Q2 2022

During the second quarter of 2022, the Federal Reserve officially removed “transitory” from its dictionary, acknowledging that inflation remained higher and more persistent than expected.  Fears of further acceleration pushed the Fed governors to break out their bazookas, hiking the fed funds rate by 50 basis points (bps) on May 4 and then by 75 bps on June 15, pushing the rate to 1.58% compared to less than a tenth of a percent at the start of the year.¹  The last time the Fed increased rates by 75 bps was November 1994.²  Apart from the carnage in bond markets, anticipation of the spike helped push the stock market, as measured by the S&P 500 Index, into bear market territory in June by declining nearly -20% from its peak at the start of the year.  In fact, the January-June 2022 performance of the S&P 500 was its worst since 1970.  Interestingly, there have been six previous stock market declines of at least -15% in the first half of the year since 1932, and each were followed by an average 24% bounce in the second half.³  Perhaps that history steels the spines of Fed governors who are unanimous in their view that more increases are necessary to rein in inflation, which climbed to 8.6% in May, the highest since 1981.⁴  According to the Fed “dot plot,” every governor anticipates a fed funds target level midpoint of more than 3%, ranging from 3.125% to 3.875%.⁵

Such aggressive monetary tightening raises the prospect of tipping the economy into recession.  While the aggressive hikes of 1994 succeeded in engineering a “soft landing,”⁶ the Fed was acting preemptively to head off price pressures at that time, rather than racing to catch up to an inflationary ship that had left port.  Nor was the Fed simultaneously engaged in quantitative tightening, working to assess global supply chain bottlenecks, or studying the effects of a major Russian invasion on commodity markets.  Given the confluence of events, escaping an economic downturn would be a feat worthy of Houdini.  Indeed, Fed Chairman Jerome Powell has admitted as much: “Is there a risk we would go too far? Certainly there’s a risk.  The bigger mistake to make — let’s put it that way — would be to fail to restore price stability.”⁷

Environment and Outlook

What about the stock market?  As noted above, we entered bear market territory in June.  Apart from the occasional short-lived upswing and a relief rally inspired by Ukrainian battlefield success in the second half of March, the market has consistently trended down.  While market declines have lowered valuations and heartened some investors, valuation depends on two factors: price and earnings.  Lower stock prices and steady earnings estimates, as we have seen to-date, lead to lower valuations.  But what happens if (or when) the earnings estimates fall?  We cannot say with certainty that the Fed’s actions inevitably imply recession, but history points to chances being more likely than not, while recessions do inevitably lead to earnings reductions.

As we emerge from the current period of disruption, what sort of environment can we expect on the other side? There are two competing theses.  The first is that we return to a period like the decade following the Global Financial Crisis (GFC): anemic growth, low inflation, and low interest rates.  Presumably, such an easy money environment would support renewed asset price inflation with housing and stocks once again off to the races, the latter focusing on growth opportunities, be they immediate or in the future.  Elements contributing to this outlook include the deflationary effect of aging demographics, stagnant-to-falling developed world populations, and continued efficiency gains from technological developments such as automation.

The second thesis is that a pullback in globalization (coupled with an end to the China-driven surge in working age population that has helped restrain prices for much of the century) will empower workers to demand higher wages, leading companies to increase prices, creating a cycle of embedded inflation and implying higher interest rates.  Any sign of trouble will spur governments to act more aggressively than they did following the GFC and more closely follow their pandemic playbooks, given the apparent victory of Modern Monetary Theory and the absence of bond market vigilantes.

While it is far too early to settle upon the likely outcome, between now and then we face the highest interest rates in decades.  Given our focus on strongly cash generative, low-debt companies, such an environment may prove relatively beneficial for our investments.  They will not be burdened by high interest payments and may be able to exploit difficulties faced by other, more heavily indebted companies, or take advantage of opportunities to invest when others cannot.

Sextant Growth Fund

Sextant International

Sextant Global High Income

Sextant Core Fund

Sextant Short-Term Bond Fund, Sextant Bond Income Fund

Performance Summary

As of June 30, 2022

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Performance data quoted represents past performance, is before any taxes payable by shareowners, and is no guarantee of future results.  Current performance may be higher or lower than that stated herein.  Performance current to the most recent month-end is available by calling toll-free 1-800-728-8762 or visiting www.sextantfunds.com.  Average annual total returns are historical and include change in share value as well as reinvestment of dividends and capital gains, if any.  The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost.  Shares of a fund may only be offered for sale through the fund’s prospectus or summary prospectus.

^A By regulation, expense ratios shown are as stated in the Funds' most recent prospectus or summary prospectus, dated March 30, 2022, and incorporate results from the fiscal year ended November 30, 2021. Higher expense ratios may indicate higher returns relative to a fund’s benchmark. The adviser has voluntarily capped actual expenses of Sextant Global High Income at 0.75% and actual expenses of Sextant Short- Term Bond at 0.60% through March 31, 2023.

