DBLV: 4th Quarter 2021 Portfolio 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.

Market Review

“With a good perspective on history, we can have a better understanding of the past and present, and thus a clear vision of the future.”
— Carlos Slim Helu

“In investing, what is comfortable is rarely profitable.”
— Robert Arnott

U.S. equity markets achieved record highs again in 2021 despite the continuation of a mixed economic backdrop and the spiking of COVID-19 cases to new highs on the emergence of the highly contagious Omicron variant. While nominal GDP (as of 9/2021) grew 6.9% over 2019, the S&P 500 appreciated 47.5% over the same time period, reflecting both growth in profits as well as an expansion in valuation multiples: S&P earnings grew an impressive 28.5% from 2019 to 2021, while the 1-year forward P/E multiple expanded to 22.8x in 2021 from 19.9x in 2019.

Although value stocks had a strong performance in the early part of 2021, growth stocks rallied substantially in the fourth quarter, leading to their outperformance for the full year. During the first half of the year, many investors held out optimism that the economic recovery would gain steam as government lockdowns and other interventions to address the COVID-19 pandemic would potentially subside. However, midway through the year, a confluence of headwinds – the emergence of the delta and omicron variants, fading government stimulus, lingering supply chain challenges and expectations of a faster withdrawal of monetary accommodation by the Fed – all emerged to stall the recovery. Concerns about slowing economic growth led investors to shift towards defensive and growth-oriented names and away from economically sensitive cyclical names, and this rotation accelerated through much of the second half of the year. Despite the growth concerns, the overall U.S. equity market also edged higher on continued easy liquidity from the Fed, the resilience in corporate earnings and indications that delta variant Covid cases had peaked and omicron variant cases would be less dangerous and thus have less of an impact on the economy. In the fourth quarter, the Russell 1000 Growth index soared 11.64%, while the Russell 1000 Value index increased 7.77%. The S&P 500 returned 11.03% for the quarter. The AdvisorShares DoubleLine Value Equity ETF (DLBV) returned 6.48%, underperforming its benchmark, the Russell 1000 Value, by 129 basis points.

We continue to recommend tilting U.S. equity positioning toward value over growth in the current environment. The reason for this is because we see both superior earnings growth and more attractive valuations prevailing among value stocks when compared to their growth-oriented peers. Historically, value has tended to outperform amidst economic growth and inflation and has done especially well after periods in which value stock relative underperformance has caused a sizeable valuation discount to growth (i.e., a stretched value spread). All of these factors are currently in place.

Although U.S. economic growth is likely unsustainably above trend at the moment, with nominal GDP and real GDP up 9.8% and 4.9% year-over-year, respectively, in Q3, putting them about 7% and 1.4%, respectively, above Q4 2019 levels, we believe growth will remain above the pre-pandemic trend even as it invariably decelerates. Our view is based upon expectations of continued strength in both the consumer and business spending environment, supported by healthy balance sheets, modest credit expansion and additional government investments.

Indeed, the U.S. consumer is in better shape than before the Covid-19 pandemic. Total annualized aggregate personal income is now above 2019 levels, even with the number of people employed still about 3 million shy of 2019 levels, and despite the fact that most of the major stimulus-related government transfer payment programs has expired over the last couple of quarters. With increases in worker compensation largely offsetting the drop-off in stimulus benefits, aggregate disposable personal income has approached more normal, sustainable levels. Wages are also rising from a tighter labor market, and we would expect disposable income to grow from these levels. Furthermore, consumers have accumulated about $2.5 trillion in excess savings throughout the pandemic, while paying off some debt. Moreover, home prices appreciated significantly this past year, adding to consumers’ paper wealth.

This has supported strong consumer spending levels with aggregate personal consumption expenditures having fully rebounded above 2019 levels. Spending on durable goods were particularly strong during the pandemic, and we would expect to see further growth in services spending to offset any normalization in durable goods spending, as government lockdowns, travel restrictions and general fears surrounding COVID-19 continue to abate. With consumer spending historically contributing nearly 70% to GDP, we would expect further growth in consumer spending, though at a more moderate pace, to continue supporting underlying economic growth.

