Full episode: Market Call for Thursday, April 11, 2019
Bryden Teich, portfolio manager at Avenue Investment Management
Focus: North American equities
Interest rates have moved down significantly so far in 2019. A slower economic growth backdrop has pushed central banks to the sidelines around the world, notably the Fed, ECB and Bank of Canada. This has been a major contributor to the higher stock markets we’ve seen thus far in 2019.
The economic data so far this year has been soft in the U.S. and Canada, but not terrible. Our focus from a macro perspective is on looking out for the duration of this year and trying to determine if the economic backdrop is conducive to decent growth in 2019 and 2020. The jobs market seems to be resilient and the leading economic indicators are also still in positive territory. Key metrics to focus on are consumer and business confidence. Although they’ve recently pulled back from near all-time high levels, they’re still showing positive readings that would be conducive to a moderately expanding economy.
If the economy continues to expand moderately, then I think we’re looking at an environment where the stock market could move higher on late-cycle multiple expansion. This is something that we’re watching for very closely. Positive momentum on US - China trade talks and also Brexit would help market sentiment through the balance of the year.
On the other hand, retail sales have been weak in the U.S. and industrial production has been soft as well. The jobs data each month becomes more and more important as an indicator to see if the economy is still expanding.
The biggest red flag is that the U.S. is also increasing their national debt at close to 7 per cent of GDP this year (which is absolutely crazy) and running an official deficit of somewhere between 4 and 5 per cent of GDP, an unprecedented level given we’re so late in the economic cycle. This isn’t sustainable over the longer term. In the next Fed cutting cycle there’s a strong chance we see a much weaker U.S. dollar because the central bank will have to embark on a large-scale quantitative easing program that includes outright debt monetization. Although the U.S. dollar remains strong, the current situation makes us more cautious on the outlook over the next few years.
The yield curve is also beginning to flash a yellow sign which doesn’t bode well for the medium-term economic growth outlook. Investors should be watching closely the spread between overnight interest rates and the five- and 10-year rates. The interest rates market is pricing in the next move in rates as a cut by the BoC and the Fed. This is something to watch for.
Over the past six months, we have continued our focus on adding quality and yield to our equity portfolio. We want to be positioned for the market to move higher on any late-cycle multiple expansion, but in a way that protects our portfolio in a downside scenario. We’re weighted at roughly 23 per cent in high-yield bonds, MICs and cash which gives us our insurance policy against market volatility.
SUPERIOR PLUS (SPB.TO)
Superior is an energy and chemicals distributor that has a core part of their business in propane distribution throughout the U.S. Northeast. They have executed on a number of acquisitions over the last few years which has helped the company expand their geographical footprint and also continue to add more retail customers, which provide for higher margins than their wholesale distribution segments. Because of the colder winter in the region, they’ve maintained company guidance at the high end of their expectations for 2019. The shares currently yield 6.25 per cent and have a payout ratio of less than 50 per cent. We think the shares are trading at an attractive multiple and there is ample room for the company to continue to add tuck-in acquisitions throughout the year.
VERMILION ENERGY (VET.TO)
Vermilion is a diversified energy producer that has assets in Saskatchewan, Europe, and parts of the U.S. They are one of the few Canadian producers who have exposure to Brent and European natural gas pricing which has been a key stabilizer for the business relative to the volatile oil price environment in North America we have experienced over the past few years. The shares are yielding over 8 per cent and give investors a stable way to gain exposure to a recovery in the sentiment of the energy sector. Vermillion also has a very strong management team who has consistently shown a disciplined approach over the years to balancing growth capital spending, sustainable dividends and strategic acquisitions.
Onex is a diversified private equity company that has a long history of generating strong returns for investors. They have a well-diversified ownership of businesses across different sectors including electronics manufacturing, healthcare, food and retail and information services. We have a positive view on the asset management space in general and think that Onex is well positioned to benefit from the continued growth in private market asset management over the coming years. We think the net asset value of Onex per share will be close to $95 by the end of this year, with almost $20 of that in cash. We think that buying Onex at today’s price is like buying $1 for 78 cents.
PAST PICKS: MARCH 1, 2018
ALIMENTATION COUCHE-TARD (ATDb.TO)
- Then: $62.58
- Now: $81.24
- Return: 30%
- Total return: 31%
BROOKFIELD BUSINESS PARTNERS (BBU_u.TO)
- Then: $43.91
- Now: $52.98
- Return: 21%
- Total return: 21%
- Then: $40.78
- Now: $49.74
- Return: 22%
- Total return: 30%
Total return average: 28%