Stephen Takacsy, president, chief executive officer and chief investment officer, Lester Asset Management

FOCUS: Canadian stocks  

MARKET OUTLOOK:

Volatility continues to rule stock and bond markets in 2022 due to aggressive central bank interest rate hikes to get inflation under control by suppressing demand. Rising interest rates will no doubt slow down parts of the economy such as real estate and consumer discretionary spending. Canada and the U.S. should be able to engineer a “soft landing” as those economies are coming from a strong place with low unemployment, high personal savings and strong currencies.

We believe that inflation is already showing signs of easing as supply and demand come more into balance and supply chain disruptions normalize. The stock and bond markets are trying to sniff a possible end to the tightening cycle which will take its cue from inflation data and central banks appear to be slowing down rate hikes to give some time for the hikes to take effect. Investor sentiment is extremely bearish (a great contrarian signal) and it is impossible to time when sentiment will turn, but when it does markets usually rise sharply (we have seen a few possible head fakes lately).

We are staying invested but well diversified in recession-resistant businesses that have pricing power such as telcos, pipelines and utilities. Particularly we are staying invested in those benefitting from strong tailwinds such as renewable power and the transition to clean energy. This includes Boralex and Northland Power, which are both present in Europe where power prices have risen dramatically. These safe high dividend-yielding sectors look particularly attractive having corrected dramatically over the past few months. Other long-term investment themes we like include aging demographics (Savaria, Park Lawn, Siena Senior Living, Neighbourly Pharmacies), digitization (CGI, TECSYS, MDF Commerce) and infrastructure (Logistec, WSP Global, and Brookfield Infrastructure). We have been taking advantage of volatility to add high-quality companies whose shares have come down to compelling valuations such as Cargojet, Richelieu Hardware, Pollard Banknote and Canadian Tire. 

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TOP PICKS:

NEIGHBOURLY PHARMACY (NBLY TSX)

A safe way to invest in healthcare in Canada. 

NBLY is Canada’s third-largest pharmacy chain with 284 locations in seven provinces, mainly located in rural communities. Its strategy is to consolidate this still very fragmented industry and generate operating efficiencies while improving the top line like front-of-the-store sales. This is a recession-proof business with steady growth from aging demographics and new revenue sources from an increasing scope of practice whereby pharmacies can prescribe more medication to help alleviate the burden on the public system. The company did an IPO at $17 in early 2021, then rose to nearly $40 before settling back more recently in the low $20. They also did recent financing at $29 to acquire its largest competitor with significant insider buying. Since the IPO the number of stores, revenue and EBITDA run rates have doubled to around $830 million in sales and $97 million in EBITDA. The company released good results a few weeks ago with strong same-store sales growth and increased margins. In the low $20s the stock is now attractively priced considering its strong growth, margin and free cash flow profile, at around 11X EBITDA.

CARGOJET (CJT TSX)

Monopoly in the sky.

CJT is a high-growth, high-margin, high ROIC company having locked up around 90 per cent of Canada’s overnight air freight market. Think of it as a contracted pipeline in the sky. It has 34 aircraft and also offers international sub-charter and charter services. It recently announced a large new contract with DHL and its Canadian e-commerce business continues to grow by double digits. CJT takes little or no risk since it signs long-term guaranteed take-or-pay-like contracts before it buys a new plane with blue chip clients like Canada Post, Amazon and DHL. Because it’s in the transportation sector, generates some overseas revenues, and does a lot of e-commerce business with Amazon, it has been “thrown out with the bathwater.” The stock was expensive for many years and it is now very cheap trading at only 8.5X EBITDA for such a high-quality business with limited competition and high barriers to entry.

PARK LAWN (PLC TSX) 

Aging demographics and industry consolidation.

The only publicly traded company in Canada in the “deathcare” industry. PLC owns funeral homes, crematoria and cemeteries in Canada and the US. It’s a recession-proof high-margin high-barriers-to-entry business with strong tailwinds from aging demographics. Strong management team based in the U.S. where they are focused on an a mergers and acquisition strategy to consolidate a still very fragmented industry as the number two player after Service Corporation. EBITDA is expected to double to $150 million by 2026, at a 15 per cent CAGR. Stock was added to TSX Composite last year. The massive pullback from $42 to $22 caused by the market correction and tough comps during the pandemic’s higher death rate is a great entry point into this unique business trading at around 10X 2023 EBITDA with a  healthy balance sheet, good organic and mergers and acquisition growth and strong free cash flow.