Q1 2021

Following a strong performance in 2020, the Sextant Growth Fund stumbled in the first quarter, with its Investor Shares returning 0.97%, well behind the 6.17% return of the S&P 500 Index. The rotation out of Technology and into “real economy” stocks that began last autumn continued through the first quarter of 2021, with strong performances registered among Energy, Financials (including regional banks), and Industrials. Meanwhile, Technology and Health Care trailed. While an anticipated economic recovery may lead to the first quarter’s winners continuing to perform well, we are not convinced that it will spark persistent inflation, leading to a secular rise in interest rates. Demographics and debt are powerful depressants, and it would be premature to rule out the return of deflationary pressures that would, once again, assign a premium to more growth-oriented Technology stocks.

After claiming six of the 10 Largest Contributors for 2020, Technology was represented only by Alphabet, Microsoft, and Oracle in the first quarter of 2021. Alphabet (Google) presents an interesting case; we believe it to be one of the few Technology stocks that would benefit from government activism toward the Tech behemoths. In our view, breaking up Google would likely unlock value currently hidden in its conglomerate structure. Having gone through its own anti-trust trial by fire, we see Microsoft as insulated from the current anti-Tech politicizing. Bill Gates’ activities as a philanthropist have surely helped its image. Even so, Microsoft will probably accrue a greater share in cloud services through Azure as companies shy away from Amazon, which competes against so many businesses. Oracle’s subscription efforts are gaining traction, and since the late summer Tech sell-off, it has been among the best legacy Tech performers. One 2020 theme that maintained strength through the first quarter was home improvement, with Lowe’s and Stanley Black & Decker registering good performance. We added building technology firm Johnson Controls at the end of 2020 to increase our “real economy” exposure. During the first quarter, it was the second-best performer behind only Southwest Airlines. JP Morgan Chase entered the portfolio early in the year as the interest rate environment became more favorable for Financials.

We are unaccustomed to seeing Apple and Adobe among the losers, but stock markets are not linear, and we remain committed to the investment thesis for both companies. We believe gaming is a secular opportunity, but performance can be choppy based on the cadence of title releases and Take- Two remains a core holding. After a strong 2020, Qualcomm slipped in the first quarter but it remains early days in the 5G buildout. Amazon and Costco joined the group of underperforming stocks considered less favorably exposed to the post-pandemic environment. We disagree. E-commerce has been brought forward by years, strengthening Amazon, and Costco finally realized the benefits of e-commerce and has been building out its capabilities. We exited DocuSign due to the stock’s outsized performance and breathtaking valuation but would look to re-enter on a pullback. We have been building our position in PayPal as another beneficiary of commerce and payment trends that were accelerated by the pandemic. We expect procedures using Edwards Lifesciences equipment to pick up as hospitals become less burdened with COVID patients.

Since the end of the year DocuSign dropped out of the Top 10 due to being sold from the portfolio, while relative performance caused Qualcomm to drop out. Those two stocks were replaced by Stanley Black & Decker and Lowe’s.

The Sextant International Fund Investor Shares declined -1.62% in the first quarter of 2021, compared to a gain of 3.60% for the benchmark MSCI EAFE Index over the same period.

During the first quarter of 2021, ex-US equity indices generally trailed the performance of those within the US. Market trends from 2020 persisted through January as Technology companies led market performance. Starting in mid- February, a rotation began with the underperformance of Technology (growth), the outperformance of the Financial sector led by rising rates in the US, and the Energy sector led by appreciating oil prices. The Fund raised cash during the quarter when Technology stocks began to underperform as stop-loss orders triggered. The underperformance during the quarter is primarily attributed to the Fund’s overweight Technology sector position.

The Fund generally holds positions in larger companies with strong balance sheets. The average market capitalization of the positions exceeded $92 billion, and the position-weighted trailing 12-month average debt-to-market capitalization was 19.3% as of quarter-end. The first quarter of 2021 ended with the Fund in a relatively defensive posture, holding a cash balance of 6.3%, an increase from the previous quarter.

ASML, a Netherlands-based semiconductor equipment company, provided the largest positive contribution to performance in the first quarter of 2021. Global shortages of semiconductors created anticipation of future semiconductor manufacturing equipment orders. NICE Systems, an Israeli software company, was the largest detractor during the first quarter, following strong performance in the fourth quarter of 2020. The Top 10 Holdings remained at 68% from year-end 2020 to the end of the first quarter of 2021.

