
26:06 Jason, how do you pick global stocks with so many choices?
31:01 Mike, what makes a Dividend Champion and how do you know when to sell?
33:34 Jason, how does being active and concentrated impact the overall fund?
40:02 Mike, looking back 12 months and forward 12 months, what are your thoughts on north American dividends?
42:46 Alex, does it matter what region a Canadian company is from?
Wan Kim: Thank you everybody for tuning in for today's webinar, for our Income Solutions webinar. My name is Wan Kim. I am Senior Vice President, National Sales and Marketing at NCM Investments. I'm also known as the Growth Coach. I think a lot of you have watched some other webinars that I've done where I've talked about some practice management. So I want I really want to come in and give everyone this particular webinar and take some of the hosting duties to create a very engaging series.
But what I wanted to do for today's webinar is a little bit different. We're all dealing with KYP. Well, I thought I'd build on KYP, but a little bit of a different twist. Instead of know your product, which obviously you're here to learn, it's going to be know your portfolio manager. So I'm not going to do the normal intro of our three managers. I'm going to let them do that. So today we're going to do know your portfolio manager and we're going to do know your portfolio manager, the person, know your portfolio manager, their process, know your portfolio manager, their positioning. And I think this is really going to help and that's the feedback that we're getting.
So we're going to kick things off by talking to our portfolio managers and I'm going to ask Michael Simpson to kick things off and share a little story that maybe our advisor clients wouldn't know about. Mike Simpson. So we're a know your portfolio manager, Mike, it's all yours.
Michael Simpson: Okay. Thanks, Wan. So many years ago, when I had a lot more hair in university, I was trying to earn money and I would sometimes be extras in movies a little bit part. So nothing to write home, nothing to get famous about. And there was an opera that came to town. It was called Aida, very famous Italian composer, did this. So we currently have in Toronto the Rogers Center. Back in the day when I was participating in this opera it was called the Skydome.
So there was a grand opera and I was dressed in period costume. The period costume was of an Egyptian slave, and my job was to pull with a big rope, a lion, an actual lion in a cage across the stage. So you could say from that moment I was always bullish. I also like to get near the roar of the lion. There were also elephants. Luckily I didn't get the elephants task, but they walked across the stage by themselves or with very little handlers.
But I also like to garden. And this year, 2022 is a bumper crop for zucchinis. I guess the Miracle Grow is steroids for vegetables, but this year I produced three little pumpkins. So proud of that accomplishment. And that's what I do when I'm not opening up financial statements and trying to determine the next move in the market, which is always a puzzle and mystery to me. And that's why I love it.
Wan: That's amazing. Growing portfolios and growing pumpkins. That's a great little tweak that we didn't know about our portfolio manager, Mike Simpson. So I'm going to turn to Jason. Jason Isaac, your portfolio manager, the person, what do we not know about you? You are an open book and we would love to hear a different story.
Jason Isaac: Okay. Well, I didn't know what direction Mike was going to go there with. I needed money in university. I'm like, Well, that's my side. So I'm like, okay, that's not the story I got.
So I'm gonna shoot this at Alex and Mike and I'm going to tell two truths and a lie about myself. And you guys get to figure out which ones are what two are correct and what's not. So first of all, you know, I'm a football fiend. I've been to 25 Grey Cups. True or false? You can answer them all at the end. Am I bald by choice or by genetics? Okay, guys, that's kind of a shot at the two of you. And then and then you guys know, I spent some time working out and stuff. Am I lighter now than I was in high school? Keep in mind, high school was like 35 years ago. So two of them are true. One of them's a lie. Which one I'm going to ask. Also, I ask our audience if you've got any ideas.
Wan: I'm looking at the Q&A, but there is no way, Jay, you've been to 25 Grey Cups, so that that's the lie. That's what I'm going with.
Jason: So I have been to 25 great cups. Going to 26 in Hamilton this year.
Jason: I am bald by choice. So that means there's zero chance I’m lighter than I was in high school sports. Not even closed.
Wan: That's awesome. Thanks, Jay. Okay. And know your portfolio manager, Alex Sasso. You’ve been with NCM longer than anybody here on this call, what do we not know about you that our advisor audience would be interested in?
Alex Sasso: I'm a history geek. I just love history. I love how history repeats itself. It does so with war as it does so in economics. It's not a perfect cycle, but, you know, the events of the past tend to remind us of the events today. And frankly, it's one of my secret weapons when investing money. And that's what I do on the weekends, is I kind of read period pieces from the past to try to learn what might happen today.