Corporate profits are currently healthy, and many companies have balance sheet capacity to spend on working capital and capital project investments, with several corporations reporting plans to increase capital expenditures in 2022. While earnings will normalize from the eye-popping 49% year-over-year growth posted in 2021, S&P 500 companies are expected to grow earnings by a healthy 8.8% in 2022. While many companies have struggled with supply challenges, this has not appeared to impact demand, so future spending on inventories—which are still unusually low relative to sales—should unlock incremental corporate profits.

Meanwhile, the current benign credit environment remains conducive to aggregate demand growth. As a result of swift government intervention, credit losses were contained and some private sector debt was indirectly transferred to the Federal government under the various stimulus programs. Although credit card spending has fully recovered, credit card balances are about 7% below pre-pandemic levels. Furthermore, our banking system is in good shape, and banks have substantial capital buffers to cushion against future credit losses, so they have been loosening credit underwriting standards again. Generally, credit quality remains high in both the consumer and commercial market. While past recessions have been triggered by a deterioration and contraction in credit, today the threat of a credit crisis appears low. Instead, we see these favorable credit conditions facilitating a continuation of the economic recovery.

The government remains supportive of economic growth from a fiscal standpoint, as it currently continues its deficit spending, adding to its already enormous debt. With the passing of the $1 trillion Infrastructure Bill, the government will increase spending to upgrade roads, bridges, water systems, ports, the electrical grid and other infrastructures beginning in 2022 and extending over multiple years. While this is likely supportive of economic growth in the near-term, elevated federal debt could pose a risk to the economy longer-term.

From a monetary standpoint, governmental accommodation is ending, however, as the Fed is no longer viewing inflationary pressures as transitory. Indeed, inflationary pressures have worsened through 2021, raising a key risk to the economy. Headline CPI rose to 7% year-over-year while core CPI increased 5.5% in December. Core PCE deflator, the Fed’s preferred measure of inflation, increased 4.7% year-over-year in November 2021. The recent jump in CPI seems to be driven more so by surging consumer demand, particularly for goods, overwhelming supply chains constrained by interruptions due to COVID-19 than from other areas such as wages, thus far. That said, we believe there will be a rotation in the drivers of inflation, with wages and shelter costs rising further while goods inflation, such as auto prices, subsiding as demand for goods normalizes and supply chain bottlenecks improve. Hence, we would expect inflation to trend lower from the recently posted elevated levels, but still remain hotter than the Fed’s long-run target of 2%. With inflation running above target, labor markets tightening, and the economy staying relatively strong, the Fed will likely be compelled to remove accommodation, to begin hiking interest rates and, possibly, to start to reduce its balance sheet.

Higher inflation and the shift in Fed policy towards monetary tightening are likely to push interest rates higher. When the Fed hikes Fed Funds rates in response to inflation expectations, we would expect short-term rates to rise. Real rates across the yield curve could also move higher from the changing demand and supply dynamics in the Treasury market as the Fed begins to taper and eventually shrinks its balance sheet. Although higher rates are likely to cause growth to moderate, the economy is currently growing meaningfully above its historical trend. Looking at past cycles, major downturns usually didn’t occur until the yield curve was well on its way to inverting. Although the yield curve flattened somewhat during the quarter, it is not close to inverting yet. Also, while markets were volatile in the early part of previous rate hiking cycles, they have tended to move higher as economic growth remained relatively healthy. At the moment, we believe the U.S. economy is strong enough to withstand a certain level of monetary tightening, especially as real policy rate levels are significantly negative. That said, if inflation continues to run hotter for much longer, the Fed could be forced to tighten at a much faster pace, posing a risk to the economy and market.

Currently, we believe an environment of higher but manageable inflation and interest rate driven by healthy economic growth should be favorable for value stocks. Although higher interest rates could pose a challenge to valuation multiples, value stocks currently trade at a notable discount to the broad market and growth stocks. Meanwhile, the earnings of value stocks tend to benefit more than growth stocks in a reflationary environment with interest rates and inflation rising at a steady pace. Rising rates alongside robust economic growth have historically proven positive for value stocks, including financials, as well as cyclical stocks, such as energy, materials and industrials names. Therefore, if economic growth remains strong, we would expect that value stocks could see upwards revisions to corporate earnings. Additionally, U.S. value stocks, on average, pay a higher dividend yield than the broad market. We believe this combination of very low relative valuation along with relatively favorable fundamentals will drive a more sustained growth-to-value rotation in 2022 and, therefore, we believe a pro-cyclical reflation tilt is warranted.

