Welcome to the August 2023 Investment Update for the Switzer Dividend Growth Fund (SWTZ or the Fund).

Performance Summary

The portfolio delivered a return of -0.46% in August 2023 compared with the S&P/ASX 200 Accumulation Index benchmark return of -0.73%.

Over the past 12 months, SWTZ has paid a distribution yield of 3.74% or 4.46% including franking credits. Distribution yield is calculated as the distributions received over the 12 months to 31 August 2023 relative to the price at the beginning of the period.

Given its focus on income and capital preservation, over the long term we expect SWTZ to marginally underperform in rising markets and marginally outperform in falling markets.

Portfolio Commentary

The fall in the ASX 200 in August coincided with the FY23 reporting season delivering a higher incidence of earnings downgrades. For corporate Australia, revenues held up well as demand trends were modestly better than expected, however this was offset by an increase in finance and wages costs that had a detrimental impact on earnings per share. It also appears to be putting more pressure on free-cash-flow as rising operating costs and capex provide the most notable headwind for resource companies.

The FY23 earnings season was particularly harsh for companies that had leveraged balance sheets at or above ~3x Net Debt/EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortisation), where negative price reactions were most pronounced as the full weight of higher interest costs dragged profits lower. Indeed, we expect that higher finance costs will continue to impact on earnings into FY24 as fixed rate debt rolls off into higher rates.

In an environment where the economy is showing the first tangible signs of slowing and higher operating costs persist, it is unsurprising that ASX 200 companies have provided cautious guidance for FY24. The market has clearly entered an earnings downgrade cycle, albeit mildly at this point, with earnings estimates being downgraded by >2% for FY24.

While negative earnings revisions have outweighed positive earnings revisions for this earnings period, it was encouraging to see a handful of companies in the Fund’s portfolio deliver results ahead of expectations, namely: Brambles, Goodman Group and Spark NZ.

More broadly, at a sector level, Discretionary Retail, Real Estate and Energy were the strongest performers in August, whilst Utilities, Staples and Technology underperformed. At a portfolio level, this translated into cyclical companies typically outperforming defensive earning companies. Specifically, Goodman Group and Wesfarmers were notable strongly performing stocks. Whereas Ramsay Health Care, Cleanaway Waste Management and Telstra Corporation weighed on performance.

In our view, the key insights from this reporting season illustrate that companies with strong market shares and conservative balance sheets are enviably better placed to strengthen their value proposition relative to companies with higher debt levels. An aversion to high debt levels has prompted us to divest several names across the portfolio that face the continued headwinds of higher finance costs.

Investment Objective

The Switzer Dividend Growth Fund is an income-focused exchange traded managed fund with a mix of yield and quality companies. The objective of the Fund is to generate an above-market yield while maximising franking where possible and deliver capital growth over the long term. We select companies that, in aggregate, generate sustainable dividend income. The Fund is characterised by a strong and diverse portfolio of companies that exhibit good cash flows and strong business models.