Wan: That's great. This is why I have so much money in your fund, because you're reading those things on the weekend and I'm not. I also want to use know your portfolio manager to build an actual question about the funds, and I'm going to jump into that.
So when I'm out on the road and our wholesalers are talking and they're asking us questions. One of the things that stitch all three of your mandates together are a focus on positive earnings, a focus on dividends and a focus on barriers to entry.
Okay. So, Mike, I'm going to ask you, with respect to dividend champions in your investment process, why is it so important to focus on profits and earnings?
Mike: More importantly for us, cash flow are the lifeblood of a company. If the chart master would go to chart number 17, we're taking a very long period look at earnings from the U.S. They go back to about 1926. So through that time period, you have many wars, recessions, depressions, you know, a not the earlier pandemic, but the but the more modern pandemic.
So earnings drive the stock market. Earnings drive cash flow. Through earnings and through cash flow you can pay dividends and you can raise dividends. So it's very important we understand that some of our businesses we invest in are mature businesses. They won't grow rapidly, but they'll grow along with the economy. And if you can still achieve three or 4% earnings growth, that's very important. With that earnings growth, you can generate cash or you can do many good things, reinvest in the business, pay down debt, what we like, pay a dividend.
And if you're a really good company, what we call at NCM dividend champions, you raise your dividend every year. So it just recently Keyera raised by about 6%. Fortis raised for the 50th consecutive year. Dollarama, which we own in the portfolio raised even though it's been beaten up right now and it's been a tough bear market for dividend stocks. We expect BCE to raise in January. So there's a lot of good things from dividend companies. The champions will give you a nice raise or bonus every year.
Fixed income, you're locked in. And so I know the rates are attractive right now, but one year, in our view, they'll be lower. So a number of positive things come from earnings, Wan, and that's why we watch them very closely. And we go through all the company reports every time they report. It's very crucial to our process.
Wan: I love it. You had me a process. So Alex, I'm going to ask you the second part of that trilogy, which is the focus on dividends. Your fund has a very strict dividend focus, but with respect to dividends in general, why is this so important for investors?
Alex: Yeah, thanks, Wan. As you know, I've been sort of preaching the benefits of dividends for decades here. And if you've been listening to any of my webcasts in the past, you know that I like to show a handful of charts. It's just they're just so much easier for the audience to understand, and they're much easier than listening to portfolio managers speak. So the one consistency with these charts is that they repeatedly show how dividend investment strategies outperform and particularly dividend growth strategies outperform most other strategies over long periods of time over a business cycle.
And so if the operator will put up slide number 14, please. And you know, this one is is is really telling what you're seeing here is with the blue line that's the value of $100 invested in 1956, but without the power of the compounding of the dividends, where the red line shows you what happens if you take those dividends and you reinvest it back into that investment strategy. In this case, it's just putting it in the TSX. There's a significant, significant difference between the two.
Obviously now my focus has been on Canada, but this also applies to other geographies and this chart is very similar. If you're looking at the S&P 500 or if you're looking at an industry in Europe. And here are some of the things that you know are really important we don't talk enough about.
And if you think of the end of 2019 to today, so just three years ago, the dividends on the TSX have increased by a third, so up 30%. It's significant. And that's and the other thing that I'd say about that is that those dividends are coming from sectors with excellent track records of stable dividend distributions. Plus we know that dividends make up 30 to 40% of Canadian equity returns over the past several decades.
And so you ask, Wan, why is this important? And I think today's environment is the economic environment is really uncertain. And if you think about it, we've got really strong employment numbers, but we've got a weakening consumer and we have an aggressive Fed, but we have this on-shoring, near-shoring trend. And there's a whole bunch of other themes and trends that permeate through the economy. And some of them are good and some of them are not so good.
But in my opinion, given that kind of uncertainty that we're facing right now, you really do want an asset allocation in a sector or in a strategy that has a significant yield with companies that have consistency in their distribution.
