Canadian Balanced Fund

Canadian Balanced Fund Commentary

Portfolio Sub-Advisor: QV Investors Inc.

Fund Commentary - March 31, 2012

Both government and corporate issuers continued their strong pace of issuance activity during the quarter. The Portfolio Sub-Advisor increased the Fund's allocation in corporate and provincial bonds due to their belief that low yields on federal bonds seemed unsustainable. The Portfolio Sub-Advisor sold, at profits, some federal bonds to fund this allocation shift.

The Portfolio Sub-Advisor purchased two new issues in the quarter, a 5-Year, AA-rated Province of Manitoba bond at a yield of 2.02%, and a 5-Year, AA-rated Bank of Nova Scotia bond at a yield of 2.55%. Despite Manitoba being impacted by severe flooding in 2011, the province continues to target a balanced budget by its fiscal year 2014/15. The Portfolio Sub-Advisor believes that stable population growth and a well-diversified economy should help the province reach this target and improve its debt burden.

The Bank of Nova Scotia improved its regulatory capital ratios over the quarter with its $1.6B equity issuance. The Canadian banking industry is preparing itself to abide by the Basel III regulatory framework by January 2013, which helps to improve banking resiliency from unpredictable shocks and leads to a healthier national banking system. The Portfolio Sub-Advisor believes that each of these new issues adequately compensate investors for the risks taken.

Equities

Although the Fund began with a conservative cash position of nearly 7.2%, the Portfolio Sub-Advisor deployed cash over the quarter to end at 6.1%. The Portfolio Sub-Advisor also removed two businesses from the Fund, Enerflex Ltd. and TransCanada Corp. Enerflex is engaged in the design and manufacture of natural gas compression systems. With its valuation stretched and near-term growth subdued, the Portfolio Sub-Advisor took the opportunity to exit the position and reduce cyclical exposure. The Portfolio Sub-Advisor removed the Fund's position in TransCanada for similar valuation reasons, including some balance sheet risk.

The Portfolio Sub-Advisor believes attractive businesses still exist at good value. The Portfolio Sub-Advisor introduced three new companies to the strategy in the quarter: ATCO Ltd. (ACO.x), Macdonald Dettwiler & Associates Ltd. (MDA), and Genworth MI Canada Inc. (MIC).

ATCO is a complement to current Fund holding Canadian Utilities Ltd. (CU), of which it owns 52.7%. The valuation of CU is approaching high territory relative to the overall Fund. But through ATCO the Fund can benefit from CU's regulated utility operations, and from a diversified portfolio of cash-flow generating businesses at more reasonable valuation.

MDA provides advanced information solutions to businesses and governments worldwide. The Company has a cash-rich balance sheet and has lowered its debt every year since 2008 with plans to further reduce it annually. The Portfolio Sub-Advisor applauds management's conservatism in combination with the company's history of generating double-digit return on equity. Of the 32 businesses held in the Fund, 27 have increased dividends in the past year. MDA is one of them. The company pays a dividend that currently yields 2.8%, slightly below the S&P/TSX Composite Index yield of 2.9%.

Genworth is Canada's largest private sector mortgage insurance provider. The company has a strong franchise built on good capital ratios and a high-quality portfolio of borrowers. Its valuation reflects the market's fear and uncertainty around the Canadian housing sector. The Portfolio Sub-Advisor saw this as an opportunity to buy a solid business with consistent cash flow to support and grow its 5.4% dividend yield. Adding Genworth has assisted in safely improving the Fund's internal yield to 2.8% from 2.6% at the end of Q4 2011.

Shares of SNC-Lavalin, a global engineering and construction company, dove 23% in late February following news of lower expected earnings for 2011, including mysterious "period expenses" of $35 million. In mid-March it announced the findings from its independent investigation surrounding these expenses and another $20 million that led to the departure of its CEO.

SNC plans to swiftly implement the improvements suggested by its Audit Committee. SNC's engineering and construction segment is trading at roughly 11 times its estimated 2012 earnings, compared to an industry median of around 16 times. It continues to win projects and grow its revenue backlog in light of current events. SNC also owns infrastructure assets that produce meaningful and stable cash flows. The Portfolio Sub-Advisor cannot disregard its lack of management oversight but is encouraged by the recent action on the part of the board of directors to rectify its problems of governance.

Outlook

The Portfolio Sub-Advisor believes that while the business cycle appears to have some positive momentum, the rate of change in equity prices in the first quarter is too high to be sustainable. While relative valuations continue to favour holding more equities than fixed income securities, the Portfolio Sub-Advisor treads cautiously as rising interest rates represent a risk to both bonds and equities.