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Sprung Investment Management Commentary - 3rd Quarter, 2019

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Economies are the cumulative reflection of the myriad of transactions taking place every day. In order for a transaction to take place, there must be a buyer and a seller. Both parties to the transaction believe that they are receiving adequate compensation, no matter on which side of the trade they reside. In financial markets, buyers and sellers are expressing differing expectations for the object being sold. Markets have continued to rise for a long period of time, indicative of there being more optimism that economic conditions will continue to improve. The question is: Will these expectations continue to be validated or will those positive expectations be overwhelmed by economic and geopolitical factors that have underpinned the rising markets to date? Are we at the dawn of a new era or the dusk of an era that has run its course?

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Sprung Investment Management Commentary - 3rd Quarter, 2019

  1. 1. THIRD QUARTER 2019 RETROSPECTIVE AND PROSPECTIVE A Crepuscular Moment… But is it Dawn or Dusk? 121 Richmond Street West, Suite 1101, Toronto ON M5H 2K1
  2. 2. 121 RichmondStreet West, Suite 1101,TorontoON M5H 2K1|Phone:416.607.6642 | www. SprungInvestment. com | P a g e | 2 Sprung Investment Management our focus is to create investment portfolios for our clients that enable them to achieve their unique, long-term investment goals. In this endeavour, we strive to act with the utmost integrity, utilising all of our analytical skills, knowledge and intuitions. PRIVATE CLIENT FOCUS Sprung Investment Management is an independent discretionary investment management firm that serves the investment needs of high net worth private clients including business owners and entrepreneurs, professionals, family trusts, estates, and private charitable foundations. OUR PEOPLE At Sprung Investment Management, the investment team collectively has over 120 years of diversified investment experience. All of our principals hold the Chartered Financial Analyst designation and as such adhere to the CFA Institute Code of Ethics. Each has made a commitment to continuing education. RISK PERSPECTIVE We understand that our clients have worked hard to get where they are and we appreciate that they don’t want to lose it. As the chosen stewards of their investment assets, our risk management approach is to preserve their capital by purchasing under-valued securities, with a margin of safety that we expect will deliver income and capital appreciation over the long term. PERFORMANCE Sprung Investment Management has a track record of low volatility of returns since company inception in June 2005. This has served our clients well over this relatively difficult investment period that includes the bear market of 2007- 2008. Our performance numbers are available by request. CLIENT SERVICE At Sprung Investment Management, satisfying our client’s financial needs is our top priority. Each and every client is special and receives individual attention and customized investment advice based on his/her specific objectives and risk tolerance. Our principals are always available to speak directly to clients. INVESTMENT STYLE In building equity portfolios, individual security selection is based on “bottom up” research that is value- driven and often contrarian to current popular thinking. We assess quality and continuity of return on equity, current price relative to intrinsic value, economic value added and quality of management. Although our typical investment horizon is two to five years, we constantly evaluate our current holdings against new opportunities that may offer better value. Our view is that a strong sell discipline is a critical component to long-term investment success. Our investment approach on the fixed income side is to conduct rigorous credit analysis in the context of future economic and interest rate expectations.