^B Z Shares of Sextant Growth and Sextant International Funds began operations June 2, 2017.

^C Sextant Global High Income Fund began operations March 30, 2012.

The S&P 500 Index is an index comprised of 500 widely held common stocks considered to be representative of the US stock market in general.  The NASDAQ Composite Index measures the performance of more than 5,000 US and non-US companies traded "over the counter" through NASDAQ.  The MSCI EAFE Index is an international index focused on Europe, Australasia, and the Far East.  The MSCI ACWI Index, produced by Morgan Stanley Capital International, measures equity market performance throughout the world.  The S&P Global 1200 Index is a global stock market index covering nearly 70% of the world's equity markets.  The Bloomberg Barclays Global High Yield Corporate Bond Index is a rules-based, market-value weighted index engineered to measure the non-investment grade, fixed-rate, taxable, global corporate bond market.  The Dow Jones Moderate Portfolio Index is a broad-based index of stock and bond prices.  The Bloomberg US Aggregate 1-3 Years Index tracks bonds with 1-3 year maturities within the flagship Bloomberg US Aggregate Bond Index. The Bloomberg US Aggregate Bond Index is a broad-based, flagship benchmark that measures the investment-grade, US dollar-denominated, fixed-rate taxable bond market. The FTSE US Broad Investment-Grade Bond Index is a broad-based index of medium and long-term investment-grade bond prices. ICE BofA 7-10 Year US Corporate Index is a subset of ICE BofA US Corporate Index including all securities with a remaining term to final maturity greater than or equal to 7 years and less than 10 years. ICE BofA US Corporate Index tracks the performance of US dollar-denominated investment-grade corporate debt publicly issued in the US domestic market. When available, Saturna uses total return components of indices mentioned.  Investors cannot invest directly in the indices.

A fund's 30-Day Yield, sometimes referred to as standardized yield, current yield, or SEC yield, is based on methods of computation prescribed in SEC Form N-1A.  Calculated by dividing the net investment income per share during the preceding 30 days by the net asset value per share on the last day of the period, the 30-Day Yield provides an estimate of a fund's investment income rate, but may not equal the actual income distribution rate.

Morningstar Ratings™

As of June 30, 2022

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Performance data quoted herein represents past performance and does not guarantee future results.

© 2022 Morningstar®. All rights reserved.  Morningstar, Inc. is an independent fund performance monitor. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete, or timely.  Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information.

^A Morningstar Ratings^™ ("Star Ratings") are as of June 30, 2022. The Morningstar Rating^™ for funds, or "star rating", is calculated for managed products (including mutual funds, variable annuity and variable life subaccounts, exchange-traded funds, closed-end funds, and separate accounts) with at least a three-year history.  Exchange-traded funds and open-ended mutual funds are considered a single population for comparative purposes.  It is calculated based on a Morningstar Risk-Adjusted Return measure that accounts for variation in a managed product's monthly excess performance (not including the effects of sales charges, loads, and redemption fees), placing more emphasis on downward variations and rewarding consistent performance.  The top 10% of products in each product category receive 5 stars, the next 22.5% receive 4 stars, the next 35% receive 3 stars, the next 22.5% receive 2 stars, and the bottom 10% receive 1 star.  The Overall Morningstar Rating for a managed product is derived from a weighted average of the performance figures associated with its three-, five-, and 10-year (if applicable) Morningstar Rating metrics.  The weights are: 100% three-year rating for 36-59 months of total returns, 60% five-year rating/40% three-year rating for 60-119 months of total returns, and 50% 10-year rating/30% five-year rating/20% three-year rating for 120 or more months of total returns. While the 10-year overall star rating formula seems to give the most weight to the 10-year period, the most recent three-year period actually has the greatest impact because it is included in all three rating periods.

% Rank in Category is the fund’s percentile rank for the specified time period relative to all funds that have the same Morningstar category.  The highest (or most favorable) percentile rank is 1 and the lowest (or least favorable) percentile rank is 100.  The top-performing fund in a category will always receive a rank of 1.  Percentile ranks within categories are most useful in those categories that have a large number of funds.

Unshaded stars indicate extended performance.  Extended performance is an estimate based on the performance of a fund's oldest share class, adjusted for fees.

The Sextant Growth and Sextant International Funds offer two share classes – Investor Shares and Z Shares, each of which has different expense structures.  