Our growth-to-value rotation call is predicated on sustained economic growth. If economic growth abates, value stocks may fall more than the overall market, as investors may seek safety in defensive and quality growth names given their earnings resiliency during economic downturns. Many value stocks are more sensitive to the economy, typically carrying higher betas, so they tend to decline more than the broad market during a market correction. While we continue to see relative value in value stocks, we would not expect value stocks to be impervious to a market downturn caused by a sudden economic slowdown. We do not anticipate recession in the near future, but would highlight that further government lockdowns in response to rising COVID-19 cases or a major misstep by the Federal Reserve as it removes monetary accommodation could present downside risks to our reflationary investment thesis. Note that we view the latter risk as more significant, given the challenges of coordinating the pace of such large-scale liquidity removal.

In summary, while COVID-19 health crisis lingers on after almost two years, the economy has recovered significantly. Although market risks have shifted towards higher inflation and an ongoing pivot in Fed policy from accommodation to tightening, we believe the economy is currently strong enough to handle some withdrawal in monetary support. That said, with the rising tide of liquidity propelled by the central banks cresting and potentially rolling over, we think investors will need to be much more selective in their investments and pay more attention to valuation multiples. We see prevailing market conditions – higher (but still manageable) inflation and interest rates amid a stable economic growth environment – as favorable for value stocks. Although we expect higher interest rates to be a headwind for overall valuation multiples, we believe value stocks provide attractive upside potential given their low relative valuations and improving fundamentals that have led to outperformance during prior reflationary periods. On this basis, we would expect to see the growth-to-value rotation gain momentum in the current environment. Separately, as we have noted in the past, we also believe that active management will show its importance in the present investing environment, as salient differences in relative company positioning reemerge and become more important that liquidity or macroeconomic considerations.

We will continue to seek sound, long-term investment ideas and strike reasonable balances within our portfolio among those investment ideas offering safety in uncertain times and those holdings representing compelling long-term value once a broader recovery is underway. Our differentiated fundamental value investment philosophy allows us to capture both of these opportunity scenarios in our ongoing effort to seek out solid relative returns.

Portfolio

In terms of the current portfolio’s positioning, relative to the Russell 1000 Value Index, DBLV is overweight consumer discretionary, financials, materials, and communication services. It is underweight health care, industrials, information technology, real estate, and utilities. It is broadly equal consumer staples and energy. These portfolio exposures reflect a healthy exposure to reflationary stocks that will benefit from the continued expansion of the economy and movement of capital into names exposed to that expansion, as well as to more defensive names that can continue to post earnings growth even in the event that further hiccups to full economic reopening and recovery occur in the months ahead. We see such a balanced set of portfolio exposures as the most prudent positioning amidst the elevated set of market risks we have identified.

The portfolio’s sector weights, both in absolute terms and also relative to the benchmark, are found in the following charts:


As of 12.31.2021.

In information technology, we increased and added some exposures to more defensive names in the sector (e.g., Fidelity National Information Services, Microsoft) but still remain underweight relative to the benchmark for the sector, as much of the sector carries above-market valuation multiples that are likely to come under disproportionate pressure in the event of continue interest rate increases. Hence, we continue to seek portfolio exposures in underappreciated technology companies that are more cyclical in nature—and thus more likely to post better returns in a reflationary environment—and which also trade at more modest valuation multiples that shield them on a relative basis to the multiple pressure that could come in a rising rate environment (e.g., Flex Ltd., KBR Inc., and Lam Research Corp.). One should also note that one of our technology holdings, Vontier Corp., really is an industrial company, so we would exclude this name from the sector and highlight that our unofficial weighting in the IT sector is even lighter (relative to the RLV benchmark) than would otherwise appear.

In financials, we are slightly overweight the sector with particular exposures to asset sensitive financials. We remain constructive on the banks and consumer finance companies (e.g. Wells Fargo, Citizens Financial, Bank of America, State Street and Capital One) and remain slightly overweight relative to the benchmark. Despite the emergence of Omicron and lingering supply chain challenges, economic growth has remained resilient. Consumer spending has been ramping and companies have started to increase capital investments. More recently, loan growth has picked up modestly. We expect loan growth to accelerate as the supply shortages and bottlenecks are resolved over time. We also continue to see higher interest rates as a potential benefit to our portfolio holdings. Given that their balance sheets and credit positions remain healthy, and their ability to deploy excess capital toward earnings-enhancing stock repurchases is still growing, these financial names remain core holdings in the portfolio, especially since they continue to trade at a higher discount to the overall market relative to historical averages.

