Interim Management Report of Fund Performance. OceanRock U.S. Equity Fund (the Fund ) Interim Period ended June 30, 2018

Transcription

1 (the Fund ) Interim Period ended June 30, 2018 This contains financial highlights but does not contain either interim or annual financial statements of the Fund. You can obtain a copy of the interim or annual financial statements from the manager of the Fund, OceanRock Investments Inc. (the Manager or OceanRock ), at your request, and at no cost, by calling toll-free , by writing to us at OceanRock Investments Inc., Suite 1920, 505 Burrard St., Box 85, Vancouver, BC, V7X 1M6 or by visiting our website at or SEDAR at Unitholders may also contact us using one of these methods to request a copy of the Fund s proxy voting policies and procedures, proxy voting disclosure record or quarterly portfolio disclosure.

2 Management Discussion of Fund Performance Results of Operations For the six months ended June 30, 2018, Series A units of the Fund returned 5.27%, underperforming its benchmark, the S&P 500 Index, which returned 7.71%. Index and Fund returns are calculated on a total return basis in Canadian dollar terms. The Fund s return is net of fees and expenses. Investors cannot invest in an index without incurring fees, expenses and commissions, which are not reflected in the index s return. Key contributors to Fund performance included stock selection and an underweight allocation in Industrials, and stock selection in Consumer Staples. Individual contributors included MasterCard, Visa, Cognizant Technology Solutions, Adobe Systems, and EOG Resources. Primary Detractors from performance included stock selection in Consumer Discretionary and Materials. Individual detractors included not owning Amazon.com or Netflix, an underweight allocation Microsoft, and overweight positions in Comcast and Crown Holdings. Looking at current positioning, compelling investment opportunities are being found in business services, medical equipment, major banks and consumer products. Within business services exposure to technology is being gained while mitigating product-specific risk. In addition, these companies offer defensive growth at a reasonable price and business models that are less susceptible to technology disruption; they have proven to be resilient through the cycle (sales, margins and EPS held up in prior downturns). While the Fund remains meaningfully overweight these stocks, with large investments in IT services companies and fin-tech, exposure was trimmed following strong performance. In medical equipment, the Fund owns a mix of medical equipment and supplies companies that offer a combination of relatively steady, above-average growth, driven by favourable long-term demographic trends, high or improving relative market share, expanding margins, strong free cash flow generation, resilient earnings, prudent capital deployment and stock prices trading at attractive valuations. While valuations have moved off their lows for the major banks, and exposure continued to be trimmed as valuations increased, many of these stocks still stack up well, especially if a more favorable environment for rates, taxes, economic growth and regulation combined with capital return leads to higher ROEs. In consumer products companies are favoured that demonstrate self-help potential, Newell Brands and Coty for example, or companies where total shareholder returns are attractive and current valuations are reasonable, Colgate-Palmolive for example. Conversely, the Fund had no exposure to integrated energy, telephone services and REITs. The Fund remained underweight the integrated oil companies, preferring to gain exposure to energy by owning a higher-quality E&P, EOG Resources. Not owning telephone services companies is because of concerns around the highly competitive environment with fierce pricing competition and the likelihood that capital intensity will remain relatively high as they continue to build out their networks. REIT valuations look more reasonable versus the market, and discussions have focused on several REIT ideas, but nonetheless the Fund continued to have no exposure. Other industry underweights are largely a function of not owning or being underweight several large benchmark constituents. For example, the Fund s underweight to computer software is largely because of an underweight to Microsoft, although the gap was meaningfully closed with the addition of Microsoft and Salesforce.com. The underweight to insurance is largely because of not owning Berkshire Hathaway, while underweight to computer systems is largely because of a sizable underweight in Apple. The Fund s underweight to specialty stores is because of not owning Amazon. During the period, the search for opportunities across the market continued. Bucking the recent trend of a decreasing number of holdings, four new names were added to the Fund, while not eliminating any names. The largest increase to relative exposure was in capital goods, as connectivity and sensor manufacturer TE Connectivity was added. TE Connectivity is the global leader and is well-positioned within its industry, given its long-lasting and integrated relationships with customers' design and engineering teams, global scale and diverse end market exposure. The company stands to benefit from the growth of electronics content across a wide array of products and applications and is well positioned to capture growth from mega-trends such as electric vehicles, factory automation and increased data consumption. In addition, it offers margin improvement, a clean balance sheet, high free cash flow conversion, and an attractive valuation. Page 2 of 12