And I think one of the ways we can show that is with operator, if you want to go to slide chart number four, please. And speaking of consistency, this chart is showing you the dividend changes. On the left hand side. What we have is the net dividend change by count. So this is the number of increases by companies listed on the TSX dividend payers and the number of decreases. And you can see that the red line dominates the yellow line, the yellow line being the cuts. And the net of it is that great line that moves through the chart. So you can see in 2022 we had a 155, 151 increases or hikes to dividends amongst TSX companies. And then if you want to toggle to the right side, there's some talking to the audience. If you want to go to the right side here it is the same chart, but instead of number of hikes, it's billions of dollars of dividend. So you can see in 2022 on the TSX, we've had nine and a half billion dollars allocated to or incremental to the dividend pool on the TSX.
So I'm kind of proud of that and I'm proud of the Canadian companies because decades ago you would have seen a lot more volatility in those numbers. And management teams understand loudly and clearly that one of the ways that they can create value is vis a vis the consistency of their distributions and in the consistency of the hikes.
And if you think and if you focus on the dividend growers as we do, what this strategy does is it helps capture some of the value creation that those dividend increases are providing equity prices. And then remember as well that growers help protect on the downside as investors tend not to sell those stocks with those kind of characteristics, with those dividend growing characteristics.
And operator, if you want to just put it up one more slide, if you can go to slide number nine, this is how it looks inside the Income Growth Fund, the fund that I manage. What we're showing you here is the upside and the downside capture in two different periods, the three year period in the years since inception period. So if you if you want to look at the three year period, the upside capture means if the market goes up by 1%, the Income Growth Fund tends to go up, over the past three years, it's gone up by 111 bps. And intuitively that makes sense because we're focusing in on small-mid caps. So, you know, when the market goes up, we tend to outperform.
But what might not be what may not be intuitive to you is the downside capture being as low as it is. So when the market was down 1%, we're down 76 basis points. And the reason for that is, is because that fund is really focusing in on those dividend growers. So they tend to be the last thing in a portfolio that an investor would sell vis a vis the strategy.
So back over to you Wan.
Wan: Okay, beautiful. So if you think about it, you know we talked about profits and earnings with what Mike highlighted. Alex talked about the importance of dividends and dividend growth. Jason, that last piece to you. Why are barriers to entry so important in the methodology of your mandates and all the income solutions we have?
Jason: I tend to be a quant guy. I like numbers, black and white stuff. And of course you give Mike and Alex the hard and fast stuff and you give me the touchy feely stuff. I don't do well with that stuff. Chart Master Slide 20. You know, without getting too nitty gritty and “professorial” if you want to say, with regards to your finance courses and things like that, barrier to entry is just a fancy way of saying that you've got a company that benefits from some protection one way or the other to its profits at its sales. It's all there is to it.
I tend to classify it like it depends - you can Google this term and you're going to get, you know, there's three types barriers and you get somebody else will say, there's ten. Somebody says it’s 12. I classify it - there's there's traditionally four. And those four would be, you know, I'll start from the left and go across the top and first would be legal. What does that mean?
Well, think of patents that pharma companies have. You know, they bring them to the table and the governments have allowed them to benefit from their pharmaceutical inventions and and not have competitors come in and and undercut their sales.
The Canadian banking industry is definitely something that benefits from a legal environment. You know, there's a lot of you know, and because I'm a global investor by nature, there's a lot of large companies, large financial institutions that would love to come to Canada, but they can't because it's a protected industry. You know, your Royal Banks, your TDs, your Scotiabank, schedule one banks, that's great. HSBC could come to Canada and dump $30 billion with the loans and not even think about it. But they're leaving because they would only be able to lend against what they actually have located in Canada, which drastically changes the environment. So that's a barrier to entry.
And you've got to keep that in mind when you're looking at companies. Yeah, technical. These would be things like, you know, Booz Allen as a company we have in the portfolio specializes in cybersecurity. Not everybody can do that. You've got a very specific technical expertise. Tesla would be another company that, you know, you've got electric cars and things like that. People just can't come to the to the market and just replicate what they do. Another company we have in the portfolio, ASML, the foundry for semiconductors, you guys have probably heard way back when, when we're going through a semiconductor shortage. Well, the wafers that actually these companies use to make semiconductors, there's not very many facilities around the world that can actually do that. That's a barrier to entry.
The strategic tends to be one that I like the best because it means it's a business practice. It means it's repeatable. It could be location. A company like Freeport-McMoRan, a lot of mining companies, they're located where their ore that they're looking to do is, you just can't dig for copper anywhere. You've got to go in special areas, you know, energy, uranium, oil, all these types of things tends to be prevalent and in materials and resources and things like that.