At quarter-end, the two largest sector allocations in the portfolio were Technology at 53.7% and Health Care at 10.9%. The Fund held 24 equity positions, a decrease of two since year-end 2020, with an average position size of 3.9%. Over the next several quarters, we anticipate reducing the Top 10 position concentration and adding new positions to the portfolio.

The Sextant Global High Income Fund returned 4.37% in the first quarter of 2021, ending the period with $8.8 million in total net assets including 10.2% in cash and equivalents. The Fund trailed its equity benchmark, the S&P Global 1200 Index, which returned 5.29%, and outperformed its fixed income benchmark, the Bloomberg Barclays Global High Yield Corporate Index, which returned 0.12%. It also outperformed its Morningstar World Allocation peer group, which returned 3.64%.

Uncertainty as to control of the US federal government in the wake of the November elections was resolved soon after the beginning of the quarter. Both Democratic candidates for Senate in Georgia won their runoff elections, giving the Democratic party control of the government, albeit with the margin of only the tiebreaking vote of the vice president in the Senate. These results led to the quick passage of another COVID-19 relief package as well as putting a $2 trillion infrastructure package on the table for 2021.

US interest rates rose rather sharply during the quarter, with the yield on the 10-year Treasury note climbing from 0.91% at yearend 2020 to 1.74% at quarter-end. Industries that struggled with the disruptions caused by the COVID-19 pandemic, such as airlines, hotels, real estate, and energy companies, led the stock market with optimism about a strong economic recovery. Meanwhile, some of the companies that lead the market in 2020, such as technology firms, lagged during the first quarter. Companies that offered the prospect of continued growth amid the pandemic’s disruption allowed investors to look ahead to future earnings and discount those earnings at the very low prevailing interest rates. But as interest rates rose and the prospects of companies more directly tied to the economy’s shorter-term performance improved, the relative attractiveness of those far-away earnings may have dimmed.

A notable contributor to Fund performance was Virtu Financial, an equity trading operator that benefited from the increase in volatility and trading volume during the pandemic. Raw materials companies such as Equinor, South32, BHP, and Total were also among the Fund’s 10 Largest Contributors. The rise in interest rates lead to the Fund’s bonds to fall in price, with bonds comprising nine of the 10 Largest Detractors of the Fund.

The Fund deployed excess cash that had accumulated into a number of new bonds during the quarter to take advantage of the increase in interest rates.

With the administration of vaccines proceeding quickly and the continued support of fiscal stimulus and monetary policy, the US and global economies are set to experience strong recoveries through the remainder of the year. Strong prospects for earnings are offset by valuations that remain stretched. While interest rates remain quite low by historical standards, these valuations appear to provide little margin for error. Accordingly, we will not be surprised by harsh reactions in trading when companies report results and earnings guidance that fail to meet the rosiest of forecasts.

The Sextant Core Fund's first quarter return of 2.41% underperformed its benchmark, the Dow Jones Moderate Portfolio Index, which returned 2.53% for the same period. The Fund ended the first quarter of 2021 in a defensive posture, holding a cash balance of approximately 10%.

Equities

The Sextant Core Fund’s mandate specifies a 60% allocation to equity securities, with two-thirds being US-domiciled companies and one-third foreign-domiciled companies. The Fund averaged an equity allocation of 61.3% in the first quarter and finished the quarter at 61.3%. Position performance was dispersed across sectors for both contributors and detractors. Notable positive contributors included Virtu Financial and Johnson Controls, while Barrick Gold and Nintendo were notable detractors. At quarter-end, the two largest equity sector allocations were Health Care at 10.5% and Technology at 11.5%. The Fund held 60 equity positions (a decrease of one since year-end 2020) with an average market capitalization of $203 billion and an average position size of 1.0%.

Fixed Income

The Fund‘s mandate specifies a 40% allocation to bonds and cash. Long-term US interest rates began the quarter at very low levels, with the 10-year Treasury note yielding less than 1%. Such low interest rates reduce the opportunity cost of holding cash, both because the difference in rates between cash and longer-term bonds is narrow, and because the value of long-term bonds falls more than shorter-term bonds when interest rates rise, which increases their risk. Optimism about the pace of the economic recovery — driven by a speedy vaccination campaign in the US, accommodative monetary policy, and further fiscal stimulus from the federal government — contributed to a rise in interest rates, with the yield on the 10-year note rising to 1.74% by the end of the quarter. Although interest rates remain at low levels by historical standards, we took advantage of the increase in rates to reduce the Fund’s cash holdings from 12% to 10%, with investments in several longer-term corporate bonds.

