January 2023 | Caldwell U.S. Dividend Advantage Fund Commentary

January Recap:

For the month of January, the Caldwell U.S. Dividend Advantage Fund (“UDA” or “Fund”) declined -2.2% versus a gain of +4.7% for the S&P500 Total Return Index (“Index”)¹. At the sector level, top performers were Consumer Discretionary, Communication Services, and Real Estate, whereas Utilities, Healthcare, and Consumer Staples were relative underperformers. The market rallied in January following the dismal performance posted by equities last year. The Nasdaq Composite Index, which is typically dominated by high-growth and valuation-rich stocks, delivered its best January performance since 2001. This was a result of a sudden and aggressive shift towards a risk-on sentiment in the market, which was quite contrary to the risk averseness that investors had exhibited last year. This abrupt change in sentiment can be attributed to heightened hopes that inflationary pressures are abating, as the Consumer Price Index (“CPI”) data published in January demonstrated that inflation declined for the sixth consecutive month in December. Subsequently, investors perceived the Federal Reserve to be adopting a less hawkish stance, leading to increased expectations of smaller rate increases later this year. This, combined with better-than-feared corporate earnings results, fueled the perceived probability of the U.S. economy avoiding a classic recession and instead experiencing the less destructive soft-landing scenario, which would consist of a gradual slide in economic conditions without a severe spike in unemployment or a catastrophic decline in consumer spending. As a result, the fundamentally weaker areas of the market that posted some of the worst declines last year, as a consequence of lacking quality earnings to weather a possible recessionary environment, experienced a sharp turnaround in their stock prices. This allowed them to recover some of the sizable losses that they had generated last year. As the Fund was positioned to generate attractive risk-adjusted returns, while also ensuring the protection of capital amidst the backdrop of weakening economic conditions, its participation in January’s market rally, fueled by the abrupt change in sentiment, was somewhat muted.

Top performers in January were LKQ Corporation (“LKQ”, +8.7%), Texas Instruments (“TXN”, +6.4%), and Quanta Services (“PWR”, +5.2%). LKQ’s stock price appreciated as inflation and monetary tightening were perceived to be easing since the auto parts industry is interest rate sensitive, as most vehicle purchases are financed or leased. TXN re-rated higher as its Automotive segment continued to show resilience, in addition to being favoured by investors as the market’s risk tolerance increased during the month. PWR’s performance was a continuation of its momentum as the company’s revenues and backlog continue to grow. It is well positioned to capitalize on some major secular trends such as the expansion of the electric vehicle charging network, grid modernization and infrastructure hardening, and the undergrounding of electrical infrastructure.

During the month of January, the Fund initiated positions in Lithia Motors (“LAD”), Allied Motion Technologies (“AMOT”), Amphenol (“APH”), Mastercard (“MA”), Matador Resources (“MTDR”), Monolithic Power Systems (“MPWR”), and Ross Stores (“ROST”). LAD is an automotive dealership operator with over 270 stores. A recently launched e-commerce platform should help the company take market share from weaker competitors while increasing the adoption of higher-margin finance and insurance revenue. The latter can help offset the normalization in gross profit on vehicle sales following two years of elevated used car prices. AMOT is a supplier of specialty motion electrical components to the industrial, automotive, medical, aerospace, and defence end markets. The company has strong moats given high switching costs once its solutions are designed into a product. Diverse exposure to high-growth end markets provides a durable growth profile. In the near to medium term, the integration of six recent acquisitions should drive accelerated growth while helping the company continue its margin-accretive shift from a component to a total solutions provider. APH specializes in the design, manufacture, and marketing of connectors, interconnect systems, antennas, sensors, and high-speed cables. It is one of the largest providers of these solutions with its products serving virtually every end market worldwide. The company has been seeing strength in its automotive segment and should experience continued growth in its military and commercial aero segments. MA facilitates the processing of electronic payment transactions, including authorization, clearing, and settlement as one of the largest payment networks in the world. The company is poised to benefit from resilient consumer spending, continued international travel recovery, as well as the reopening of China. MTDR is engaged in the exploration, development, production, and acquisition of oil and natural gas resources in the U.S. It focuses on oil and natural gas shale and other unconventional energy projects. The company has differentiated assets, strong production growth, and management with significant inside ownership and a history of execution. The company’s robust balance sheet should allow continued free cash flow generation for dividend growth and opportunistic bolt-on acquisitions. MPWR is a designer of semiconductors that make power systems more efficient. Its solutions are used to convert and control the voltages of various electronic systems. The company serves diverse, high-growth end markets, and is expected to benefit from higher content in areas such as data centers, the internet of things, and automotive over time, which support continued market outgrowth and share gains over time. The company also expects to nearly double capacity over the next two years. Strong growth and better operating leverage from reaching scale should also support gradual margin expansion over time. ROST is a leading U.S. off-price retailer selling apparel, footwear, jewelry, sporting equipment, and home goods, typically at prices 20-60% below full-price retailers. In a weaker economic environment, it is likely to benefit from trade-down activity as value-conscious consumers seek to make their dollar stretch further. Manufacturers and retailers with excess inventory provide attractive buying opportunities for the company to pick up in-demand goods at attractive margins. This, combined with falling logistics costs, should flip some of the margin headwinds from the last two years to tailwinds in the near term.