In health care, we are modestly underweight the sector, driven by our underweight in pharmaceuticals and biotech, which continue to face near term headwinds from rising interest rates, likely US legislative pressures on drug pricing, and uncertainties around regulatory decisions by the FDA. We continue to direct our biopharma exposures to companies that have relatively less exposure to these risks, with superior mid- and long-term earnings prospects, given their advantaged development pipelines and benign loss-of-exclusivity patent portfolio profiles (e.g., AstraZeneca, Sanofi, and Biomarin). We maintain an underweight exposure to the life science tools and diagnostics providers given the sub-sector’s lofty valuations and more mixed near-term earnings growth outlook, which is clouded by the prospect of lower COVID-19 testing volumes and vaccine bio-processing revenue. Conversely, we continue to maintain an overweight exposure to the healthcare service providers (e.g., Anthem, Cigna, and CVS Health), which continue to trade at significant discounts to the broader health care sector and overall market. While the health care industry faces increasing regulatory risks under Democratic leadership, we believe that, ultimately, the likely regulatory impact upon the service providers’ business models will be minimal. We continue to maintain a favorable view of and overweight toward physician preference medical device manufacturers that are gaining share from new product launches (e.g., Medtronic and Alcon), as they should benefit from the reversion of procedure volumes to normal pre-pandemic levels globally.

We are slightly overweight the consumer discretionary sector, while our exposure to the consumer staples sector is about in-line with the benchmark. In both sectors, we maintained a bias toward higher quality names. Our staples positioning over-indexes to brands with the pricing power needed to navigate the inflationary cost environment (e.g., Philip Morris, Mondelez, and PepsiCo) with as little margin contraction as possible. Our positions in US Foods, Advance Auto Parts, and TJX Companies provide us with exposure to the gradual reopening of the U.S. economy, which we expect to continue as the omicron wave fades in Q1. Given record margin performances in 2021 and ongoing cost inflation, we expect many names in the consumer sectors to see margin contraction and EPS pressure this year. Our mix of market share gainers, quality compounders and select bets on the reopening is designed to mitigate this risk.

We are modestly underweight in the industrials sector. However, we are maintaining cyclical exposure in Transportation (Norfolk Southern) where supply chain friction has temporarily disrupted the recovery. We have later cycle exposure in Electrical Equipment (nVent) where electrification and connectivity should drive improving fundamentals. We have later cycle exposure in Commercial Aerospace (Raytheon Technologies and Boeing) and Construction Equipment with the addition of Herc Holdings (HRI), as we see such names thriving in an eventual recovery. That said, although Vontier Corp is classified as an information technology company under GICs, we view it as an industrial company as it was spun out of an industrial company (Fortive Corp.) and its underlying businesses are more similar to other industrial companies. Given this, we view our positioning in the industrials sector as modestly overweight.

In communication services, we are overweight the sector, with a mix of defensive holdings that can generate cash flow through the cycle given their ability to obtain pricing fairly reliably because of relative competitive strengths and business model quality (Verizon, Comcast), of reasonably-priced growth plays that also can post superior earnings through a down-cycle (Alphabet, Facebook), and of more cyclical names that should benefit from continued improvement in the economy (Discovery Communication).

We are modestly overweight in the materials sector. Our position in Dupont provides cyclical, auto, semi-conductor and electronics exposure. Our position in International Flavors & Fragrances provides modest reopening economic exposure combined with a significant turnaround and cost cutting opportunity. Our Arconic position provides exposure to a recovery in automobile, aerospace and beverage can manufacturing. It also provides exposure to the growth in Electric Vehicles, which need 20% more aluminum than traditional vehicles and sustainability in recyclable beverage packaging.

We are equal weight in the energy sector. We have a balanced exposure to the integrated oil and gas segment, and to the independent exploration and production and refining sub industries. We expect energy companies to hold up in value in reflationary environment, but prefer to overweight other cyclicals that are less volatile. Also, energy prices are predicated on OPEC+ managing supply and U.S. oil shale companies maintaining capital discipline, both of which have been difficult to predict in the past, resulting in unstable energy commodity prices.

