• Despite inklings of a market broadening in the fourth quarter sparked by Donald Trump’s election victory and further interest rate cuts from the Federal Reserve, the post-election rally proved short-lived and momentum-led with relatively narrow leadership.
• Against this backdrop the Strategy performed well, with strong contributions from energy, financials and information technology (IT) sectors.
• We continue to seek out and analyze those companies that can represent the next generation of dividend aristocrats and have identified a number of our existing holdings that could reach that status over time.

Despite inklings of a market broadening in the fourth quarter sparked by Donald Trump’s election victory and further interest rate cuts from the Federal Reserve, the post-election rally proved short-lived and momentum-led with relatively narrow leadership. Rate cuts came amid strong economic data that began to support the case for a slower easing cycle from the Federal Reserve than had been expected. This, along with potentially reflationary policy from the Trump administration, such as tariffs, as well as slight upticks in inflation, put some upward pressure on interest rates, causing some weakness in economically sensitive and rate-sensitive sectors. In the broad market, mega cap tech leadership helped the consumer discretionary, communication services and IT continue their 2024 dominance in the fourth quarter, along with financials. Tariff and inflation concerns, meanwhile weighed on cyclical, rate-sensitive and defensive sectors, with materials, health care, real estate and utilities the bottom performers.

Against this backdrop the Strategy performed well, with strong contributions from energy, financials and information technology (IT) sectors. In energy, Energy Transfer LP shares rose as the Trump win in the U.S. presidential election and the Republican sweep raised expectations of greater oil and gas production, raising volumes for pipelines. Apollo Asset Management 6.75% convertible preferred shares performed well as the Trump win raised the prospect of lower taxes and less regulation, bolstering hopes for continued positive economic momentum, increased M&A activity and greater corporate profits. Meanwhile, Broadcom continued to perform well following earnings that maintained optimism around revenues from continued hyperscaler spend.

Real estate was the main detractor: American Tower shares declined following the U.S. election, as the market perceived it as a relative loser in the wake of Trump’s victory. Trump’s policies are also viewed as potentially inflationary, leading to a spike in bond yields, which is particularly impactful for towers given their sensitivity to interest rates. Lineage missed revenue estimates in its latest earnings report and the real estate sector was weaker as Treasury yields remained stubbornly high. In the consumer discretionary sector but connected to the real estate market, homebuilder Lennar shares were down due to renewed concerns inflation would keep interest and mortgage rates elevated, weighing on the housing market.

Market risks remain elevated as a result of anemic economic activity due to still-high interest rates, tight financial conditions and political uncertainty, which remains high due to the unpredictability of policy decisions in areas such as tariffs, taxes and spending priorities. The war in the Middle East adds an additional layer of risk to the overall market, although the U.S. equity market has largely brushed aside the contagion risk of a broader conflict. The U.S. housing market remains weak, in large part due to still-high mortgage rates and weakening economic fundamentals. Corporate earnings are solid but remain under pressure from a slowing economy and high interest rates, which puts upward pressure on interest expense. We believe the Federal Reserve will pause its rate decreases for the time being but we continue to anticipate a couple of additional cuts over the next 12 months, which we view as a positive for the economy more broadly and risk assets such as stocks in particular.

As always, we carefully weigh short-term risks against the longer-term backdrop, and our assessment is that the environment remains challenging for risk assets such as common stocks in the short term. In the long term, we continue to be comfortable owning high-quality companies that exhibit leadership positions in their sectors, have sound balance sheets, generate strong free cash flow and offer attractive dividend yields and dividend growth potential. In particular, we seek out and analyze those companies that can represent the next generation of dividend aristocrats and have identified a number of our existing holdings that could reach that status over time.

We remain opportunistic and tactical in managing through the high level of volatility in the energy market. Oil supply is adequate for the time being but could be at risk if the war in the Middle East were to target oil-related infrastructure such as that in Iran, or should geopolitical tensions involve increased oil/natural gas sanctions on Russia. We continue to emphasize balance sheet strength, asset footprint diversity and quality, and we carefully assess our holdings with an eye toward managing successfully through the short-term disruption and thriving in the long term. We continue to believe that in the long term, midstream companies and MLPs continue to represent an attractive investment opportunity as the U.S. continues to cement its status as an energy superpower and exhibit sustained hydrocarbon production increases, which can bode well for high-quality energy MLPs as volumes to be processed are poised to increase over time.

With relative weakness in the REIT sector over the past year, largely a result of high interest rates, we continue to assess whether our exposure warrants a change. As always, we emphasize those REITs with strong balance sheets, ample cash flows, leadership positions in their sectors and attractive valuations. In particular, we continue to hold infrastructure REITs such as data center REITs and telecommunication REITs where growth opportunities remain robust due to the buildout of artificial intelligence and cloud computing. We believe these next-generation REITs are well-positioned to capitalize on this large opportunity ahead.

We continue to believe alternative asset managers are an attractive long-term opportunity as many institutional investors seek uncorrelated returns, which these alternative asset managers can provide. Further, they operate in a loosely regulated environment, unlike their large bank counterparties, providing a competitive and sustainable advantage. We particularly like the sector leaders and we expect the growth of assets under management for them to continue to increase.

We remain bullish about the growth prospects for our technology holdings, especially those holdings that have the prospect for outsize growth opportunities in the artificial intelligence and cloud computing ecosystem. This includes hyperscalers, select software companies, semiconductor investments and some energy and utility companies. In our view, the portfolio is well-positioned to capitalize on these trends, which we believe to be large and long term in nature.

The ClearBridge Tactical Dividend Income Strategy outperformed its blended benchmark (60% to the Russell 3000 Value Index, 20% Alerian MLP Index, 20% MSCI U.S. REIT Index) in the fourth quarter. On an absolute basis, the Strategy had gains in five of 10 sectors in which it was invested (out of 11 sectors total). The main contributors were the energy and financials sectors, while the real estate and health care sectors were the main detractors.

On a relative basis, stock selection and sector allocation were additive. In particular, stock selection in energy, IT and financials as well as real estate and health care underweights proved beneficial, while stock selection in consumer discretionary, consumer staples, real estate and industrials detracted.

On an individual stock basis, Energy Transfer LP, Broadcom, Apollo Asset Management 6.75% convertible preferred shares, Blue Owl Capital and Enterprise Products Partners LP were the largest contributors to absolute performance. The main detractors from absolute returns were positions in Lennar, American Tower, Lineage, NextEra Energy 6.926% convertible preferred shares and Lockheed Martin.

Larger positions initiated included Cheniere Energy in the energy sector, Boeing 6% convertible preferred shares in the industrials sector, Ares Management convertible preferred shares in the financials sector and Intuit in the IT sector. We exited DTE Energy in the utilities sector as well as Target and Nestle in the consumer staples sector.