While we remain mindful of the macro environment, the Fund employs a bottom-up investment approach designed to seek out attractive investment opportunities in any market. Over the long run, given its unique momentum-driven investment approach and focus on well-managed, dividend growth companies, we believe UDA is well-positioned to provide strong performance by way of both attractive regular monthly distributions and long-term capital appreciation potential. We expect that our approach to dividend growth investing should continue to provide a means of generating compelling risk-adjusted returns for our investors over the long term.

¹All returns (for the fund, individual stocks and sectors) are in total return, Canadian dollar terms. All stock returns represent performance for the full period noted. All fund returns are in respect of Series F.

Standard performance as at January 31, 2023:
Caldwell U.S. Dividend Advantage Fund (Series F): 1 Year: 1.7%, 3 year: 6.5%, 5 year: 7.5%, Since Inception (June 19, 2015): 8.2%.
S&P 500 Total Return Index: 1 Year: -3.7%, 3 year: 10.2%, 5 year: 11.4%, Since Inception (June 19, 2015): 12.3%.
²Actual investments, first purchased: LKQ 7/21/2022, TXN 6/30/2020, PWR 3/9/2022.

All data is as of January 31, 2023 sourced from Morningstar Direct or S&P Capital IQ, unless otherwise indicated. Fund returns are from FundData. UDA, Index total return numbers, sector returns and individual stocks returns are in CAD terms. The Fund was first offered to the public as a closed-end investment since May 28, 2015. Effective November 15, 2018 the Fund was converted into an open-end mutual fund such that all units held were redesignated as Series F units. Performance prior to the conversion date would have differed had the Fund been subject to the same investment restrictions and practices of the current open-end mutual fund.

The information contained herein provides general information about the Fund at a point in time. Investors are strongly encouraged to consult with a financial advisor and review the Simplified Prospectus and Fund Facts documents carefully prior to making investment decisions about the Fund. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Rates of returns, unless otherwise indicated, are the historical annual compounded returns including changes in unit value and reinvestment of all distributions and do not take into account sales, redemption, distribution or optional charges or income taxes payable by any unitholder that would have reduced returns. Mutual funds are not guaranteed; their values change frequently and past performance may not be repeated. The payment of distributions should not be confused with a fund’s performance, rate of return or yield. If distributions paid are greater than the performance of the fund, your original investment will shrink. Distributions paid as a result of capital gains realized by a fund, and income and dividends earned by a fund, are taxable in your hands in the year they are paid. Your adjusted cost base (“ACB”) will be reduced by the amount of any returns of capital and should your ACB fall below zero, you will have to pay capital gains tax on the amount below zero.

Publication date: February 21, 2023.