DBLV: August 2019 Portfolio Manager Review

Performance data quoted represents past performance and is no guarantee of future results. Current performance may be lower or higher than the performance data quoted. Investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than original cost. Returns less than one year are not annualized. For the fund’s most recent standardized and month-end performance, please click www.advisorshares.com/etfs/dblv.

Performance Review

The AdvisorShares DoubleLine Value Equity ETF (DBLV) posted a return of 0.15% in August 2019, beating its benchmark, the Russell 1000 Value Index, by 309 basis points.

Market volatility remained elevated for most of August, reflecting ongoing U.S.-China trade tension and investor fears of a global economic slowdown or recession. During the month, China imposed new tariffs on $75 billion of U.S. products after the U.S. levied tariffs on additional Chinese goods in July. In response, President Trump threatened to force U.S. companies to cut ties with China and to increase the tariff rate on Chinese products.

Meanwhile, the macro-economic backdrop has apparently worsened. Europe’s and Japan’s economies have slowed significantly. Italy is in a recession, while Germany appears to be on the edge of one. In the U.S., manufacturing data has weakened recently, and corporate earnings are expected to decline in Q3 2019, suggesting that the U.S. economy may be slowing as well. In an attempt to spur economic growth, central banks at the major developed countries have deployed substantial accommodative monetary stimulus, which has resulted in a proliferation of negative yielding bonds. The amount of negative yielding debt has risen to $16.4 trillion, or about 30% of all developed country debt, according to Bianco Research, LLC. About 87% of the negative rate debt is either in the Eurozone or in Japan. Negative rates have occurred very rarely in history, so it is unclear whether it has a beneficial impact on the economy. To date, even as rates continue to fall further into negative territory growth has not accelerated. As we see it, sustained negative bond yield likely will impair the existing banking system, leading to adverse unintended consequences. While rates on U.S. Treasuries remain positive, yields on the 10-year declined considerably during the month, causing the 10-year yield versus the 3 month T-bill rate to invert even more.

This environment has been more challenging for cyclical stocks, along with interest rate sensitive financials. With a higher exposure to these industries, the Russell 1000 Value index underperformed its growth counterpart during the month. In August, the S&P 500 returned -1.61%, versus the Russell 1000 Value Index at -2.94%, and the Russell 1000 Growth Index at -0.77%.

In terms of the portfolio’s sector attribution, monthly performance for DBLV was helped by exposures in communication services, consumer discretionary, industrials, information technology, real estate, and utilities, offset by negative contributions from consumer staples, energy, and financials. The health care sector was about flat during the month. On a relative basis, DBLV was helped by communication services, consumer discretionary, financials, health care, industrials, information technology, materials, real estate, and utilities, offset by adverse results within consumer staples and energy. Cash had a positive impact on performance in a declining market.


Source: Bloomberg. As of 08.31.2019.          

Portfolio

The top positive contributors to performance in August were Dollar General (DG), Target (TGT), and U.S. Foods Holding (USFD):

  • DG (consumer discretionary) is the largest operator of small-format, discount stores in the U.S. DG printed Q2 results that exceeded consensus expectations on all fronts, showcasing strong comps, gross margin expansion, and operating expense discipline, all the while expanding store counts and investing meaningfully in future growth drivers. DG’s operational performance in the first half of 2019 was sufficiently strong for management to raise guidance for the fiscal year despite having to incorporate incremental headwinds for multiple tariff actions announced since initial guidance was provided. With the stock rising considerably on the earnings release, we took the opportunity to trim our exposure in the name. We continue to maintain a position in DG because we value its best-in-class execution, exposure to the US consumer, and resilient business model.
  • TGT (consumer discretionary) is one of the largest brick-and-mortar, general merchandise retailers in the U.S. The stock has been somewhat controversial, with investors being divided on both the sustainability of comps and the ability of ecommerce margin trends to improve. The Q2 results released on August 21st provided strong evidence in favor of the TGT bulls: both comps and margins exceeded consensus expectations, with the ecommerce margin headwind being halved year-over-year. It is becoming evident that Target is one of the few legacy retailers that can thrive in a retail world where malls are decreasingly relevant, private label is playing a larger role and compelling digital capabilities are a must. Subsequent to the Q2 earnings release, TGT rose in excess of 25% and we reduced our position size on the outperformance.
  • USFD (consumer staples) is the nation’s second largest distributor of food products to restaurants, healthcare, and government facilities. For the past year, it has been pursuing FTC approval for the acquisition of SGA, a smaller, regional food distributor. The uncertain timing of the SGA acquisition has been a meaningful overhang on the stock. On August 6th, USFD released quarterly financial results that beat expectations and management expressed confidence that the SGA transaction would garner FTC approval and close by the end of September. With the overhang removed and operations continuing to trend in the right direction, USFD’s stock reacted favorably and provided us with an opportunity to trim our already sizable position in the name.

