Rob McWhirter, president of Selective Asset Management Inc.

Focus: Canadian equities and technology stocks
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MARKET OUTLOOK
Capital Economics recently noted that if the U.S.’s low unemployment and tight labour market drive the average annual earnings growth rate trends higher, “It should give the [U.S.] Fed confidence that core inflation won’t be too far behind.”

U.S. 10-year bond yields set a recent low of 2.12 per cent on June 14 and then rose to 2.30 per cent on July 27 before turning back down to 2.19 per cent on August 24. Markets are concerned about the potential for rising inflation and will be watching closely to see if U.S 10-year yields break out of their recent 2.12 per cent to 2.40 per cent trading range. World GDP growth is forecast to grow 3.5 per cent this year. This optimism appears well founded as OECD industrial output had its biggest quarterly increase since 2011, rising to 5.3 per cent in Q2 on an annualized basis. Last quarter, emerging economies also had a 4.4 per cent annualized increase in industrial production.

Given the improving economic outlook, accelerating earnings and favourable global monetary conditions, the rotational correction in equities that started in early June appears to be ending. We believe equity prices will continue to rise over the next year.

TOP PICKS

BADGER DAYLIGHTING (BAD.TO) – $27.96; $1.0 billion market cap

• BAD provides non-destructive truck-mounted hydro-vac excavating services
• 1.6 per cent yield, 14 per cent payout ratio on fourth-quarter trailing cash flow
• To report earnings on November 13, 2017; forecast: $0.43 versus $0.39 = +11 per cent (C+)
• Reported August 14, 2017: Year-over-year sales per share up 34 per cent, year-over-year earnings per share up 81 per cent, 53 per cent earnings surprise (A+)
• Year-over-year free cash flow grew 61 per cent, free cash flow yield improved to 3.6  per cent (B-) from 2.5 per cent (C+), ROE TTM 15.0 per cent (A-)
• 9.6x enterprise value to trailing EBITDA versus 36 per cent year-over-year EBITDA growth, EV/EBITDA to EBITDA growth of 0.26 (C+)
• Badger recently announced their goals of 15 per cent EBITDA growth and a doubling of the U.S. business over the next three to five years; a 15 per cent dividend increase was also announced

MARTINREA INTERNATIONAL (MRE.TO) – $10.64, $0.9 billion market cap

• MRE develops and produces metal parts, assemblies, modules, fluid-management systems and complex aluminum products mainly for the automotive sector
• 1.1 per cent yield, three per cent payout ratio on fourth-quarter trailing cash flow
• To report earnings on November 2, 2017; forecast: $0.42 versus $0.33 = +25 per cent (B-)
• Reported August 8, 2017:Year-over-year sales per share down five per cent, year-over-year earnings per share up 27 per cent, five per cent earnings surprise (A+)
• This was the eleventh consecutive quarter with record year-over-year adjusted earnings and the best quarterly earnings to date
• For the December 2017 fiscal year, earnings growth of 22 per cent is forecast giving a P/E of 5.8x and a P/E to earnings growth multiple (PEG) of 0.25x (B+) and a ROE TTM of 17.2 per cent (A-)
• At 4.7x enterprise value to trailing EBITDA versus 12 per cent year-over-year EBITDA growth = EV/EBITDA to EBITDA growth of 0.41 (C+), MRE’s shares appear attractive

RUSSEL METALS (RUS.TO) – $25.78, $1.6 billion market cap . 

• RUS provides metal distribution and processing in North America
• The company operates in three segments: metals service centers; energy products and steel distributors
• 5.9 per cent yield, 74 per cent payout ratio on fourth-quarter trailing cash flow
• To report earnings on November 13, 2017; forecast: $0.43 versus $0.39 = +11 per cent (C+)
• Reported August 2, 2017: Year-over-year sales per share up 31 per cent, year-over-year earnings per share up 93 per cent, 53 per cent earnings surprise (A+)
• Year-over-year free cash flow grew 108 per cent, free cash flow yield improved to 0.6 per cent (C+) from -7.62 per cent (D+), ROE TTM 10.4 per cent
• Earnings estimates have increased by 13 per cent in the last 30 days
• 10.5x enterprise value to trailing EBITDA versus 58 per cent year-over-year EBITDA growth = EV/EBITDA to EBITDA growth of 0.18 (B-)
   

PAST PICKS: JANUARY 6, 2017

CAPSTONE MINING (CS.TO)

• Then: $1.33
• Now: $1.34
• Return: 0.75%
• Total return: 0.75%

CELESTICA (CLS.TO)

• Then: $16.17
• Now: $14.29
• Return: -11.59%
• Total return: -11.59%

MAGNA INTERNATIONAL (MG.TO)

• Then: $59.62
• Now: $59.87
• Return: 0.41%
• Total return: 1.68%

TOTAL RETURN AVERAGE: -3.05%