3 While the relative weight of technology declined, three new technology names were added to the Fund during the second quarter: Salesforce.com, Microsoft, and Analog Devices. The biggest hurdle that needed overcoming for Salesforce.com was valuation, especially when accounting for stock-based compensation. However, fundamental analysis helped in this regard, in particular adjusting for the negative impact on earnings in the first year of winning new business, the valuation looks very compelling relative to the market, even when fully adjusted for stock-based compensation. Furthermore, the combination of leverage to secular cloud dynamics, consistent execution, margin expansion and 20%-plus revenue and FCF growth is extremely rare in large-cap tech. For Microsoft, the main reason for avoidance of this stock had been concerns about the company s legacy business and their ability to be a leader in the cloud space. These concerns have proven to be unfounded, as Microsoft has navigated the environment well and should be poised to accelerate growth, largely driven by the faster growing businesses becoming an increasing part of the product mix. In particular, the three-to-five year outlook for Microsoft is improving, given higher and accelerating revenue, earnings and FCF growth, plus a higher dividend yield. In addition, Microsoft is well positioned in the long run with cloud exposure, a defensible on premise business, and is benefiting from Office 365 migration and an increasing Azure presence as the number-two player in the cloud. Strong cost controls to offset gross margin pressures and repatriated cash used for dividends, buybacks and delevering round out the thesis. And while valuation is a bigger hurdle today than it was a few years ago, it is compelling relative to the market. Finally, Analog Devices is a great analog franchise with a dominant position in data converters and amplifiers, and it offers attractive upside due to Linear Technology synergies and deleveraging. A notable trend in the market has been the continued outperformance of growth relative to value. Also somewhat related, market breadth deteriorated, with a handful of growth-leaning tech and internet names leading the market for much of the period. While the Fund does tend to have a slight growth bias, underexposure to some of the highflying large growth stocks such as Amazon.com, Apple, Netflix and Microsoft hurt relative performance. Finally, a combination of sector positioning, most notably an overweight to the poor-performing consumer staples sector and an underweight to the strong-performing energy and consumer cyclicals sectors, and stock selection, in particular Crown Holdings, Goldman Sachs and Starbucks, detracted from relative performance. Recent Developments After the spike in volatility in the first quarter, volatility largely declined during the second quarter, and most indices were able to finish in positive territory. However, a strong U.S. dollar and slowing economic growth overseas have weighed heavily on U.S. firms with high non-u.s. revenue exposure. In addition, concerns about a trade war have also likely impacted the performance of U.S. stocks with high foreign exposure. The Fund tends to favour companies with diverse revenue streams, and has historically had a higher percentage of non-u.s. revenues. As a result, relative performance was negatively impacted by these trends. The investment process is very much driven by bottom-up stock picking, while macro considerations are not the major driver of portfolio positioning. However, one of the many benefits of having close integration with the fixed income team is that they do focus on macro, and collaboration ensures that stock-by-stock scenario analyses includes reasonable ranges for key macro factors. Recently, the fixed income team has highlighted that input costs continue to rise faster than consumer prices, which will challenge company profit margins going forward. In particular, there is evidence of higher input costs, rising wages and labor shortages. As a result of these discussions, closer attention is being paid to margin assumptions. Proposed Change of Manager In December 2017, Desjardins Financial Holding Inc. ( Desjardins ), the indirect controlling shareholder of OceanRock, entered into an agreement with Canada s five provincial credit union centrals (the Centrals ) and The CUMIS Group Limited ( CUMIS ), pursuant to which the business of Qtrade Canada Inc., the parent company of OceanRock, would be combined with the businesses of Credential Financial Inc. and Northwest & Ethical Investments L.P. ( NEI ). The transaction closed on April 1, 2018 and resulted in an indirect change of control of OceanRock. The new entity, Aviso Wealth Inc. ( Aviso ), is indirectly jointly owned by Desjardins and a limited partnership comprised of the Centrals and CUMIS, with each holding a 50% stake. Page 3 of 12

