Market Commentary

September 2011

Friday, September 30, 2011

During the past quarter, the energy sector continued to trend downwards, pronounced by particularly sharp selloffs at the beginning of August and end of September. Throughout the summer, we were extremely active in positioning the Fund away from less liquid, small capitalization holdings, and into large and intermediate market capitalization, stronger balance sheet exploration and production (E&P) companies. This approach has served us well given the significant market decline during the third quarter.

There remain several unresolved issues surrounding macro driven events weighing on the market, the primary one being the European debt problems. However, especially in energy, the market correction has been significant, with the energy index down 33% since the 2011 high at the beginning of March. Exiting the third quarter commodity prices remained relatively strong. Despite this, stock prices for many companies were approaching the lows reached in early 2009. As such, we continue to identify opportunities for the deployment of capital into a number of financially strong and reasonably valued companies.

As a result of a very wet spring break-up that continued into the month of July, many E&P companies were behind on executing their capital programs and were playing catch-up during the third quarter. This increased activity led to higher service costs for E&P companies. As a result, we expect third quarter capital programs from E&P companies to be slightly above budget, with production numbers more or less in-line. As E&P companies begin to announce their capital programs for the upcoming year, we anticipate more clarity regarding planned activity for 2012. Specifically, as a result of lower commodity prices and a reduced window for raising equity, we expect that continued volatility in the market will force the majority of companies to remain disciplined in their spending. This will result in minimal growth profiles for a number of E&P companies, however we have identified a select number of entities that we expect will continue to provide top quartile growth while maintaining their financial flexibility.

We anticipate the next three quarters to be very good for companies in the service sector as pricing has inched higher throughout 2011 and utilization rates remain strong. We expect activity to remain robust throughout the upcoming winter season. However, our expectation for restricted E&P capital budgets could be negative on the sector for the second half of 2012.

Since March of this year we have maintained a very cautious outlook. We continue to be excited about the growth potential for the Fund as we have positioned our investments to be more heavily weighted towards large and intermediate companies with good liquidity, solid balance sheets, strong growth and cash flow outlooks and an abundance of economic oil and liquids rich natural gas drilling inventories. At this point in the cycle, we are seeing very attractive valuations and we have begun investing more aggressively in high-grade names in the sector.