But I would actually classify other companies like a Costco, the business practices you just can't repeat the scale that Costco like, you know, I call it the $700 store. I can't remember the last time I went to Costco, I didn't spend $700. Like, it's crazy. And, you know, I didn't know I needed ten headlamps, but I guess I did, you know, like, it's just what they do.
And then, you know, MasterCard, Visa, like these payment processors, you just can't replicate that. That is a strategic barrier to entry. I know intermediation and Square and PayPal are trying to do it, but they haven't done it to the same extent.
And then the final one is loyalty. It tends to be a little bit more touchy feely, But think of your Lululemon's, your Starbucks or McDonald's. The other one would be like an IBM. Like you get a company, like a large bank that needs to do some integration of investor information systems and things like that. IBM's the first call for a lot of people. There's another company out there that I have in the portfolio called Accenture does the same thing. These are barriers to entry.
You just can't do it. They tend to be touchy feely. Not every company has the same level, but it is reflected in the financials and the fundamentals. And this is where you get your revenue and you get your earnings and you get your free cash flow growth. And then it bleeds into what Alex was talking about with dividends and all that sort of stuff. So barriers are important.
And finally, I put this one down to language and culture because I'm global, not just a Canadian, not just a North American. You need companies that can actually deal across borders, especially if you're going multinational. One of my favorite companies in the portfolio is DSV. It's a logistics company. It's based out of Europe. Europe is well, it's a cohesive landmass. It's not cohesive in trade policies and border controls and things like this. DSV helps companies move their product from country to country. They go in. Not only do they actually physically move it, but then they help the countries actually set up and deal with customs issues, deal with language barriers and all that sort of stuff. That is definitely a barrier to entry. You just can't set up a logistics company in Europe and become successful.
So the barriers to entry, like I said, just to circle back to the beginning, gives you some level of comfort that a company's revenue and earnings are very, very protected. It's you know, there's there's a number of terms, a moat, a fortress, you know, a bridge, whatever you want to call it. But it just allows companies to do what they do. And really limits competition. That's the way I would put that.
Wan: Absolutely. Love it. Okay. So to our audience members, a lot of you downloaded a workbook that we had for this webinar with respect to our income solutions, and one of them had a case study talking about distributions and some of that, some of the history of the particular mandates.
This question is actually for Alex in our know your premium process question Alex, your fund actually has the most history of paying a distribution. And I often joke that your fund is older than the iPhone. It's a question that comes up often. Should I take the distribution that you're giving me or should I reinvest it back?
Alex: That's funny that you would mention the iPhone.
See, if if you're invested in an iPhone way back in the day would have probably cost you a thousand bucks. Whereas if you invested in the Income Growth Fund, it would have appreciated over time. And you think about it every month, you paid money to the carrier. Where, with Income Growth, every month you earn a dividend. And of course your iPhone depreciated to almost zero. And I don't even think Apple covers it anymore. So at NCM, we’ll definitely support the fund. So yeah that's that's a pretty good analogy.
But all kidding aside, Wan, the answer kind of depends on the specific investment goals and frankly the risk tolerances of each investor. And this is why I will never take the role of an advisor. It's just that their book of business is so differentiated that you don't have the repetitiveness that's needed for AI to make it successful, at least in that industry.
But you know, you mentioned the fund's been around a long time, it's been around about 17 years. We've seen a lot of cycles. We've seen the great financial crisis, Covid, and we've been able to power through both of those.
And operator, if you can put up Slide ten for me now, it's now over that time period, you know, you could have reinvested all of the dividends. That's kind of the left side of this of this chart, meaning that $100K would now be worth about $400K, essentially a four bagger, but that's thanks to the compounding of those dividends that are coming into the fund.
Or on the right side, you can take the dividends as a supplement to your income or your retirement pension. In that case, it's a 4% yield. It's a 4% yield currently. So not only do you receive a meaningful cash dividend or paycheck each month, if you want to think of it that way, but your original capital base has been able to grow under that scenario as well.
So, you know, one advantage that dividends provide that we don't talk often enough about one is that they're one of the best tools to fight inflation, and that's one of the current issues that we have right now. But if you think about the past 100 years, dividends and dividend growth on the TSX has grown at a faster pace than inflation has grown. So that means that you're improving your purchasing power.