Looking Forward

Market volatility and economic disruption are likely to persist until the numerous shocks are addressed or lessen in severity. Portfolio comparison to market indices is problematic with fast-moving news and uncertain outlooks. Approximately 50% of the Fund’s equity portion is valued below a 21.6 forward price-to-earnings market multiple. The Fund generally holds positions in companies with strong balance sheets; the average net debt to market cap was under 21% at quarter-end. Equity capital allocation remains near the 60% mandate level, and focus remains biased to value and income characteristics with an emphasis on value.

The Sextant Short-Term Bond Fund returned -0.85% for the first quarter of 2021. Its benchmark, the FTSE USBIG Govt/Corp 1-3 Year Bond Index, returned -0.03%. However, for the past 12 months the Fund returned 2.69%, outperforming the 1.70% return of the Index.

The Sextant Bond Income Fund returned -6.39% year-to-date, compared to the -3.49% return of its benchmark, the FTSE USBIG Bond Index. For the past 12 months the Fund returned 0.44%, 32 basis points behind the 0.76% return for the Index.

The main driver of underperformance in the first quarter was the steepening yield curve and the longer duration of the Bond Income Fund relative to the Index. At quarter-end, the Bond Income Fund had an option-adjusted duration (price sensitivity to interest rate movement) of 9.07 years versus 6.36 of the Index.

Thus far, 2021 has been defined by a dramatic rise in Treasury yields. We first started to see the steepening trend in November around the election and it has continued through the subsequent rollout of COVID-19 vaccines. As a result of the $1.9 trillion stimulus bill and a wider distribution of vaccines, markets have adjusted for growth prospects and potentially higher inflation. Treasurys saw their worst quarter in 40 years, with the 30-year moving 77 basis points upward to 2.41%, inline with pre-pandemic levels.  The Bloomberg Barclays US Treasury Index, a long duration US Treasury benchmark that only includes US Treasurys with a duration of 10-years and longer, experienced a decline of -13.51% in just the first quarter of 2021.

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The defensive positioning of the Bond Income Fund and its large cash position of 11.8% resulted in performance that was favorable relative to the Morningstar category. Year-to-date, the Fund was in the 34th percentile in the Long-Term Bond category.

At quarter-end, the Short-Term Bond Fund had a duration of 2.41 years, with 43% of exposure in the three- to five-year maturity bucket. This slightly longer maturity profile relative to the Index resulted in underperformance in the first three months of the year, but also contributed to the 12-month outperformance of 99 basis points. We expect the front-end of the curve to remain relatively stable, with potential for additional steepening on the long end.

2020 was marked by a great deal of volatility, especially in March. However, after the initial yield surge, corporate spreads tightened significantly throughout the year. This past quarter saw that trend slow, especially in the long end, spurred by the steepening Treasury curve. Investment-grade corporate bonds were especially impacted, with 10-year yields in “AA,” “A,” and “BBB” bonds rising by as many as 80 basis points. The best performing securities were lower-rated bonds, especially for bonds rated “B” across the curve and bonds rated “BB” with maturities longer than five years, as improved economic prospects bolstered corporate credit expectations.

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The best performing security in both the Bond Income Fund and the Short-Term Bond Fund was Teva Pharmaceuticals (3.65% 11/10/2021), returning 0.86% in the quarter. This follows the general trend in corporate credit spreads; the bond is rated “BB” and benefited from the outperformance of corporate credit. While the Funds are limited to purchasing only investment-grade securities, they can hold a legacy position after a downgrade if the portfolio managers deem the bond to still be in-line with the Funds’ goals.

In the Sextant Short-Term Bond Fund, the bottom performer was the longest position held in the Fund. PayPal 2026 returned -3.07% for the quarter and was hurt by the overall steepening of the yield curve. The Bond Income Fund had a similar pattern, with the lowest total returns in the longest positions. The 2048 position in US Treasurys returned -13.78% for the quarter.

Even with stronger economic growth on the horizon, we continue to focus on purchasing holdings that are wellpositioned with strong cash flow and financial flexibility. Defensive positioning in the portfolio is geared to withstand an uneven economic recovery and the possible challenges of emerging variants of the virus. Even with a vaccine, there are many hurdles in the way of a full recovery from the pandemic, including the expiration of eviction moratoriums and a surge in COVID-19 infections due to easing restrictions. In the longer-term, we also must consider the potential for inflation. With the Federal Reserve’s stance that it will let the curve steepen and that it will not be reactive to inflation, there could be room for further steepening of the curve. We will be vigilant for opportunities that remain obscured below the surface and will continue to help our clients navigate these obstacles.