Small-Cap Equity Fund

March 31, 2020

Market Context

  • The Canadian small-cap market (S&P/TSX SmallCap Index) declined 38.1% in the first quarter. U.S. small-caps (Russell 2000 Index) fell 24.2% in Canadian dollar terms.
  • Energy stocks had their worst quarter on record as the price of oil fell by two-thirds.

Portfolio Specifics

  • The fund consists of 25 companies, ranging from very small (Waterloo Brewing) to medium-sized businesses (Finning). While the majority of holdings are Canadian, there are four U.S. stocks which make up 17% of the portfolio.
  • The fund had a difficult quarter as small-cap stocks were hit particularly hard by the swift virus-led selloff. These stocks are less liquid than their larger counterparts, meaning there are fewer buyers and sellers and wider bid-ask spreads.
  • A few holdings saw significant declines. Ag Growth International, Spin Master, Fluor, Interfor and Sleep Country Canada fell more than 50%. While these companies faced some supply side issues and other problems in the quarter, all of them will still have a relevant business model in the post-virus economy. They are trading at deeply discounted prices and have strong upside potential. Additional shares were purchased in each stock.
  • Energy companies had a devastating quarter, as the price of oil fell to a multi-decade low as a result of the global slowdown and a surge in supply brought on by Saudi Arabia and Russia. The fund has much less exposure to oil than the market in general and has a focus on tertiary services (Pason Systems, Parkland Fuel), which tend to be less volatile than producers. Nonetheless, its holdings did not avoid the downturn.
  • A prolonged economic shutdown will hurt some industries more than others in the short term (e.g. airlines, hotels, restaurants), yet even certain companies that are well positioned in this environment saw price declines. Examples include Winpak (makes packaging materials for perishable foods and health care applications), Park Lawn (funeral and cemetery services), and Intertape Polymer (makes tapes, adhesives and packaging products used for shipping goods). At today’s lower stock prices, these businesses look even more attractive.
  • Stocks that held up well in the turmoil included Northland Power (renewable power), Maple Leaf Foods (consumer packaged meats), and Cargojet (overnight air cargo). These are all mid-cap stocks which offer products/services that are still seeing good demand. Stantec (engineering services) also held its value.
  • The fund currently has a cash position of 8%.

Positioning

  • The portfolio has a unique composition, with key areas of investment being capital goods, transportation, food & beverage, and engineering services. This is in contrast to the small-cap market’s heavy focus on resource companies.

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