And if they're from Canadian eligible corporations, remember that they're tax advantaged as well. So if you think of it, if you think of it this way, let's assume that you're generating most of your retirement income from a dividend strategy. And let's just pick a number that's easy to divide. Let's assume that number is 100,000. So you're earning $100,000 from Canadian eligible corporations. That means you're going to pay $39,000 in tax, whereas if you invested in interest income, so fixed income securities, that provided interest income, that's going to cost you, assuming you're in the highest tax bracket here in Ontario, that's going to cost you $53,000. So there's a savings of about $14,000 there. So make no mistake, it's significant.
And to get back to your question, Wan, there's really no wrong answer here because the fund can support those strategies. In a way, it's wealth creation vehicle, as you can see on the left side of that chart. But in another way, it also supports on the income strategy.
Wan: But wait, there's more. Alex, didn’t you highlight previously that it's a corporate class fund? Can you remind everyone what that means?
Alex: Yeah, so that's the great thing about it. The fund is in a corporate class, so we can use some of the expenses of that corporation to offset some of the interest income. So not all returns are equal. So as I often say, you know, a 10% rate of return in this fund is different than a 10% rate of return in a competitor’s fund that is not in a corporate class, because what is important to the client is their after tax income. So that's the great thing about the corporate class - it will provide your higher after-tax rate of income. So thanks for bringing that up, Wan.
Wan: I can hear text messages because I say this all the time. It's not what you make, it's what you keep. And so that's another real benefit of some of these mandates. This question actually is for Jason. Again, on the theme of knowing your PM and process. Jason, you actually have a global fund and this means you can go anywhere in the world and the world is your oyster, but you live in Calgary, so please don't eat Calgary oysters.
How do you pick global stocks with so many choices? Because you have a very concentrated portfolio.
Jason: Good question. I will let you tell the audience exactly what a prairie oyster is. I'm not going to actually explain that. This might be a family show.
Wan: Right now there's 100 advisors Googling Prairie Oyster.
Jason: Being a global opportunity set, what I try and do is take a big view on what actually is working . This slide’s got a lot of numbers on it, but I'll just kind of break it down for you.
If you look on the left hand side there, the BBG world is just the Bloomberg World index. And all I've done is I've taken a quick snippet of the five largest sectors within the Bloomberg World Index. It includes all the developed, all the emerging market countries in the world and then splits up the indexes. And then anything under - and I just kind of went with the rule of thumb that if it's under 10% to the index, it really probably doesn't make a lot of beans a difference. So you can see that, you know, between 70 and 75% of the world index is driven by five sectors. You got tech, financials, health care, consumer discretionary and industrials. That's it, geography is irrelevant.
Then I slice it down a little bit further when it comes to being a global opportunity set, I kind of dip into four pools. You've got the U.S., you've got Europe, you've got Canada, you've got Japan. So you can see beside each one of them there, there's also the weights. So like the U.S. represents basically 60% of the world market. Nothing that nobody else has ever heard of. It's not surprising. Europe's about 15%, Japan's about five and Canada is about three. Heard this over and over and over again. But what I'll do is I tend to believe that when you're looking at a market and it's either risk on or risk off, meaning either you want cyclical exposure or you want defensive exposure, then that kind of drives me to where you necessarily want to be.
I find it very difficult that a country like Japan, which is outperforming right now, is going to outperform. If industrials, technology and consumer discretionary are not performing well, 60% of that index in Japan is in industrials, technology and consumer discretionary. You throw in health and communication services, that's 80% of the Japanese index. Like there is zero chance that those five specifically those three sectors don't perform and Japan continues to outperform.
Conversely, you look at the US, tech’s 27%, health care, it's 13 and a half, financials are 13 and discretionary is ten. 65% of that index is in those four sectors. At least two, if not three of those sectors have to be performing for that to do well. So the way I look at it is I go, well, if we do expect it to be a risk on environment, fourth quarter, which - we'll get there's another chart I've got that we'll finish with -I do.
So you want to be in more of the the cyclical areas of the market. Well, that would suggest you want to be in energy, you want to be in industrials, you want to be in technology on the margin. Then I go to the areas of the world. Well, tech is the biggest space in the US, it's the leader. You can't you can't blow against the wind there.
But look at energy. Energy, it represents 20% of Canada. I sit back and I go, “Why would I go outside of Canada if I don't have to to get world class energy companies?” Financials, another big one. Canada has kind of performing poorly, even though energy's been on a run. Canada has been not doing great vis a vis the rest of the world.
