Market skepticism creates conditions for upside surprises
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Market swings are creating opportunities for Canadian equity investors, says Vim Thasan, vice-president of Canadian equities with Beutel Goodman Investment Counsel.
He said savvy investors can benefit from the price dislocations that result when market analysis sparks a surge in trading.
“The pendulum of macro predictions has been swinging back and forth from a soft landing, to a hard landing, to no landing,” he said. “We use the dislocations created by these rapidly changing macro views to act on individual opportunities.”
Thasan said there are great opportunities to be found in quality Canadian equities.
“While the market is focused on timing a recession, we’re focused on attractively valued companies that are getting lost in the noise of macro predictions,” he said. “Market concerns actually create opportunities for us as investors.”
Fears of market disruptions — driven by “a laundry list of concerns” including inflation, credit concerns, China’s struggling economy, the upcoming U.S. election and wars in Europe and the Middle East — could be seen as a tailwind for equity investors, he said, with the negativity of the moment being priced into valuations.
“We find that valuations are attractive in certain parts of the market,” he said. “Earnings expectations have been revised lower. Forward guidance by management is muted. Assuming normalization over time, a wider discount to intrinsic value only improves our risk/return profile.”
Another overarching tailwind, he said, is slowing inflation and the growing probability that we’ve hit peak interest rates this cycle.
“This would relieve some of the pressures from higher or tighter credit conditions,” he said.
A third tailwind can be found in the steady returns of commodity stocks, which are less volatile than higher-growth thematic stocks.
Thasan said 2023 started on the back of a large drawdown, with growing fears of a global recession. But a more hopeful sentiment arose as the Canadian market rallied and the economy appeared relatively stable, with a resilient consumer and expectations of late-year rate cuts.
By the second half of the year, however, the narrative changed, with many analysts expecting that higher-for-longer rates would put pressure on the economy.
He said elevated interest rates this year caused a polarization in returns across Canadian companies and sectors so far in 2023.
“The impact of higher rates can be seen most in rate-sensitive sectors like communication services, real estate and utilities,” he said. “And the overall fear of a recession in the economy is most material in banks and consumer-discretionary stocks.”
The best-performing sectors, by contrast, have been technology (driven by Shopify Inc.), and energy (driven by supply limitations and increasing geopolitical tension), he said.
As for headwinds, he said a big concern is the overall health of the Canadian consumer. The Bank of Canada’s most-recent survey of consumer expectations showed high inflation and rising rates have caused most households to reduce spending.
“And we should also note that interest rate hikes may not be over,” he said. “The likelihood of a soft landing or avoiding a recession altogether won’t improve if rates go up again.”
Thasan said consumer behaviour is largely driven by employment, wage growth and inflation concerns.
“High household debt requires a higher payment as interest rates rise, creating refinancing challenges in mortgages,” he said. “Couple this with concerns around the underlying value of homes, it means the Canadian consumer is in a weaker position than the American consumer right now.”
This article is part of the Soundbites program, sponsored by Canada Life. The article was written without sponsor input.
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