The top detractors from monthly performance were Philip Morris International (PM), Anthem (ANTM), and Cigna Corp (CI):

  • PM (consumer staples) is the largest supplier of tobacco products to markets other than the U.S. and China. The stock declined on news of discussions with Altria regarding a potential merger of equals, which rightly disappointed shareholders. Spun off from Altria in 2008, PM has had the benefit of isolating its international cigarette business from the legal overhang in the U.S. More than a decade later, although the US cigarette legal liabilities that remained with Altria have been all but settled, other significant risks to the US business have emerged, including a more challenging US regulatory environment, worsening volume trends, and potential legal risks regarding Altria’s relationship with Juul, the e-cigarette company that has become a major legal target in recent years. These are the risks that PM will incur in a merger with Altria. Though we view the potential merger unfavorably overall, the market has already priced much of the negative risks into PM’s stock, despite no guarantees of a deal being struck. We continue to hold PM as we wait for clarity on this potential merger.
  • ANTM (health care) is a leading managed care organization and a licensee of the Blue brand in 14 states. During the month, the stock reversed the outperformance from the prior month, due to increasing concerns related to lower interest rates negatively impacting investment income, potentially higher medical cost trends, and a Democratic Presidential candidate field focused on increasing the government’s role in healthcare delivery all weighed on investor sentiment. We continue to take a longer term view on the stock and see ANTM as best positioned in the space to gain market share and grow earnings with its cost advantage and Blue brand, while recognizing the potential for further stock volatility due to the aforementioned items.
  • CI (health care) is an integrated managed care provider and pharmacy benefits manager (PBM). The stock underperformed during the month, despite reporting better-than-expected Q2 earnings and raising its outlook for 2019, due to factors that weighed on all managed care stocks (e.g. ANTM) as described above. CI is one of the cheapest healthcare stocks in the market, at approximately 8x P/E, reflecting the negative sentiment surrounding the PBM business, which could see increased government regulation leading to lower profit margins over time. We continue to believe the PBM is the most efficient and scaled vehicle to drive lower drug prices, a focus for both Republicans and Democrats. As CI continues to prove out its integrated model and demonstrates sustained profitability of the PBM, we expect the stock to significantly re-rate higher to peer valuation levels.

During August, we received cash and Occidental Petroleum (OXY) shares in exchange for our shares in Anadarko Petroleum (APC), as OXY closed on its acquisition of APC. We increased our existing weights in Alcon (ALC), American Electric Power (AEP), Boeing (BA), EOG Resources (EOG), Philip Morris International (PM), Pioneer Natural Resources (PXD), The TJX Companies (TJX), United Technologies (UTX), Verizon Communications (VZ), and Xcel Energy (XEL). We reduced our positions in Astrazeneca (AZN), Comcast (CMCSA), Dollar General (DG), Northrop Grumman (NOC), Target (TGT), and U.S. Foods Holding (USFD).

Top Holdings

The top ten portfolio holdings, by weight and active weight, can be seen in the following tables:


As of 08.31.2019. Cash is not included.

Active weight refers to the difference in allocation of an individual security or portfolio segment between a portfolio and its benchmark. For example, if a portfolio allocates 15% within the energy sector, and the benchmark’s allocation in energy is 10%, then the active weight of the energy segment of the portfolio is +5%. Active weight can also be referred to as relative weight.