4 As a result of the above noted transaction, OceanRock and NEI are now affiliates and this has resulted in some overlap and duplication of offerings. As a result, it has been proposed that certain funds managed by OceanRock be merged into funds managed by NEI and that the management agreements with respect to certain other funds currently managed by OceanRock be transferred to NEI, which will result in NEI becoming the new manager of those funds. OceanRock proposes to change the manager of this Fund to NEI effective on or about October 26, A meeting to obtain approval from Fund investors in respect of the change of manager will be held on or about August 31, If the change is approved, NEI will become the trustee and registrar of the Fund and Desjardins Trust Inc. (an affiliate of NEI) will become the custodian of the Fund. Proposed Change of Investment Objective In connection with the above, OceanRock is also proposing a change to the fundamental investment objective of the Fund effective on or about October 26, A meeting to obtain approval from Fund investors in respect of the change of investment objective will be held on or about August 31, If the change is approved, the Fund will be renamed NEI U.S. Equity Fund, its investment strategies will be updated and its distribution policy will change from an annual variable to a monthly fixed amount. Proposed Fixed Administration Fees In connection with the above, OceanRock is also a proposing the adoption of a fixed administration fee to replace certain operating expenses attributable to the series of the Fund effective on or about October 26, A meeting to obtain approval from Fund investors in respect of this change will be held on or about August 31, Related Party Transactions OceanRock s parent company, Aviso, its subsidiaries and affiliates, officers and directors of Aviso or its subsidiaries and certain Portfolios managed by OceanRock owned in aggregate approximately 87.34% of the total units issued by the Fund as at June 30, Page 4 of 12

5 Financial Highlights The following tables show selected key financial information about the Fund and are intended to help you understand the Fund s financial performance for the past five years. The Fund s Net Assets per Unit 1 Series A Units June 30, Net assets per unit, beginning of periods $21.72 $19.74 $19.46 $16.64 $14.08 $10.24 Increase (decrease) from operations: Total revenue Total expenses (0.28) (0.54) (0.48) (0.47) (0.38) (0.32) Realized gains (losses) for the periods Unrealized gains (losses) for the periods (0.49) Total increase (decrease) from operations Distributions: From income (excluding dividends) From dividends From capital gains Return of capital Total annual distributions Net assets per unit, end of periods $22.86 $21.72 $19.74 $19.46 $16.64 $14.08 Ratios and Supplemental Data Total net asset value (000 s) 4 $5,729 $5,778 $5,530 $6,656 $5,305 $4,807 Number of units outstanding (000 s) Management expense ratio % 2.55% 2.55% 2.55% 2.56% 2.60% Management expense ratio before waivers or absorptions 2.78% 2.77% 2.83% 2.65% 2.89% 3.01% Portfolio turnover rate % 15.88% 26.91% 22.37% 18.26% 19.87% Trading expense ratio % 0.01% 0.01% 0.05% 0.10% 0.03% Net asset value per unit $22.86 $21.72 $19.74 $19.46 $16.64 $ The Fund adopted International Financial Reporting Standards ("IFRS") on January 1, Previously, the Fund prepared its financial statements in accordance with Canadian Generally Accepted Accounting Principles ("GAAP"). Furthermore, the Fund has adopted IFRS 9 Financial Instruments commencing with the period beginning January 1, IFRS 9 replaces IAS 39 Financial Instruments: Recognition and Measurement. The adoption of IFRS 9 did not impact classification and measurement of the Fund. A restatement of prior periods is not required. 2 Net assets and distributions are based on the actual number of units outstanding at the relevant time. The increase (decrease) from operations is based on the weighted average number of units outstanding over the financial period. 3 Distributions were reinvested in additional units of the Fund and paid in cash. 4 The information is provided as at December 31st of the year shown, except as otherwise indicated. 5 Management expense ratio is based on total expenses (excluding commissions and other portfolio transaction costs) for the stated period and is expressed as an annualized percentage of daily average net asset value during the period. The Manager may absorb some operating expenses payable by the Fund and may discontinue doing so at any time in its discretion. 6 The Fund s portfolio turnover rate indicates how actively the Fund s portfolio adviser manages its portfolio investments. A portfolio turnover rate of 100% is equivalent to the Fund buying and selling all of the securities in its portfolio once in the course of the year. The higher the Fund s portfolio turnover rate in a year, the greater the trading costs payable by the Fund in the year, and the greater the chance of an investor receiving taxable capital gains in the year. There is not necessarily a relationship between a high turnover rate and the performance of a fund. 7 The trading expense ratio represents total commissions and other portfolio transaction costs expressed as an annualized percentage of daily average net asset value during the period. Page 5 of 12