  3. 3. 121 RichmondStreet West, Suite 1101,TorontoON M5H 2K1|Phone:416.607.6642 | www. SprungInvestment. com | P a g e | 3 THIRD QUARTER 2019 RETROSPECTIVE AND PROSPECTIVE A Crepuscular Moment… But is it Dawn or Dusk? “Bull markets do not die of old age; they die of excesses…”- Leon Cooperman Economies are the cumulative reflection of the myriad of transactions taking place every day. In order for a transaction to take place, there must be a buyer and a seller. Both parties to the transaction believe that they are receiving adequate compensation, no matter on which side of the trade they reside. In financial markets, buyers and sellers are expressing differing expectations for the object being sold. Markets have continued to rise for a long period of time, indicative of there being more optimism that economic conditions will continue to improve. The question is: Will these expectations continue to be validated or will those positive expectations be overwhelmed by economic and geopolitical factors that have underpinned the rising markets to date? Are we at the dawn of a new era or the dusk of an era that has run its course? In Canada, the S&P/TSX Total Return Index advanced 2.5% in the third quarter of 2019, bringing the year to date to 19.1%. The US market advanced 1.7% in the quarter as measured by the US dollar denominated S&P 500 Total Return Index. The S&P 400 MidCap Total Return Index lagged the 500 with a -0.1% return in this quarter. Markets represented by the MSCI EAFE Price Return index posted a negative 1.7% return as measured in US dollars or a -0.6% return in Canadian dollars. The Canadian dollar depreciated 1.1% to its US counterpart in Q3. Canadian Dollar US Dollar Q1 Q2 Q3 Q4 YTD Q1 Q2 Q3 Q4 YTD Toronto Stock Exchange 13.3% 2.6% 2.5 % % 19.1% S&P 500 11.2% 1.1 % 2.9% % 17.0% 13.6% 4.3% 1.7 % % 20.6% MSCI EAFE* 6.7% 0.5% -0.6 % % 6.6% 9.0% 2.5% -1.7% % 9.9% 91 Day T-Bill 0.4% 0.4% 0.4 % % 1.2% CUBI** 3.9% 2.5 % 1.2% % 7.8% CDN/US dollar 2.1% 2.2% -1.1% % 3.0% * Europe, Asia and Far East Index ** Canadian Universe Bond Index A crepuscular event occurs twice a day. It refers to those moments in time between night and day: dawn
  4. 4. 121 RichmondStreet West, Suite 1101,TorontoON M5H 2K1|Phone:416.607.6642 | www. SprungInvestment. com | P a g e | 4 and dusk. It has been a decade since the great financial crisis. In that decade, stock markets have generally trended up as the global economies struggled to regain footing. In this slow, tepid recovery, central banks played a crucial role injecting liquidity into the markets through outright purchases of financial instruments and driving interest rates to unprecedented lows. In any recovery, excesses tend to accumulate in the shadow of the progress being accomplished only to become all too evident when the end of the cycle approaches. Investors today should pause to consider: Are we at the dawn of a new era wherein the means to propel markets to higher levels will prevail, or, are we closer to the dusk of this business cycle? Economies and markets are driven by productivity, the short-term debt/business cycle, the long-term debt cycle and the politics within and between countries. Regulators attempt to promote economic growth utilizing fiscal and monetary mechanisms as the economy swings through expansions and contractions. At this juncture, it would appear that we are nearer a period of contraction rather than expansion. Global economic growth has been anaemic in the expansion since the financial crisis of 2008. US real per capita GDP has advanced at a rate of 1.5% during this period; the slowest rate of expansion over a decade since the 1950’s. The Us economy has done better since Mr. Trump took office, but the latest estimates are for slower growth going forward. The OECD is forecasting slower global growth in GDP over the next few years. This outlook is consistent with global trends in manufacturing, transportation and warehousing; all of which have been impacted by trade disputes. Central banks have been able to promote investment and spending by keeping interest rates low. Low rates have promoted massive debt accumulation over the past decade. The ability to promote growth through low rates has diminished as the growth in incomes and output are not keeping pace with the growth in debt servicing. Over US$17 trillion dollars of debt are now at negative interest rates, exacerbating negative real returns. Investors are no longer earning returns commensurate with risk which is most evident where yield curves are inverted. The lack of yield in the fixed income markets has pushed investors to take on more risk. In the US, investors are heavily skewed towards equities. Margin debt relative to GDP is higher than it was before the last two market corrections. US equities are generally trading at a premium to the rest of the world as their economic fundamentals have been stronger. The excesses of the last decade have highlighted the growing disparity between rich and poor resulting in conflict between capitalist adherents and socialist proponents. Geopolitical tensions are being strained as China’s economy challenges the US for supremacy. Volatility in the global markets, particularly the bond markets, in the third quarter of 2019 would suggest that investors are losing confidence in the markets’ ability to maintain a positive direction. When and by
  5. 5. 121 RichmondStreet West, Suite 1101,TorontoON M5H 2K1|Phone:416.607.6642 | www. SprungInvestment. com | P a g e | 5 what degree the markets may correct is anyone’s guess. In this environment, we remain cautious.