We are underweight real estate stocks, preferring financials names at this stage of the cycle, given our expectation that economic growth will lead to higher interest rates that tend to undermine this bond-proxy sector. Within real estate, our position is relatively balanced with a defensive secular growth position (American Tower) and a cyclical position (BXP Properties).

As always, 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 LP do secondarily inform these sector weightings.

Sector

As noted, DBLV lagged its benchmark, the Russell 1000 Value index, by 1.29% in the most recently completed quarter. In terms of the sectoral attribution for the portfolio’s relative Q4 underperformance, quarterly results were helped by communication services, consumer discretionary, energy, financials, industrials, information technology, and materials, offset by adverse results within consumer staples, health care, real estate, and utilities. Cash and communication services holdings had minimal impacts on relative performance.

As of 12.31.2021. Portfolio = DBLV; Russell 1000V = Russell 1000 Value.

The relative underperformance during 4Q was driven by multiple sectors, with consumer staples, health care and real estate and utilities impacting performance the most. During the quarter, market concerns over a potential slowdown in economic growth led to a rally in defensive and growth oriented names. Within consumer staples, a couple of our less defensive names (U.S. Foods and Phillip Morris International) underperformed the benchmark. Meanwhile, our underweights in real estate and utilities were headwinds this quarter, as both these sectors are viewed as relatively defensive and rallied more than the overall market during the quarter. Lastly, in health care, although the sector outperformed our overall benchmark, our portfolio names, on average, trailed the sector during Q4 for company specific reasons. Importantly, we continue to see long-term value in the individual stock holdings within these sectors, notwithstanding the lagging performance posted in Q4.

Top Holdings

Looking at attribution by individual stocks, the top five positive contributors to fourth quarter performance were Alphabet (GOOGL), Microsoft (MSFT), Intercontinental Exchange (ICE), KBR Inc. (KBR), and Norfolk Southern (NSC).

  • GOOGL (communication services) is a dominant global supplier of online advertising services and related technology in digital content, cloud services, enabling hardware devices and other products and services. Alphabet stock outperformed for much of the fourth quarter of this year, along with many of the technology platform giants, on the continued reversal of the reflationary trade; as noted in the prior quarter, this reversal has coincided with rising concerns about the reopening amidst news of coronavirus variants and breakthrough infections among the vaccinated, providing a boost to demand for defensive large cap technology stocks amidst the rising uncertainty. Given the company’s competitively advantaged business model and cash-rich balance sheet, as well as the incremental opportunities represented by YouTube, Waymo, Google Cloud Platform, et. al., Google should continue to see above-average earnings growth over at least the next few years. 
  • MSFT (information technology) is a leading supplier of software products and related services, hardware devices and other technology solutions. The company has transitioned toward its fast-growing cloud portfolio, which includes Office 365, Azure, LinkedIn and Dynamics 365, which will increasingly drive the company’s growth and profitability going forward. Microsoft stock outperformed in the fourth quarter, as the tech giant benefited from continued investor concerns over the pace of economic recovery amidst rising omicron cases, which prompted an investor flight to a narrow set of highest quality technology names. Given the company’s extremely strong business model, balance sheet, cash flow and competitive positioning within key cloud services (e.g., Azure, Teams, et. al.), Microsoft should continue to see solid tailwinds for its sales and earnings.
  • ICE (financials) operates multiple financial exchanges and securities clearing houses, enjoying strong competitive advantages from network effects and scale economies. It also has a solid fixed income and data subscription business and mortgage technology business. During the quarter, ICE’s stock benefitted from a rotation within the financial sector towards more stable, less economically sensitive companies and away from more interest rate sensitive companies. The company delivered solid overall performance again, overcoming concerns about potential weakness in its Mortgage Technology business given a more challenging mortgage origination environment. ICE continues to benefit from increased adoption of digital tools across the mortgage process, driving up its recurring revenue mix. Overall, the company has a relatively high mix of predictable recurring revenues that continue to grow steadily. The company has a history of leveraging its unique core assets to deliver incremental value and remains a core holding.
  • KBR (industrials) provides technology, engineering and professional services solutions across its Government Solutions, Technology Solutions and Energy Solutions divisions. Services include R&D, test, automation and integration, as well as operational, logistics, security and training support. KBR made multiple acquisitions to transition from its highly volatile legacy, energy-focused engineering and consulting (E&C) business to the more stable government and technology consulting services operations, which reduce the lumpiness of its activities and improve its profitability. Given that the transition is largely behind the company, that its remaining exposure to commodity-driven operations is now rather small and largely de-risked, and that its valuation remains unchallenging, we believe KBR stock offers an attractive risk-reward currently. KBR shares outperformed during the fourth quarter, as the near-term visibility of the companies orders, sales and earnings again improved, while the solid set of long-term growth drivers, in areas like sustainability, space and cybersecurity, became more apparent to investors. Also helping sentiment around the name was a growing recognition that the budget environment, which drives many company orders, is becoming more predictable and sustainable.
  • NSC (industrials) is a US railroad transportation company uniquely positioned on the East Coast with access to key ports and the important East Coast merchandise corridor. During Q4, the company reported robust Q3 results beating consensus revenue, margins and earnings on strong pricing that positively surprised the market. Coming into Q3 earnings, the market was concerned about declining volumes due to supply chain frictions. Norfolk reported volumes in line with consensus which assuaged the volume concerns. The company raised guidance for 2021 and the market began looking through what should be more temporary supply chain and volume issues into 2022 when volumes should normalize. Combined with strong pricing, this provided a scenario of expanding margins and earnings growth. Norfolk is still in the process of making operational improvements and reducing costs to improve its operating ratio in line with industry peers. We believe there is more to come, but as the stock approaches our intrinsic value, we have reduced the position size.

