Our house style

2011 and 2012 Lipper Best Equity Funds Group*

Sentry Investments has been recognized as Canada’s Best Equity Funds Group for two consecutive years. We achieved this distinguished honour as a result of the unique investment approach that stands behind our award-winning mutual fund line-up.

Our house style is simple: throw the index out and find the best securities available. It doesn’t matter whether we’re managing fixed-income, equity or sector funds. We’re driven by the internal growth of a business, the soundness of its balance sheet and the cash flow it delivers. We’re not interested in change in value due to short-term market movements or commodity prices; however, we may ‘rent’ that growth periodically. We focus on companies with rising return on capital employed. Our key valuation metric is free cash flow yield and comparing that yield to a risk-free rate. We were doing this long before it became fashionable. We are doing it because it works. We insist on liquidity and want to ensure that our end clients get a fair return on their capital; this includes dividends/distributions/interest.

Superior performance with lower volatility

If you manage to a benchmark, we believe you begin to mimic the benchmark. Ultimately you will deliver less-than-benchmark returns together with market-like volatility. In the technical jargon of the investment management industry, the manager is providing negative ‘alpha’ (returns) while exposing the portfolio to market ‘beta’ (volatility). Index-hugging mutual funds are being replaced in part by exchange-traded funds (ETFs) that replicate indices at a much lower cost.

The graphic to the left is meant to illustrate where Sentry mutual funds are positioned. We do not try to replicate index-like strategies. We offer unique investment portfolios that provide excess returns – ‘alpha’ – that complement core strategies.

We can’t remove ourselves from market volatility, but we can buy company-specific downside protection and structure our portfolios so that our low watermark is higher than that of the benchmark and our competitors. This enables us to deliver sequentially higher low watermarks (returns) to our clients; a key measure we are trying to achieve.

Alpha is achieved by having a rational view of where you are in market and economic cycles, identifying companies that generate real returns – company-based returns – and not confusing earnings volatility with real growth in earnings. Too many investors confuse market volatility with return. They believe they’re able to trade this volatility successfully and generate alpha. We find no evidence in any investment statistics that show this actually occurs.

Starts with a focus on the balance sheet

We believe the best opportunities for long-term investors are in companies that have the capability of anomalous growth – they can grow at a faster pace than the growth of the economy. Our investment style starts with an evaluation of the capital structure of the businesses in which we invest, and we constantly monitor it for changes.

The first thing we look at is the balance sheet – the heart of the company. If the heart is strong, the company will survive through multiple business cycles. When you experience serious capital loss, it is invariably because the market is responding to a liquidity event within a company. We reduce our risk through diversification; however, too much diversification is in itself flawed. We want companies that can define their own future, and not rely on financing from new investors.

We make sure the balance sheet is sound and the company generates free cash flow. We look for companies that are strong allocators of capital, where the return on capital grows with the money that is retained in the business. If return on capital falls, management should be forced to make a distribution or repurchase securities, with preservation of capital as the ultimate goal.

Compensated for putting investors’ capital to work

Our primary source of return is simple: economic rent. We are providers of capital and we don’t provide it for free. We want to be compensated for putting investors’ capital to work. We don’t want to rely on market transactions. We want a coupon payment, dividend or higher return on equity. We’re looking at intrinsic growth rates. The correlation between nominal GDP growth, earnings growth on equities and stock market growth is linear over multiple cycles. We need to know where we are in cycles and what a rational growth expectation is. This includes asset-mix cycles. Money can flow from one asset class to another and we need to be very sensitive to changes in trend.

Managing ‘controllable risks’ leads to outperformance

Our definition of market risk is when the market turns negative, liquidity dries up and the quality of the stocks you own doesn’t matter; all stocks are going down. We need to own securities that can withstand a liquidity event, and survive and thrive when the panic is over. There are risks we can control, and there are risks that are uncontrollable and unpredictable. We focus on managing the controllable risks, which frequently leads to outperformance when the uncontrollable happens. We analyze for, and avoid, companies that are poor users of capital, are at risk of a dividend cut or dividend elimination, or experience low return on capital employed.

Most controllable risks are company related. We start with the balance sheet; corporate liquidity and solvency protects capital. We then look at rational internal growth rates. We’re looking for capital efficiency and analyze management’s record in capital allocation. Then we ‘risk’ the business: we stress test operations for cyclical volatility.

The most controllable risk in the market is the market itself: do not fight the tape. Respect the trend and allow your capital to go with the trend. Markets are mean reverting over time, so we use mechanical ‘over bought/over sold’ signals for swing trading and try to harvest volatility. We focus on cross asset class valuations to identify if specific markets are misvalued and take advantage of price opportunities. We don’t care whether we’re invested up the capital structure (bonds) or down the capital structure (equities). We seek the best return at the fairest price.

Sentry’s house style: providing better risk-adjusted returns

Providing better risk-adjusted returns is the goal of our common investment process. At Sentry, money management is not a relative performance game; it is delivering strong absolute returns to clients who have real-world needs. Providing investors with capital protection and tax-efficient streams of income has been part of Sentry’s DNA since our inception in the mid-1990s.

Most importantly, our portfolio managers have the freedom to manage portfolios free of traditional benchmark and liquidity constraints. The results: superior performance with lower volatility, punctuated by the distinguished honour of winning back-to-back Lipper Best Equity Funds Group Awards.

* The 2012 Lipper Awards were awarded based on the best risk-adjusted performance over the three-year period ended October 31, 2011. The 2011 Lipper Awards were awarded based on the best risk-adjusted performance over the three-year period ended October 31, 2010. Lipper Inc. is a Thomson Reuters company.

Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing.

Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.