And why is that? While we all know financials haven't been doing great, 30% of the Canadian equity market. So when it comes to the process, it's kind of a top down, but it's not a top down from an economic perspective. It's a top down from what actually moves individual markets. And then that's where you go and fish. That's kind of what I'm looking at.
Wan: Love it. Okay. So this is now Mike, this is, again, KYC, know your process. But Mike, your mandate is equity focused. Alex and Jay have a balanced mandate. So North American dividend champions, what makes a champion and on a flip side of that, what makes a loser and how do you get rid of names that made a into the fund? What causes change? What makes a company go in and what makes a company go out?
Mike: First, we'll start with the champion, which is very important. A champion is profitable, consistently paying dividends, growing dividends, strong margins. Alex talked earlier about this and Jason barriers to entry, so you look at a rail company like CP rail, now it's really CP Kansas City. So there's really six or seven rails in in North America. So you're not going to build a railway tomorrow. You've got a huge market. You've got very strong operating margins. You reinvest in the business so the ability to pay dividends, grow dividends, reinvest in the business while still having high return on invested capital.
So as I mentioned earlier, part of our portfolio manager’s duties is to constantly maintain your companies. Sometimes, you know, it's easy to identify the really excellent companies. The hard part is is buying them at an attractive prices. And that's where we have a market. Some people will say, well, this company’s great, it's attractive at any price, any time. So sometimes we buy companies that are good but not great. So those companies slip and it's not a subjective slip, it's objective. And we see it in the numbers. If we see debt levels rising, payout ratio is rising, we would sell. That discipline allowed us to avoid Algonquin Power, avoid Northwest Health Care, both companies that have had to cut their dividends.
We also look for inspiration in one of the greatest Ukrainian-Canadian hockey players, Bill Barilko. So he was a champion. In his first five years, he won four Stanley Cups. From northern Ontario. And we look, we do all that. So I hope you enjoyed the picture of Bill Barilko.
Wan: I have time for three more questions. It's going to be one for each of the managers and this one's going to go to Jason. These are actually coming from some of our wholesalers and I've kind of distilled it down. But this is a question with respect to active versus passive. So, Jason, what makes an active portfolio and how does concentration of a portfolio really impact the overall fund.
Jason: It's a good question. Let's go with Slide 26, please. I'm going to split it up a little bit more granular than that.
There's two aspects of risk and two aspects of return when it comes to an allocation of an asset selector towards a certain strategy. What you do and what our partner advisors do is they determine the risk exposures that they want for a portfolio. When they've determined that risk exposure, then they want to necessarily put it in an asset that's actually going to achieve that risk exposure and maximize returns subject to that risk exposure.
There's two types. There's basically everybody's heard of tracking error and not everybody's heard of active share. Tracking error just is basically an examination of the factors of the underlying portfolio versus what you wanted to invest in. So for example, if as an asset allocator or a financial planner for a client, you decided you wanted 25% of the client's portfolio to be in the S&P 500, you want to select an asset that has exposure and a tracking error very low to the S&P 500. You don't want somebody that's going to have a very high tracking error because lots of studies have suggested that a high tracking error is not necessarily a good proxy for good returns. All it does is mean you've created and added more risk to the portfolio that you don't necessarily otherwise need. Things that would be this case is if you decided you want S&P 500 exposure and you went to a manager that decided to exercise, I'm going to be 80% cash or I'm going to buy Chinese a-shares or I'm going to add high yield to the portfolio.
Those are exposures that you as a as a risk manager for your client, haven't introduced in your financial planning models when you want S&P 500. So all things equal, you want an asset that's going to do that. S&P 500 that has a very low tracking or the S&P 500. On the flip side, what you want is you want a portfolio that has a different percentage of securities than the underlying. And the reason is, is because of fees and transaction costs and taxes and things like that. If you think about it, if you want S&P 500 exposure and you've got 75% of the securities in that particular model, that's exactly the same as the S&P 500. That means the other 25% have to do all the heavy lifting for the fees and the return, because the other original three quarters of that fund are going to do exactly what the S&P is going to do.
What we've found with a lot of research is that portfolios that have a low tracking error versus what their asset allocation calls them to do, but a high active share, meaning a good differentiation of individual securities, there is tends to be a persistence of returns and that return tends to be higher. So you tend to get managers that high have high active share.
