Nov 21, 2018

Michael Simpson's Top Picks: Nov. 21, 2018

BNN Bloomberg

Michael Simspon , BNN Bloomberg

Michael Simpson, senior vice president and senior portfolio manager at Sentry Investments
Focus: North American dividend stocks

MARKET OUTLOOK

The market is concerned with slowing growth and the path of rising rates. The TSX is off 11.1 per cent from its July 12 high mark and the S&P 500 is off 9.8 per cent. In the U.S., companies reported strong third-quarter earnings. Aided by U.S. tax reform and a strong economy, quarterly earnings per share grew 26.5 per cent, the highest year-over-year quarterly earnings growth since 2010. Sales grew by 8.1 per cent, according to Morgan Stanley Research. Furthermore, 78 per cent of companies in the S&P 500 beat earnings estimates.

Besides interest rates, the market is also concerned about trade and tariffs. The U.S. has already imposed tariffs on steel and aluminum and a variety of Chinese goods coming into America. The latest GDP numbers from Japan and Germany were weak. Japan was affected by weather, but growth should pick up as they prepare for the Olympics.

Although growth is slowing in the U.S., we don’t feel that we’re near a recession. Our view on rate increases is that the market is overestimating their frequency in 2019. Canada has a different dynamic: We have a problem building infrastructure. Although the Western Canadian Select differentials have narrowed from $50 to $36.50, the historically wide discount is the result of a lack of pipeline capacity. The country received positive news when Shell and its partners decided to go ahead with LNG Canada; this will be a $45 billion investment and will benefit many sectors of the economy.

Our advice in the tail-end of a market correction is to take profits on speculative investments such as Bitcoin, blockchain and cannabis. Stick with profitable companies that pay and increase their dividends. It can be daunting and intimidating when the market is in the midst of a correction, but this is the time capital should be put to work. Capital can be invested in three or four tranches because nobody can pick the bottom of a market.

TOP PICKS

S&P GLOBAL (SPGI.N)

S&P Global provides clients with financial information services. The company offers information regarding ratings, benchmark and analytics in the global capital and commodity markets. Platts is a key energy and commodity service provider. Their ETF business has had strong growth. There’s $1.5 trillion in ETFs using the S&P Dow Jones Indices. This represents 13 per cent of revenue.

S&P Global has a strong balance sheet, 1.9 times debt to earnings before interest, taxes, depreciation and amortization (EBITDA), a three-year dividend growth rate of 14 per cent, and it trades at 17 times 2020 earnings. We expect a significant amount of debt maturities in 2019 and 2020, which will help the ratings business.

TELUS (T.TO)

Telus is a telecom company providing a variety of communication products and services. It provides voice data, Internet and wireless services to businesses and consumers in Canada. Telus has an international division that has call centers and is also making inroads into health care services, providing software and hardware to assist doctors and pharmacists. Although wireless competition is intense, Telus competes effectively and has excellent service which contributes to an industry-leading low churn. Debt to EBITDA is at 2.6 times and the stock trades at 15 times price-to-earnings (P/E) and 7.7 times enterprise value (EV) to EBITDA. It has a five-year dividend growth of 9 per cent. I own it personally and we have no banking relationship. It’s held in the funds that I manage.

HYDRO ONE (H.TO)

Hydro One provides electrical utility services to the province of Ontario. The company offers services to residential, industrial and municipal customers through its high voltage transmission network, 96 per cent of Ontario’s network, and low voltage distribution network. The province of Ontario owns 47 per cent and their stake will be reduced if Hydro One successfully completes the purchase of Avista Corporation, a Pacific Northwest U.S. utility company. Hydro One trades at 14.7 times 2019 earnings and 6.7 times 2019 price to cash flow. It has a dividend yield of 4.7 per cent and a payout ratio of 71 per cent.