May 1, 2020

Brian Madden's Top Picks: May 1, 2020

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Brian Madden's Top Picks

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Brian Madden, senior vice-president and portfolio manager at Goodreid Investment Counsel
Focus: Canadian equities

MARKET OUTLOOK

Stocks have staged a mighty rally since their recent lows on March 23 with the S&P TSX Composite up 32 per cent off its intraday low that day. While the rally has brought relief to scared and worried investors, it has not been accompanied by confirmation in the form of fundamental or technical improvement. Market breadth, or the number of stocks participating in the rally, is narrow, and the volume of trading is lower than we’d like to see to signal the all-clear on this bear market and recession. More fundamentally, economic data continues to deteriorate and corporate earnings, which are now being released for the first quarter, will get drastically worse in the second quarter. If we were confident that the second quarter would mark an abrupt V-shaped bottom in the economy and in corporate earnings, we would be inclined to overlook these ugly results. But most importantly, the health risk posed by COVID-19 lingers and may be underestimated despite the belief that the peak number of new infections may have passed us in most major economies. Bear market bottoms are often a process more so than an event or a moment in time and we remain wary of the risk of stock prices re-approaching or re-testing the March 23 lows. Accordingly, we have not yet made aggressive moves to increase risk in our portfolios. Instead, we have taken advantage of recent strength to sell companies where the medium-term fundamental outlook has deteriorated, while retaining core holdings that exhibit industry leadership, sustainable competitive advantage, financial strength and recession-resistant business models.

UPDATES

Sold Finning International (FTT TSX) on June 2019 at $21.96.

TOP PICKS

Brian Madden's Top Picks

Brian Madden of Goodreid shares his top picks: CN Rail, Brookfield Asset Management and Open Text.

CANADIAN NATIONAL RAILWAY (CNR TSX)
Latest purchase on April 2020 at $110.43.

CN Rail owns and operates a 20,000 mile railroad network that serves as the freight backbone of the continent, connecting important ports like Vancouver, Prince Rupert, Thunder Bay, Montreal, Halifax and New Orleans to population centres across North America. As the railroad that pioneered “scheduled railroading,” CN’s operating mantras include cost control, productivity, high asset utilization and increasingly, technology enablement. The result is a return on shareholder equity that has risen from 14 to 23 per cent over the last decade and earnings per share which have grown at a 14 per cent compound rate over that time frame. Trading at 22 times 2020 forecast earnings (which needless to say are cyclically depressed) and yielding 2 per cent, CN has outperformed the TSX in 17 of 25 years since its IPO.

BROOKFIELD ASSET MANAGEMENT (BAM/A TSX)
Latest purchase on April 2020 at $46.78.

Brookfield is one of the world’s foremost managers and operators of alternative assets, with expertise in sourcing transactions and surfacing value in long-duration real assets like real estate, private equity, infrastructure, renewable energy and utilities. With significant assets in Canada, the U.S., the U.K., Australia, Brazil and India, the company has tremendous reach and geographic diversity and can source transactions globally. Brookfield’s size and scale allow them to field expert teams with deep operating experience in their respective industry verticals and geographic areas. Their financial strength and variety of funding sources afford them the advantage of being among the first calls sellers of world class assets make when looking to consummate a transaction. Demand for alternative assets is outstripping demand for traditional stocks and bonds, as institutions like pension funds increase their allocations to these less efficient markets which better match their long duration liabilities. At a recent investor day, Brookfield unveiled a new tactic in their relentless quest to drive shareholder value: share buybacks, which their forecasted $45B of free cash flow over the next decade should allow them to execute upon comfortably.

OPEN TEXT CORPORATION (OTEX TSX)
Latest purchase on April, 2020 at $51.66.

Open Text is a cloud- and site-based enterprise information management software and solutions company. With a 100-million-plus user base across over 10,000 companies globally, three quarters of the company’s revenues are recurring, which affords them good sales visibility and very limited customer concentration risk. Open Text generates 95 per cent of its revenues outside of Canada, primarily in the U.S. and Europe. The current management team continues to prioritize acquisitions funded with their prolific free cash flow and since 2014 it has deployed some $6.2 billion across numerous acquisitions. Over the last 20 years, Open Text has generated a compound annual return of 13.6 per cent, nearly triple what the TSX index has achieved and a marked improvement over the negative 200-year return of the aggregate TSX tech sector, proving decisively that “boring” tech can indeed be beautiful.