The easiest way to deal with high active shares is have concentrated portfolios, have portfolios that have 25, 30 securities that are well-researched, well thought up, have barriers to entry, have that dividend growth strategy, all of those things. So the Nirvana of investing when it comes to placing assets as a risk allocator is to have an asset that has a low tracking error versus the risk that you want, but a very high active share, that's what you want.
Otherwise you're just going to do what the benchmark does. If you want to jump to slide 18. This is where active share makes its money for clients and where the rubber hits the road. And it's the same slide that Alex showed for the Income Growth, but it's the Global Income Growth.
And this is where active share really tests its mettle, in the three years, what's usually important. This means when compared to the typical Canadian global equity balanced fund out there, this fund exhibits an upside capture of 111%. It means if the typical Canadian equity balance fund is up 100%, this fund will be up 111%. Conversely, if the typical global equity balanced fund is down 10%, this fund will only be down 8.7%.
That's exactly what active management does. You see the difference between the inception and the three year? That kind of coincides with a little bit of a focus change on the fund. The focus changed when the fund started was to maximize growth. So you see strong, strong upside capture. And when you know, seven out of ten years are up, that's actually a great thing.
But the downside capture was a little bit more. When I took the fund over, it was told to me loud and clear, limit the volatility of the fund. We want to maintain upside capture, but we want to limit downside capture. And that's what it does. This is what, right here, and Alex's fund encapsulates it as well, the slide that he had for his, this is what active share does or active management does for you. It it presses the pedal when it's appropriate and then it pumps the brakes when it's appropriate and just limits downside exposure. You don't run into that brick wall. That's that's the idea behind active management.
Alex: Yeah. And so always ask your portfolio manager what their active share is. If they don't know, it's so important, it's probably yeah, it's probably low.
And the worst that the industry has done to ourselves is we've created a bunch of products or the products have become so large that the active shares become very low, which means you look like the index you're going to perform like the index and...
Jason: Minus the fees!
Wan: is a great KYP piece that everyone should be asking your portfolio manager. Ask them what their active share is that that is a great takeaway piece. Thank you so much Jay. Mr. Simpson now this question is to you. So looking back on the last 12 months and looking ahead for the next 12 months, what's your thoughts on North American dividends?
Mike: So we'll be honest, it's been a tough year for dividend paying stocks. Even, viewers will know, the last three weeks. We as equity managers, equity income managers, we look to the bond market for clues. It's often said that the bond market is like the canary in the coal mine. So we look at credit spreads in particular. So credit spreads, in our view, aren't sending any alarming signals. So that's one positive thing.
We've had in the last few weeks, a rapid rise in rates. We don't think this is sustainable. We see the Canadian economy slowing more than the US economy. So this bodes well for some of our traditional dividend payers. They've already been shellacked and trashed and for those who are worried about inflation Chart master go to chart 16.
So we have the price of oil. It's risen, it touched $90, West Texas and Brent, it's come off a little which is good, which just means these companies are still very profitable. We do have exposure to this space, but inflation breakevens which have a whole bunch of macro factors built in, which I won't get into, they're still very low. The five year’s around 2.5%. So people don't have grossly inflated views of future inflation.
So we do think that the dividend champions will continue to pay dividends and grow their dividends. I highlighted a few already earlier, the Keyera, the Dollarama, the Fortis. We are expecting dividend increases from some companies like BCE in the New Year. Tourmaline, which we've owned through the piece, which has gone up and down, they still managed to pay a dividend, increase their dividend and also pay special dividends which are nice bonus.
So you know, we're quite confident in the roster of dividend champions we have. You know, balance sheet’s always important for us. It's going to be important going forward as companies have to renew debt that they purchased a few years ago at much lower rates. So this is like Warren Buffett. The proverbial tide's going out and we're going to see who's swimming with a bathing suit, a Speedo or no bathing suit at all.
Wan: So if you had to put that in my head. So I've got I've got one last question. It's for Alex. And before I ask the question, Alex, I want to kind of do a reflection. I talked about earlier about this being the Return of the Jedi. This is our our trilogy. The first time I hosted the three managers, I ended the question to Alex and ended it by showing this because his fund is older than the iPhone, which we talked about, and we were all rocking BlackBerrys in 2006, and he had highlighted that he'd never been able to put BlackBerry or RIM in the portfolio because it never paid a dividend and it really drove home that example of why dividends are important.