  6. 6. 121 RichmondStreet West, Suite 1101,TorontoON M5H 2K1|Phone:416.607.6642 | www. SprungInvestment. com | P a g e | 6 THIRD QUARTER 2019 FIXED INCOME COMMENTARY “The phoenix must burn to emerge” ~ Janet Fitch It was not totally unexpected. The Federal Reserve (Fed) in the US cut its trend setting Fed Funds Rate, not once, but twice during the quarter. While there were dissenting voices by some members of the Fed, the majority felt that there was sufficient risk of slowing employment growth and consumer spending that the rate reductions were warranted, at least as a precaution. As much as changes in interest rate policy are supposed to be forward looking, it is disconcerting that with the economy reasonably robust that the Fed had decided to cut twice in three months. The question is: “What will their strategy be if there is actually a recession, mild or otherwise?” Given that there is not that much more room to cut rates, will they be forced to resort to another round of Quantitative Easing wherein they actively purchase securities to provide adequate liquidity in the financial markets? The Bank of Canada does not appear to share the Fed’s concerns as our interest rate policy has not changed since 2018. While the Bank has expressed concerns about trade tensions in the world, domestic employment has continued to be sufficiently robust which has to date allowed the Bank to remain on the sidelines. However, further interest rate cuts south of the border would exert pressure on the Bank as our dollar would likely increase in value making our exports less competitive on the world market. In the UK, Boris Johnson, despite his bravado about exiting the European Community with or without an agreement on October 31, is in a difficult position. Most of his initiatives have been thwarted. He was forced to reconvene parliament after attempting to dissolve it. There are major divisions not just amongst the political parties, but within them. The initial question as to leave or remain in the European Union has splintered public opinion, created multiple factions within parties and within the constituent entities of the the UK. At this stage, the European Union is limited in its desire to negotiate with the UK. The members of the European Union do not wish to embolden the factions that are promoting the “leave” side. The governing body of the European Union is intent to present a united front in order to maintain its own unity and strengthen its negotiating position. The total return performance of the bond market as measured by the FTSE TMX Canada Universe Bond Index for the third quarter was an increase of 1.2%. 91-day Treasury bills returned 0.4% over the same period. The benchmark ten-year Government of Canada bond yield declined by 0.11% over the course of the third quarter to end the period with a 1.35% yield. Over the same period the Canadian dollar depreciated by 0.9 cents from 76.4 cents US to 75.5 cents US.
  7. 7. 121 RichmondStreet West, Suite 1101,TorontoON M5H 2K1|Phone:416.607.6642 | www. SprungInvestment. com | P a g e | 7 Our Team Michael Sprung, CFA: Chief Investment Officer msprung@sprunginvestment.com • Chief Investment Officer • More than 30 years experience in Canadian Investment industry, overseeing portfolios up to $2.5B • Senior level positions with YMG Capital Management, Goodman & Company, Ontario Teachers’ Pension Fund, Ontario Hydro and Cassels Blaikie & Co. • Frequent contributor to BNN-TV,Globe & Mail, National Post and Money Sense Fred Palik, CFA: Vice President, Fixed Income fpalik@sprunginvestment.com • Extensive experience in fixed income management in a variety of senior positions, primarily in the insurance and hospital sectors. • Member of the Toronto CFA Society and the CFA Institute. Lois O’Sullivan, CFA: Vice President loiso@sprunginvestment.com More that 25 years experience in investment management. • Co-founder of Sprucegrove Investment Management, specializing in international markets. • Senior level roles at Confed Investment Counselling and Confederation Life Insurance Company. • Fellow of the Life Office Management Institute (FLMI), the Toronto CFA Society and the CFA Institute. Joie P. Watts, CFA, FSCI: Vice President & Portfolio Manager jpwatts@sprunginvestment.com • Over 30 years of progressive experience in the securities and investment industry. • Senior level roles at Burns Fry Limited, Merrill Lynch Canada and Nesbitt Thomson. • Managing Director of Instinet Canada Limited for over 10 years • CEO of Shorcan ATS Limited, a specialized marketplace for equity dealers trading as principal. Robert D. Champion, MSEd: Vice President, Client Services rchampion@sprunginvestment.com • Joined Sprung Investments Management in 2012 after severalyears with SuccessfulInvestor Wealth Management. • Prior to that, he had a fifteen-year career in OEM industrial sales. • Manager with investment-publishing division of MPL Communications in the 1980s and early 1990s. MPL publish Investor’s Digest and Investment Reporter. Stay connected withSprung InvestmentManagement: Twitter @SprungInvest Linkedin http://www.linkedin.com/company/1699967 See Michael on BNN Bloomberg’s Market Call http://www.sprunginvestment.com/videos/

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