6 The Fund s Net Assets per Unit 1 Series F Units June 30, Net assets per unit, beginning of periods $24.55 $22.02 $21.59 $18.69 $15.65 $11.26 Increase (decrease) from operations: Total revenue Total expenses (0.18) (0.34) (0.30) (0.31) (0.25) (0.20) Realized gains (losses) for the periods Unrealized gains (losses) for the periods (0.26) Total increase (decrease) from operations Distributions: From income (excluding dividends) From dividends From capital gains Return of capital Total annual distributions Net assets per unit, end of periods $25.99 $24.55 $22.02 $21.59 $18.69 $15.65 Ratios and Supplemental Data Total net asset value (000 s) 4 $1,352 $1,366 $1,244 $1,127 $720 $507 Number of units outstanding (000 s) Management expense ratio % 1.42% 1.44% 1.49% 1.50% 1.51% Management expense ratio before waivers or absorptions 2.27% 2.37% 2.62% 2.66% 3.77% 4.28% Portfolio turnover rate % 15.88% 26.91% 22.37% 18.26% 19.87% Trading expense ratio % 0.01% 0.01% 0.05% 0.10% 0.03% Net asset value per unit $25.99 $24.55 $22.02 $21.59 $18.69 $ The Fund adopted International Financial Reporting Standards ("IFRS") on January 1, Previously, the Fund prepared its financial statements in accordance with Canadian Generally Accepted Accounting Principles ("GAAP"). Furthermore, the Fund has adopted IFRS 9 Financial Instruments commencing with the period beginning January 1, IFRS 9 replaces IAS 39 Financial Instruments: Recognition and Measurement. The adoption of IFRS 9 did not impact classification and measurement of the Fund. A restatement of prior periods is not required. 2 Net assets and distributions are based on the actual number of units outstanding at the relevant time. The increase (decrease) from operations is based on the weighted average number of units outstanding over the financial period. 3 Distributions were reinvested in additional units of the Fund and paid in cash. 4 The information is provided as at December 31 st of the year shown, except as otherwise indicated. 5 Management expense ratio is based on total expenses (excluding commissions and other portfolio transaction costs) for the stated period and is expressed as an annualized percentage of daily average net asset value during the period. The Manager may absorb some operating expenses payable by the Fund and may discontinue doing so at any time in its discretion. 6 The Fund s portfolio turnover rate indicates how actively the Fund s portfolio adviser manages its portfolio investments. A portfolio turnover rate of 100% is equivalent to the Fund buying and selling all of the securities in its portfolio once in the course of the year. The higher the Fund s portfolio turnover rate in a year, the greater the trading costs payable by the Fund in the year, and the greater the chance of an investor receiving taxable capital gains in the year. There is not necessarily a relationship between a high turnover rate and the performance of a fund. 7 The trading expense ratio represents total commissions and other portfolio transaction costs expressed as an annualized percentage of daily average net asset value during the period. Page 6 of 12