Sector

Relative to the Russell 1000 Value Index, DBLV is overweight consumer discretionary, energy, health care, industrials, and information technology. It is underweight consumer staples, financials, materials, real estate, and utilities. It is about equal weight communication services. The portfolio holdings by absolute and relative sector weights are found in the accompanying charts:


As of 08.31.2019

The DBLV portfolio’s sector exposures primarily reflect the DoubleLine Equities team’s bottom-up investment process, which places an emphasis on individual stock selection. However, the macroeconomic views of DoubleLine Capital L.P. do inform secondarily these sector weightings.

While constructive on the long-term outlook for the U.S. equity market, we remain cautious in the near-term, because of growing uncertainties related to the ongoing trade dispute with China, wider threats to global free trade, other adverse geopolitical developments, slowing global growth, rising U.S. debt balances, chronic deficit spending, and the economy’s continued dependence on Fed support and corporate leveraging. We have been concerned about how this ominous backdrop will impact the sustainability of high corporate profit margins, the pace of earnings growth and the prospect of downward pressure on valuation multiples. All of these constitute substantial near-term headwinds. Furthermore, we are increasingly concerned that the proliferation of negative rates in the developed economies may be an early indication that monetary tools are reaching their limits in terms of effectiveness.

In the present environment, we continue to believe that lower-multiple value stocks should post better relative performance after having lagged growth stocks for nearly a decade. At month’s end, the price-to-earnings multiple on 2019 consensus estimates for DBLV was 16.7x, the Russell 1000 Value Index 14.5x, and the S&P 500 17.9x. In light of this, we still regard the presence of elevated risks as supportive of the value-based strategy behind DBLV—particularly over a long-term investment horizon.

Outlook

While we are constructive on the long-term outlook for the U.S. equity market, we remain cautious in the near-term, because of growing uncertainties related to the ongoing trade dispute with China, wider threats to global free trade other adverse geopolitical developments that can impede global growth, rising U.S. debt balances driven by chronic deficit spending, and the economy’s continued dependence on support from the Fed and corporate leveraging. We have been concerned about how this ominous backdrop will impact the sustainability of high corporate profit margins, the pace of slower earnings growth and the prospect of downward pressure on valuation multiples. All of these constitute substantial near-term headwinds, and yet the major US equity indices remain close to record highs. 

In the present environment, we continue to believe that lower-multiple value stocks should post better relative performance after having lagged growth stocks for nearly a decade.At month’s end, the price-to-earnings multiple on 2019 consensus estimates for DBLV was 16.7x, the Russell 1000 Value Index 14.9x, and the S&P 500 18.2x. In light of this, we still regard the presence of elevated risks as supportive of the value-based strategy behind DBLV—particularly over a long-term investment horizon.

We thank you for your continued interest in DBLV.

Sincerely,

Emidio Checcone
DoubleLine Capital
AdvisorShares DoubleLine Value Equity ETF (DBLV) Co-Portfolio Manager

Brian Ear
DoubleLine Capital
AdvisorShares DoubleLine Value Equity ETF (DBLV) Co-Portfolio Manager

 

Past Manager Commentary

 

Before investing you should carefully consider the Fund’s investment objectives, risks, charges and expenses. This and other information is in the prospectus, a copy of which may be obtained by visiting www.advisorshares.com. Please read the prospectus carefully before you invest. Foreside Fund Services, LLC, distributor.

There is no guarantee that the Fund will achieve its investment objective. An investment in the Fund is subject to risk, including the possible loss of principal amount invested. Investing in mid and small capitalization companies may be riskier and more volatile than large cap companies. Because it intends to invest in value stocks, the Fund could suffer losses or produce poor results relative to other funds, even in a rising market, if the Sub-Advisor’s assessment of a company’s value or prospects for exceeding earnings expectations or market conditions is incorrect. Other Fund risks include market risk, equity risk, large cap risk, liquidity risk and trading risk. Please see prospectus for details regarding risk.

Shares are bought and sold at market price (closing price) not NAV and are not individually redeemed from the Fund. Market price returns are based on the midpoint of the bid/ask spread at 4:00 pm Eastern Time (when NAV is normally determined), and do not represent the return you would receive if you traded at other times.

Holdings and allocations are subject to risks and to change.

The views in this commentary are those of the portfolio manager and may not reflect his views on the date this material is distributed or anytime thereafter. These views are intended to assist shareholders in understanding their investments and do not constitute investment advice.