Teal Linde, manager of the Linde Equity Fund
Focus: North American mid and large caps

MARKET OUTLOOK

With stocks exhibiting their greatest pricing inefficiency during periods of crisis, investors have an opportunity to rise ahead of the market upon an eventual recovery. Such proactiveness is necessary to prevent a mediocre annualized return over the next three or more years. If you are down 10 per cent in year 1 and recover the loss in year 2, then rise 10 per cent in year 3, you’ve only made a 3 per cent annualized return over three years. If you embed this mediocre three-year return within a five-year return, the five-year return is weighed down too.  To avoid becoming one of the unfortunate folk who will look back five years from now on a potentially mediocre return, investors need to transition their portfolio from a defensive to gradually more aggressive stance by carefully buying a basket of beaten-down stocks that offer greater bounce back upside upon a recovery.

Making matters challenging, however, the S&P 500 gained 401 per cent over the 11-year bull market. As a result, historically high valuation levels are making for slim pickings.

Overall, markets could end up consolidating the gains of the 11-year bull market for years to come. In this scenario, stock selection will prove critical in achieving attractive returns.

TOP PICKS

ENSIGN ENERGY SERVICES (ESI TSX)
Last purchased on April 8 at $0.58.

Calgary-based Ensign is a leading oil driller. For 2020, 80 per cent of its revenue is expected to come from the U.S. and international markets and therefore it has a lot less exposure to the struggling Canadian oil and gas industry. The company’s shareholder equity is $1.5 billion and its market cap is $85 million. It is trading at 6 per cent of its book value, or price-to-book of 0.06, which does not include intangible assets. The stock was trading at $2.50 in January, before the oil price crashed. Insiders were actively buying below 50 cents, including chairman Murray Edwards (who owns 20 per cent). The caveat is it has $1.6 billion in long-term debt.

WESTERN FOREST PRODUCTS (WEF TSX)
Last purchased on April 29 at $0.73.

Western Forest Products, the largest forestry company on the B.C. coast, caught our attention last year. The company appeared to have a depressed share price which we considered temporary. It was engaged in a collective bargaining dispute with more than 3,000 forestry workers that resulted in the longest strike in B.C. coastal forestry history. We sensed an opportunity to buy a well-managed and profitable company that would most likely recover once the strike was over. Insider buying by senior management, including the CEO and CFO, further strengthened our belief. 

Just as the company returned to operations following the strike, the coronavirus struck. The stock, which traded around $1.25 during most of the strike, took another dive to a nine-year low of 58 cents on March 23. Insiders bought more shares in late March between $0.61 and $0.69 cents. The stock trades just above this price range today and appears attractive on a price-to-book and price-to-sales basis.

MTY FOOD GROUP (MTY TSX)
Last purchase on May 15 at $18.32.

MTY Food Group is a Canadian franchisor of restaurants with over 7,300 locations (46 per cent in Canada and 54 per cent in the U.S. and elsewhere).  The company has made great strides in consolidating the industry by way of acquisition and today it owns approximately eighty brands, including Taco Time, Papa Murphy’s, Thai Express, Manchu Wok, Jugo Juice and more.  Locations include food courts (16 per cent), street fronts (63 per cent) and non-traditional locations such as gas stations (21 per cent). 

MTY’s stock is at a seven-year low. The last time it was at this level, the network was comprised of 2,590 locations, revenues were $101 million, and earnings per share were $1.34. In 2019, it had over 7,300 locations, generated $551 million in revenues and had an EPS of $3.95. At this rate, the market is pricing in over half of the franchisees going under. We believe this is far too pessimistic and presents a buying opportunity ahead of the reopening of the Canadian and U.S. economies.

PAST PICKS: MAY 21, 2019

LINAMAR (LNR TSX)

• Then: $45.19
• Now: $33.47
• Return: -26%
• Total return: -25%

TRICAN WELL SERVICES (TCW TSX)

• Then: $1.36
• Now: $0.68
• Return: -50%
• Total return: -50%

SQUARE (SQ NYSE)

• Then: $65.92
• Now: $79.04
• Return: 20%
• Total return: 20%

Total return average: -18%

WEBSITE: www.lindeequity.com