Nov 20, 2018

Zachary Curry's Top Picks: Nov. 20, 2018

BNN Bloomberg

Zachary Curry , BNN Bloomberg

Zachary Curry, president and portfolio manager at Davis Rea
Focus: North American large caps

MARKET OUTLOOK

The global economy continues to expand, though likely at a slower pace in 2019 than in 2017 or 2018. While growth is expected to slow, it’s unlikely to be a serious slowdown as we saw in 2014-2015. U.S. growth is strong, helped along by the big tax cuts that were implemented in 2017. Canada’s economy is growing steadily and will be helped by the reduction in uncertainty related to the renegotiation of NAFTA. Inflation remains moderate, but low unemployment rates in the U.S. and Canada imply some upside risks that will keep U.S. and Canadian short-term interest rates on their gradually rising path. Government bond yields are likely to rise somewhat further in this environment.

Equity prices remain caught in a tug-of-war between the upward lift from growing earnings and the downward pull of rising interest rates. The resulting volatility is likely to continue with rates and earnings both expected to increase further in the months ahead. Almost all equity market weakness this year has been concentrated in two periods: between January February and between October and November. Both periods saw sharply rising government bond yields. In between, when yields were flat or rising only slightly, equity prices rose. Bonds are settling down and there’s scope for equity prices to gain some ground into the early part of 2019. Weak equity markets have caused valuation measures to fall across the board, but quite substantially in some areas, creating some select longer-term investment opportunities.

TOP PICKS

BROOKFIELD INFRASTRUCTURE PARTNERS (BIP_u.TO)
Most recent purchase on Oct. 25, 2018 at $50.17.

Brookfield Instructure Partners owns and operates infrastructure assets such as utilities, toll roads, pipelines, network towers and ports globally. The company has a great track record when it comes to managing their portfolio and deploying or recycling capital. They routinely acquire interests in infrastructure companies and projects, invest capital to provide operational improvements and then sell its interest afterwards. Their global reach enables them to find value worldwide and take advantage of improving global growth in both developing markets (Canada, U.S. and Europe) as well as emerging markets (Brazil, China and India). They recently sold their interest in their Chilean electricity transmission asset and have committed to acquiring the second-largest natural gas distribution system in Colombia. They’ve a large backlog of projects, with close to $1 billion dollars being put to work in new projects over the next 24 months and have invested more than their target of $500 million to $1 billion year-to-date. Among these are the acquisition of AT&T’s U.S. data centre business, supplying colocation services to a wide range of customers, the acquisition of Enbridge’s Western Canada natural gas gathering and processing business, and the recent acquisition of Enercare Inc., a provider of water heaters and water metering solutions. With infrastructure assets providing steady cash flow even in the face of rising interest rates and inflation (75 per cent of their revenue is indexed to inflation), Brookfield Infrastructure is able to grow organically, and support the 4.6 per cent yield on the stock.

APPLE (AAPL.O)
Most recent purchase on Aug. 2, 2018 at $206.92.

The iPhone X and iPhone XS/R introduction have been positive given the refresh cycle, with Apple’s higher-end products traditionally performing well, despite recent headlines regarding suppliers receiving reduced orders for new phones. The performance of the wearables category continues to be strong (their Airpods wireless headphones and updates to the Apple Watch have been driving sales growth of over 50 per cent in the category). Apple recently announced that it will be investing US$1 billion in original video content over the next year, and while late to the online programming game, we think it will continue to keep users in the Apple ecosystem, resulting in increased revenue for the company. Despite the furor raised by the news that they would stop disclosing unit sales of their products, we see no cause for concern. The strength of the ecosystem continues to retain customers and drive them to increasing spend in their services business and the company is well on its way to meeting the target of doubling their services revenue from 2016 to 2020 (it’s currently the size of a Fortune 100 company on its own). A very healthy cash position allows for financial flexibility, including a recent 16 per cent increase in the dividend (to yield 1.5 per cent currently) and $100 billion share buyback.

STRYKER (SYK.N)
Most recent purchase on Oct. 4, 2018 at $173.49.

Stryker is one of the world's leading medical technology companies and is active in more than 100 countries around the world. Stryker has a diverse array of innovative products and services in orthopedics, medical and surgical, and neurotechnology and spine that help improve patient and hospital outcomes. Stryker continues to lead in knee surgery with their Mako robot, which has been steadily gaining share in the market as it drives better outcomes for patients and greater efficiency for surgeons. The rest of their product portfolio is performing well. They recently closed on the acquisition of K2M to bolster their spinal surgery portfolio, and in neurotechnology, they released a product that has been proven to increase the treatment window in Ischemic Stroke and is gaining share rapidly. Stryker has fixed many of the supply and quality issues that came with the Sage acquisition last year and is returning to growth in those segments as well as their other surgical product categories. We expect the company will be able to continue to drive mid-single digit organic growth as they continue to grow faster than the market and maintain their historical capital allocation strategy of looking for opportunistic tuck-in acquisitions and returning capital to shareholders.