The top five detractors from quarterly performance were Medtronic (MDT), AstraZeneca (AZN), Vontier (VNT), Boeing (BA), and Capital One Financial (COF).

  • MDT(health care) is a global medical device manufacturer with innovative products and technologies in Cardiology, Surgery, Neuroscience, Surgery, and Diabetes. During the quarter, the stock underperformed after experiencing delays to launching key pipeline products in Cardiovascular and Diabetes. However, we believe these pipeline initiatives are only temporarily delayed and will still add significantly to MDT’s revenue and earnings growth profile over the long term. Additionally, MDT is now trading at the low end of the MedTech peer group at ~16x 2023 P/E versus comparable stocks at ~20-25x and we expect MDT to close this valuation gap on improved revenue growth performance with better management execution.
  • AZN (health care) is a UK-based pharmaceutical manufacturer with leading franchises in oncology, cardio-metabolic, respiratory, and immunology. The stock underperformed during the quarter after posting weaker Q3 results on higher R&D and SG&A spend as AZN continues to invest in its attractive drug pipeline and new commercial product launches. While spending on these items can fluctuate from quarter to quarter, we expect attractive returns on the spend over the long term given AZN’s track record of R&D productivity and product launch successes, particularly in Oncology. We continue to expect AZN to post the best revenue and earnings growth in the space over the next five years, which we do not believe is fully reflected in the current valuation of ~14x 2023 P/E.
  • VNT (information technology) is a leader in mobility technology and automation such as retail fueling infrastructure, c-store payment systems and auto aftermarket diagnostics and repair solutions. During calendar Q4, the company reported solid Q3 results, but there were two factors that weighed on the stock. First, the market is waiting for the EMV (Electronic Mastercard Visa) comparable sales to bottom which should happen in 2022. Second, the majority of Vontier’s business services the ICE (Internal Combustion Engine) market. There is a lot of debate around the penetration and adoption rate of electric vehicles. While we believe there is a lot of time for this transition to happen, the market has assigned a substantial discount to Vontier. The company remains one of the most undervalued multi-industry companies. Based on FY1 P/E, Vontier trades at a 45% discount to its closets peers while generating similar margins and free cash flow. Vontier also trades at 51% discount to the Russell 1000 Value Producer Durables Index and a 40% discount to the Russell 1000 Value Index.
  • BA (industrials) is a leading manufacturer of commercial airplanes as well as military aircraft and defense intelligent systems. The majority of earnings and cash flow are generated from the company’s commercial airplane business. While the fundamentals of Boeing’s commercial airplane business have been severely impacted by the Covid-19 pandemic, the market was waiting for China to recertify the 737 Max and for the FAA to recertify the 787 as this would indicate the beginning of a recovery. While China recertified the 737 Max in Q4, the FAA has yet to recertify the 787. The timeline for the FAA recertification is now late Q1 or early Q2 of 2022. Additionally, the news of the Omicron variant weighed heavily on Boeing’s stock as it introduced new uncertainty around the timing of a commercial aerospace recovery. While Boeing has been at the epicenter of the Covid-19 pandemic, we believe the worst has passed. Boeing has material upside in a world where demand returns to air travel and fundamentals normalize.
  • COF (financials) is a leading credit card and auto finance company. The company has a strong understanding of consumer risks and has been good at underwriting subprime credit by leveraging technology and statistical data. During the quarter, COF’s stock, along with other consumer finance companies, pulled back on concerns about elevated marketing spending, credit deterioration amid increased competition given a rebound in consumer spending, as well as a general slowdown in economic growth exacerbated by the emergence of the omicron-variant. While the higher marketing spending will impact near-term profits, it should position the company for growth as the economy improves. Although credit card delinquencies have increased slightly, more recently, as credit begins to normalize, delinquency rates remain exceptionally low relative to their historical averages. Also, over the last few months, credit card loans have been improving sequentially. We expect further economic growth to lead to better loan growth as payment rates normalize. Meanwhile, COF’s stock remains attractively valued at ~1.0x P/BV and ~7.3x FY2022 P/E. With the Fed’s capital return restriction lifted in Q3, COF increased share repurchases significantly, capitalizing on its attractive value, and paid a special dividend in Q3.