7 The Fund s Net Assets per Unit 1 Series O Units June 30, Net assets per unit, beginning of periods $20.67 $18.50 $18.15 $16.05 $13.83 $10.00 Increase (decrease) from operations: Total revenue Total expenses (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) Realized gains (losses) for the periods Unrealized gains (losses) for the periods (0.24) Total increase (decrease) from operations Distributions: From income (excluding dividends) From dividends From capital gains Return of capital Total annual distributions Net assets per unit, end of periods $22.04 $20.67 $18.50 $18.15 $16.05 $13.83 Ratios and Supplemental Data Total net asset value (000 s) 4 $50,889 $48,687 $44,742 $43,969 $35,544 $19,371 Number of units outstanding (000 s) 4 2,309 2,355 2,419 2,423 2,152 1,040 Management expense ratio % 0.05% 0.05% 0.05% 0.05% 0.05% Management expense ratio before waivers or absorptions 0.08% 0.09% 0.11% 0.11% 0.19% 0.24% Portfolio turnover rate % 15.88% 26.91% 22.37% 18.26% 19.87% Trading expense ratio % 0.01% 0.01% 0.05% 0.10% 0.03% Net asset value per unit $22.04 $20.67 $18.50 $18.15 $16.05 $ The Fund adopted International Financial Reporting Standards ("IFRS") on January 1, Previously, the Fund prepared its financial statements in accordance with Canadian Generally Accepted Accounting Principles ("GAAP"). Furthermore, the Fund has adopted IFRS 9 Financial Instruments commencing with the period beginning January 1, IFRS 9 replaces IAS 39 Financial Instruments: Recognition and Measurement. The adoption of IFRS 9 did not impact classification and measurement of the Fund. A restatement of prior periods is not required. 2 Net assets and distributions are based on the actual number of units outstanding at the relevant time. The increase (decrease) from operations is based on the weighted average number of units outstanding over the financial period. 3 Distributions were reinvested in additional units of the Fund and paid in cash. 4 The information is provided as at December 31 st of the year shown, except as otherwise indicated. 5 Management expense ratio is based on total expenses (excluding commissions and other portfolio transaction costs) for the stated period and is expressed as an annualized percentage of daily average net asset value during the period. The Manager may absorb some operating expenses payable by the Fund and may discontinue doing so at any time in its discretion. 6 The Fund s portfolio turnover rate indicates how actively the Fund s portfolio adviser manages its portfolio investments. A portfolio turnover rate of 100% is equivalent to the Fund buying and selling all of the securities in its portfolio once in the course of the year. The higher the Fund s portfolio turnover rate in a year, the greater the trading costs payable by the Fund in the year, and the greater the chance of an investor receiving taxable capital gains in the year. There is not necessarily a relationship between a high turnover rate and the performance of a fund. 7 The trading expense ratio represents total commissions and other portfolio transaction costs expressed as an annualized percentage of daily average net asset value during the period. Page 7 of 12

8 Management Fees Management fees payable to the Manager by the Fund are calculated daily on the net asset value of the Fund at an annual rate of: Series A 1.95% Series F 0.90% Series O As negotiated with Manager The Fund paid the Manager management fees of $62,056 during the interim period. The management fee for each series is calculated as a percentage of its net asset value as of the close of business on each business day. The fees are paid monthly. The Fund s management fees were used by the Manager to pay costs related to managing the investment portfolio, providing investment analysis and recommendations, making investment decisions, making brokerage arrangements for the purchase and sale of the investment portfolio and providing other services. For the six months ended June 30, 2018, approximately 25.5% of the total management fees from all OceanRock managed funds was used to fund these costs. Where total costs exceeded the current period s management fees paid by the Fund, the balance was paid out of the Manager s other resources. The Manager also used the management fees to fund commission payments and other dealer compensation (collectively, distribution-related costs) to registered dealers for units of the Fund bought and held by investors. For the six months ended June 30, 2018, approximately 54.4% of the total management fee revenues received from all OceanRock managed funds was used to fund distribution-related costs paid to registered dealers. This may vary by series depending on the assets invested in each series. Page 8 of 12