Then in February, we talked about using mutual funds as the tool to hold all these great dividend payers. And I think I embarrassed everybody by digging up my vintage brand new Canadian Securities Course. By the way, there's a chapter on the IDA in here. You haven't heard the last of the IDA There's a whole group of advisors that will Google the IDA, but that's what was there before IROC, and now it's all CIRO. So anyways, the point being, Alex, it again highlighted how mutual funds are the great vehicle to be able to house these great dividend paying names.
So now we're on the third piece of this trilogy series. And the question is really about, again, his fund and Canada. And what a lot of you don't know is, while I live in Toronto, I actually used to live in Calgary. So this is my stampede hat. It has had misadventures. [Laughter].
Alex, you run a Canadian fund and Canada's really big. Okay, so all joking aside, when you're looking at companies, does it matter where they're from? If they're from Alberta or Quebec? What's your thought process when picking companies... and try not to be hypnotized by [my hat].
Alex: I think it I think it looks good, Wan. I think you should walk around the financial world with it. So where companies located it honestly doesn't matter to me. A great company is a great company. It doesn't matter where it's located. Yeah, there are high cost jurisdictions and there are high tax jurisdictions and a great company wouldn't be a great company if it operated in a high cost, high tax jurisdiction.
You know, if you think about our portfolio, you take a look at a company like Major Drilling. It's one of the world's biggest hard rock drillers. It's based in of all places, Moncton. I'm thinking of Boyd Group. It's probably one of the biggest auto body repair shop companies. It's got 10,000 employees. It's got 900 locations. It's headquartered in Winnipeg. And, you know, a company we've recently added to the portfolios Vecima Networks, and it's got 600 employees. And if I'm not mistaken, it's located in Victoria, B.C.
So it really to me, it really doesn't matter. It's the quality of the business and the quality of the balance sheet and the free cash flow level, the return on equity, all of those quant measures that, you know, we monitor so rigorously.
And when you marry great quants and great fundamentals, that's what makes a great company. So it doesn't matter to me. And you know, we pay a lot of attention to the quality of the dividends. And I don't necessarily mean the quality of the dividends because the dividend is a dividend, but it's the earnings that generate that, the quality of the earnings that generate those those dividends.
So one thing that our audience needs to remember is, you know, a dividend dollar, it's already an after tax dollar. So what I mean by that is it's already taxed at the corporation before it's given to shareholders, and that's the reason why it's taxed at a lower tax rate than, say employment income.
So just to wrap up one, I think it doesn't matter to me where it's located. We’ll search all over Canada for a great company. And when we find it, we run concentrated portfolios. Our top ten make up 40 to 50% of the fund. And if it's a great company that qualifies to be in the top ten, we'll make sure it's in the top ten. And then I'll make sure that, you know, all of the other guys here know about it, and we're all following it, and we're all following that company's competitors so that, you know, we can understand what's happening in the marketplace. But yes, thanks. Thanks for the question. I think there's a lot of, you know, the beautiful thing about small mid-caps is you're trying to find a mini blue chip that will become tomorrow's blue chip.
Wan: Fantastic. So with that, everyone, just a few things. First off, thank you to Alex, Jason and Mike for their time and all the work into this webinar. Another shout out to the chartmaster, who is behind the scenes keeping this whole webinar together. Final thanks to our advisors who've tuned in to join
And if you really enjoyed this and what some see credits for this, we actually have an income presentation worth 1.5 C credits by CIRO. The talk is about NCM Income Growth, NCM Global Income Growth and NCM Dividend Champions. And for that any of your NCM mutual fund wholesalers are happy to do that for you, either in-person or through Zoom.
With that, I'm ending this webinar and a huge thank you to everybody for tuning in for your time. Thank you so much.
The information in this video is current as of October 4, 2023 but is subject to change. The contents of this video (including facts, opinions, descriptions of or references to, products or securities) are for informational purposes only and are not intended to provide financial, legal, accounting or tax advice and should not be relied upon in that regard. The communication may contain forward-looking statements which are not guarantees of future performance. Forward-looking statements involve inherent risk and uncertainties, so it is possible that predictions, forecasts, projections and other forward-looking statements will not be achieved. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated. Jason Isaac is a Portfolio Manager, with Cumberland Investment Counsel Inc.(CIC). CIC is the sub-advisor to its affiliate, NCM Asset Management Ltd.
Income Solutions Team
Managing a range of income portfolios that can generate fixed monthly distributions without depleting your capital.