Gavin Graham, trustee of Pointbreak ETFs
Focus: North American and global large caps
_______________________________________________________________

MARKET OUTLOOK

The result of the German election, with both Angela Merkel's CDU (Christian Democratic Union of Germany) and its socialist opposition the SPD (Social Democratic Party of Germany) losing votes to the nationalist AfD (Alternative for Germany) and the smaller FDP (Free Democratic Party) and Greens shows that populism is not dead, despite claims to the contrary after the Dutch and French elections. Together with Brexit and Trump`s election, four of the major western economies (the U.S., U.K., Germany and France) have seen substantial numbers of voters expressing discontent with the status quo in the last 15 months.

Given that stock markets in the U.S., the U.K. and much of Europe are at all-time highs, valuations are stretched, interest rates are going up in the U.S. and Canada and quantitative easing is being withdrawn in the U.S., the Eurozone, the U.K. and potentially Japan. Many stocks look vulnerable to a selloff. Combined with low liquidity in many areas such as corporate and high yield bonds, and even some equities, due to market makers and banks having reduced their exposure due to higher capital requirements, markets could see a sharp break, especially in the popular areas such as technology, notably the FAANG stocks.

Given the enormous profits that many investors have made in these sectors, some caution is indicated; it's never wrong to take a profit. Investors should maintain a balanced asset allocation, with defensive sectors such as telecoms, utilities and pipelines and other interest sensitive sectors that have lagged. A meaningful exposure to gold and gold miners is even more sensible given that gold has emerged from its bear market.

TOP PICKS

FAIRFAX FINANCIAL (FFH.TO)
Recommended in Income Investor in September at $631.
Fairfax, run by longtime CEO Prem Watsa, often described as the Warren Buffett of Canada, is the third largest commercial lines insurer in Canada and also has a large reinsurance business through its Odyssey Re subsidiary. Like Buffett's Berkshire Hathaway, Fairfax is consistently profitable at underwriting and uses the free capital generated to invest in numerous businesses, usually following a deep value philosophy. These include Cara Operations, BlackBerry and AGT Food & Ingredients in Canada, and European banks and African and Asian financial and operating businesses through its two listed subsidiaries Fairfax India (FFI_u.TO) and Fairfax Africa (FFA_U.TO). Having been wrongly bearish on the U.S. stock market over the last few years, Mr. Watsa has unwound his short position and recently showed the value of Fairfax`s subsidiaries by selling portions of its ICICI Lombard and Fairfax Singapore insurance subsidiaries for large gains, while closing the acquisition of insurer Allied World for US$4.9 billion, its largest deal ever. Capitalized at $14.5 billion, it yields 2.1 per cent after declining 15 per cent in the last 12 months.

SLATE RETAIL REIT (SRT_u.TO)
Recommended in Income Investor in May at $15.15.
Slate Retail owns and operates a  $1 billion portfolio of food-anchored U.S. retail malls in 23 states and sells at a discount of one third to the value of the properties (US$125 per sq. ft. versus US$175). While investors have been concerned about the entry of Amazon into the food retailing area through its purchase of Whole Foods, food retailing is one area where the economics of internet retailing are not especially attractive outside of concentrated metropolitan areas, given the bulky and low value nature of many food items, and concerns over outsourcing choosing something as personal as food. Slate Retail has a market cap of $510 million and yields 7.5 per cent in USD after declining 10 per cent over the past 12 months.

CALIAN GROUP (CGY.TO)
Recommended in Income Investor in July at $27.18.
Calian is an Ottawa-based operator of two information technology businesses employing 2,900 people in Canada and the U.S. Its Business Technology Services division caters to industry and government in health, engineering, training and IT services, including operating 145 primacy medical clinics near Loblaw stores in all 10 provinces, and the Military Family Services programme to the spouses and families of Canadian military personnel. Its Satellite Engineering Division plans and implements complex communications systems for space agencies and satellite operators worldwide. Calian has been one of the most consistently profitable Canadian small cap companies, earning 17 to 18 per cent RoEs over the last five years. It recently bought International Safety Response, which provides nuclear and radiation safety and response services to government and private customers. It has a market cap of $230 million and yields 4 per cent, having risen 30 per cent in the last 12 months.
 

PAST PICKS: OCTOBER 19, 2016

VODAFONE (VOD.O)

• Then: $27.76
• Now: $28.40
• Return: 2.32%
• Total return: 8.60%

ZCL COMPOSITES (ZCL.TO)

• Then: $10.70
• Now: $12.76
• Return: 19.14%
• Total return: 29.20%

GOLDCORP (G.TO)

• Then: $20.11
• Now: $16.11
• Return: -19.86%
• Total return: -19.39%

TOTAL RETURN AVERAGE: 6.13%
 

WEBSITE: www.grahaminvestmentstrategy.com