9 Past Performance The performance information shown below assumes that all distributions made by the Fund in the periods shown were reinvested in additional units of the Fund. It does not take into account sales, redemption, distribution or other optional charges that would have reduced returns or performance. How the Fund has performed in the past does not necessarily indicate how it will perform in the future. Year-by-Year Returns The following bar chart shows the Fund s annual performance for each of the periods shown and illustrates how the Fund s performance has changed from year to year. The bar chart shows, in percentage terms, how much an investment made on the first day of each financial period would have grown or decreased by the last day of each financial period shown. The differences in performance between series are the result of the timing of cash flows into and out of each series and the different management fees charged to the applicable series. 40% 37.54% 38.99% Series A 30% 20% 10% 0% 14.60% 15.95% 6.95% 8.33% 11.95% 13.22% 19.24% 19.41% 20.97% 18.15% 17.99% 4.19% 3.04% Series F Series O 14.53% 16.10% % 5.27% 6.58% 5.66% -2.97% -2.07% -10% -20% -30% -40% % % Jun-18 Notes: Series A inception date: August 31, Series F inception date: March 11, Series O inception date: January 2, The Fund s Series O units were first offered under a simplified prospectus as of April 15, Page 9 of 12

10 Summary of Investment Portfolio The following tables show a summary of the Fund s holdings as at June 30, The summary of investment portfolio may change due to ongoing portfolio transactions of the Fund. Updates are available quarterly. Top 25 Holdings Security Name Coupon % Maturity % of NAV Investment / Sector Mix Investment Type JPMORGAN CHASE & CO 3.8 Information Technology 30.6 ALPHABET INC CL A 3.4 Financials 14.0 BANK OF AMERICA CORP 3.2 Health Care 13.0 VISA INC 3.2 Consumer Discretionary 11.4 AMERICAN TOWER CORP 2.7 Industrials 10.0 JOHNSON & JOHNSON 2.7 Consumer Staples 9.4 THERMO FISHER SCIENTIFIC INC 2.4 Energy 4.1 DANAHER CORP 2.3 Materials 3.8 MEDTRONIC PLC 2.2 Real Estate 2.7 EOG RESOURCES INC 2.2 Utilities 0.5 UNION PACIFIC CORP 2.2 Cash & Equivalents 0.5 MASTERCARD INC 2.1 Total COGNIZANT TECH SOLUTIONS 2.1 FIDELITY NATIONAL INFORMATION SERVICES 2.0 COMCAST CORP 2.0 SCHLUMBERGER LTD 1.9 ACCENTURE PLC 1.9 HONEYWELL INTERNATIONAL INC 1.8 MONDELEZ INTERNATIONAL INC 1.8 TEXAS INSTRUMENTS INC 1.7 FACEBOOK INC 1.7 GOLDMAN SACHS GROUP INC 1.6 THE SHERWIN-WILLIAMS COMPANY 1.5 NASDAQ OMX GROUP 1.5 UNITED TECHNOLOGIES CORP 1.4 Total 55.3 Note: Rounding to one decimal place may result in the individual figures totaling to more or less than 100%. % of NAV Page 10 of 12

11 Forward-Looking Statements This report may contain forward-looking statements about the Fund, including its strategy, expected performance and condition. Forward-looking statements are not guarantees of future performance, and actual events and results could differ materially from those expressed or implied in any forward-looking statements made by the Fund. Any number of important factors could contribute to these differences, including, but not limited to, general economic, political and market factors in North America and internationally, interest and foreign exchange rates, global equity and capital markets, business competition, technological change, changes in government regulations, unexpected judicial or regulatory proceedings, and catastrophic events. This list of factors is not exhaustive. Consider these and other factors carefully before making any investment decisions and avoid placing any undue reliance on forward-looking statements. Page 11 of 12

12 OceanRock Mutual Funds Suite 1920, 505 Burrard Street Box 85, Vancouver, BC, V7X 1M