During the most recent quarter, we introduced Herc Holdings (HRI) as new holdings. We made net additions to our positions in Capital One Financial (COF), Boeing (BA), DuPont de Nemours (DD), US Foods Holding (USFD), and Arconic (ARNC). We made net reductions to our positions in International Flavors (IFF), Norfolk Southern (NSC), PepsiCo (PEP), nVent Electric (NVT), and Chubb (CB). We eliminated our holdings in Honeywell International (HON).

The top 10 portfolio holdings, by weight and active weight, as of month’s end, can be seen in the following tables:


As of  12.31.2021. 

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.

Outlook

As we have noted many times previously, the fundamental value strategy informing our management of DBLV is well suited to navigate through the myriad environments of evolving risks and opportunities. Recall that our differentiated strategy facilitates the construction of a portfolio with potentially higher prospective risk-adjusted returns by allowing us to seek compelling investments within low-multiple value names tied to rising expected returns in a cyclical upswing as well as among high-quality, less economically sensitive stocks trading at reasonable prices. To wit, at quarter’s end, this balanced exposure carried a price-to-earnings multiple on 2022 consensus estimates for DBLV of 15.3x, versus the RLV at 16.6x and the S&P 500 at 21.7x.

We maintain that continued caution is warranted on the broad equity market, given that the economic recovery remains vulnerable, and valuations are not only still highly elevated versus historical averages but also in many instances appear to be ahead of underlying fundamentals. Moreover, there is increased risk of rising inflation and interest rates which could become a headwind for valuation multiples. That said, value stocks, particularly cyclicals, tend to be better equipped to maintain or raise margins in an inflationary environment. Meanwhile, the risk-reward for value stocks remain compelling as the earnings prospects for values stock have been improving, yet their valuation discount to growth stocks is still at or near historic highs. We believe that the potential shift in environment towards higher inflation and interest rates, when supported by durable economic recovery and growth, could lead to a more sustained growth-to-value rotation. We continue to observe further opportunities for active equity managers to capitalize on this growth-to-value rotation in U.S. equities.

We thank you for your continued interest in DBLV.

 

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

DEFINITIONS:

  • A basis point is one hundredth of a percentage point (0.01%).
  • The Russell 1000 Index is a market capitalization-weighted index that measures the performance of the 1,000 largest companies in the Russell 3000® Index, which represents approximately 92% of the total market capitalization of  the Russell 3000 Index.
  • The Russell 1000 Growth Index is a market capitalization weighted index that measures the performance of those Russell 1000 companies with higher price-to-book ratios and higher forecasted growth rates.
  • The Russell 1000 Value Index is a market capitalization weighted index that measures the performance of those Russell 1000 companies with lower price-to-book ratios and lower forecasted growth rates.
  • The S&P 500 Index is an unmanaged index of 500 common stocks primarily traded on the New York Stock Exchange, weighted by market capitalization. Index performance includes the reinvestment of dividends and capital gains.
  • SPAC (special purpose acquisition company) is a company with no commercial operations that is formed strictly to raise capital through an initial public offering for the purpose of acquiring an existing company.

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 change.

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