Footnotes

¹ “Federal Funds Effective Rate.” FRED: Economic Data. https://fred.stlouisfed.org/series/DFF

²  Klebnikov, Sergei. “Here’s How Markets Reacted Last Time The Fed Hiked Rates By 75 Basis Points.” Forbes, June 14, 2022. https://www.forbes.com/sites/sergeiklebnikov/2022/06/14/heres-how-markets-reacted-last-time-the-fed-hiked-rates-by-75-basis-points/?sh=66ab30d96b3b

³  Otani, Akane. “Stock Markets Post Worst First Half of a Year in Over Five Decades.” The Wall Street Journal, July 1, 2022. https://www.wsj.com/articles/markets-head-toward-worst-start-to-a-year-in-decades-11656551051?mod=djemMoneyBeat_us

⁴  “United States Inflation Rate.” Trading Economics. https://tradingeconomics.com/united-states/inflation-cpi

⁵  Federal Open Market Committee. “FOMC Projections materials.” Board of Governors of the Federal Reserve System, June 15, 2022. https://www.federalreserve.gov/monetarypolicy/fomcprojtabl20220615.htm

⁶  Ibid.

⁷  Timiraos, Nick, and Fairless, Tom. “Powell Says Fed Must Accept Higher Recession Risk to Combat Inflation.” The Wall Street Journal, June 29, 2022. https://www.wsj.com/articles/powell-says-pandemic-could-alter-inflation-dynamics-11656509259

⁸  Canuto, Otaviano. “Quantitative Tightening and Capital Flows to Emerging Markets?” TheStreet, June 24, 2022. https://www.thestreet.com/economonitor/financial-markets/qt-and-k-flows-to-em

⁹  Duguid, Kate, Smith, Colby, and Stubbington, Tommy. “Fed begins quantitative tightening on unprecedented scale.” Financial Times, June 14, 2022. https://www.ft.com/content/2496105a-d211-4abe-ab5d-46a91876428f

Important Disclaimers and Disclosure

This publication should not be considered investment, legal, accounting, or tax advice or a representation that any investment or strategy is suitable or appropriate to a particular investor’s circumstances or otherwise constitutes a personal recommendation to any investor. This material does not form an adequate basis for any investment decision by any reader and Saturna may not have taken any steps to ensure that the securities referred to in this publication are suitable for any particular investor. Saturna will not treat recipients as its customers by virtue of their reading or receiving the publication.

The information in this publication was obtained from sources Saturna believes to be reliable and accurate at the time of publication.

All material presented in this publication, unless specifically indicated otherwise, is under copyright to Saturna. No part of this publication may be altered in any way, copied, or distributed without the prior express written permission of Saturna.

Asset-weighted average debt to market capitalization:  This ratio represents the average debt to market capitalization of the portfolio. It is calculated by taking the debt to market capitalization for each company (its debt divided by its market capitalization), weighting these values (multiplying each by the company’s percent share of total portfolio assets), and then totaling the weighted values.

Effective maturity and modified duration are measures of a fund’s sensitivity to changes in interest rates and the markets. A fund’s effective maturity is a dollar-weighted average length of time until principal payments must be paid. Longer maturities typically indicate greater sensitivity to interest rate changes than shorter maturities. Modified duration differs from effective maturity in that it accounts for interest payments in addition to the length of time until principal payments must be paid. Longer durations tend to indicate greater sensitivity to interest rate changes than shorter durations. Call options and other security-specific covenants may be used when calculating effective maturity and modified duration.

A Few Words About Risk

The Growth Fund may invest in smaller companies, which involve higher investment risks in that they often have limited product lines, markets, and resources, or their securities may trade less frequently and have greater price fluctuation than those of larger companies.

The International Fund involves risks not typically associated with investing in US securities. These include fluctuations in currency exchange rates, less public information about securities, less governmental market supervision, and lack of uniform financial, social, and political standards.

The Core Fund involves the risks of both equity and debt investing, although it seeks to mitigate these risks by maintaining a widely diversified portfolio that includes domestic stocks, foreign stocks, short and long-term bonds, and money market instruments.

Investment in the Global High Income Fund entails the risks of both equity and debt securities, although it seeks to mitigate these risks through a widely diversified portfolio that includes foreign and domestic stocks and bonds. Issuers of high-yield securities are generally not as strong financially as those issuing higher quality securities. Investments in high-yield securities can be speculative in nature. High-yield bonds may have low or no ratings and may be considered “junk bonds.”

The risks inherent in the Short-Term Bond and Bond Income Funds depend primarily on the terms and quality of the obligations in their portfolios, as well as on bond market conditions. When interest rates rise, bond prices fall. When interest rates fall, bond prices rise. Bonds with longer maturities (such as those held by the Bond Income Fund) usually are more sensitive to interest rate changes than bonds with shorter maturities (such as those held by the Short-Term Bond Fund). The Funds entail credit risk, which is the possibility that a bond will not be able to pay interest or principal when due. If the credit quality of a bond is perceived to decline, investors will demand a higher yield, which means a lower price on that bond to compensate for the higher level of risk.