Welcome to Soundbites, weekly insights on market trends and investment strategies, brought to you by Investment Executive and powered by Canada Life. For today’s Soundbites, we’re talking about Canadian equities with Lisa Conroy, fundamental equity product specialist with Connor, Clark & Lunn. We talked about diversification, overlooked themes, and we started by asking what’s driving the recent strength in Canadian equities.
Lisa Conroy (LC): Yeah, absolutely. Canadian equities have outperformed expectations year to date, and quite significantly outperformed other major markets going back over the last 18 months. I know tech and AI get all the headlines, but if you review the last 18 months in Canadian dollar terms, the TSX is up over 50% and outperforming the S&P 500, the MSCI ACWI by over 20% despite some sluggish domestic economic growth. In terms of what’s driven the rally, gold was a big part of the strong performance of the TSX last year, and then over the past 12 months, it’s been banks. Canadian banks have significantly outperformed and that’s been a large portion of the TSX return as well. Is there more room to run? The answer is yes. Our team has never been this excited about Canadian equities. There are several powerful structural themes reshaping the globe: onshoring, electrification, AI infrastructure investment, as well as just generally being in a higher inflationary world. All of these themes play to Canada’s strengths. Increasingly, the world needs our resources. And Canada offers a stable political and legal environment, which is at a premium in today’s geopolitical environment. And at the same time, we have a government that is finally focused on unlocking the country’s economic potential. So, all of those pieces are aligned to create quite a strong outlook for Canadian equities.
The financial sector
LC: Canadian banks have delivered exceptional returns over the past 18 months. In fact, if you look at the ZEB Index, the equal-weighted bank index, it has doubled. Valuations are stretched when you look at price to earnings on the next 12 months. They are near or at all-time highs. But we remain very positive on this group, driven by a few different factors. We expect the yield curve to continue to steepen. We also expect Canadian banks to benefit from AI-related efficiency. We expect hiring to be near flat as we look forward. And our expectation is that the Canadian economy will move into recovery mode and that will be supportive of Canadian bank earnings. So, three drivers of strong earnings growth: we have steeper yield curve, AI-related efficiencies, and strong economic growth.
What’s changing in the energy sector?
LC: It’s a really tough environment to predict where oil prices will be in six months. We focus on understanding which businesses have the best assets, strongest management teams, and the ability to outperform their peers across a range of commodity price environments. A few of our top energy holdings and where we’re seeing the best opportunity within the Canadian energy space are Suncor, Spartan Delta, and Enerflex. Starting first with Suncor, it’s one of our largest overweight positions. That company has consistently exceeded expectations, and we think there is more to come. We are seeing improving operations and greater confidence in the resource base that they have. Spartan Delta is also a large overweight in the portfolio, an oil producer. We think the market is materially underestimating the scale of Spartans’ Duvernay opportunity. We see the potential for Spartan’s daily production to roughly double by 2030. Today, that growth is not reflected in the valuation, giving us compelling standalone upside while also making Spartan an increasingly attractive strategic asset. Enerflex is also becoming increasingly compelling and represents an overweight in the portfolio. It is a great way to participate in the buildout of data centre infrastructure. And we think that creates significant scope for earnings expectations and ultimately the company’s valuation to move higher. And so, we are finding some attractive bottom-up opportunities.
Overlooked themes
LC: There are lots of exciting investment themes outside of financials and energy. In terms of the most recent quarter, our largest buys were in transportation stocks. So, railway companies and trucking companies. We have seen this group underperform over the last 12 months, given the uncertainty around tariffs and some of the weakness in manufacturing activity. What we started to see at the beginning of this year and into last quarter, manufacturing activity in the U.S. ticked up quite significantly. Historically, freight volumes and these transportation stocks are highly correlated to the health of the manufacturing sector in the U.S. And, combined with the attractive valuation level, it was a great opportunity to step into CP Rail, Canadian National Rail, as well as TFI International, a trucking company. One other important investment theme is ensuring we’re exposed to AI infrastructure. Within Canada, we don’t have the hyperscalers, but we do have a handful of different companies that are direct beneficiaries of those capex dollars and are providing infrastructure to support the buildout of these AI capabilities. We’ve seen some volatility in this space over the last month or so, but when we look out over the next 12 months, we continue to see really attractive fundamentals, and the portfolio remains overweight stocks like:
- Celestica, they make the servers and routers that go into the data centres;
- Hammond Power is exposed not just to the data-centre buildout, but also the electrification generally because they build transformers;
- Capital Power supplies electricity to those data centres;
- Toramont and Enerflex have portions of their business tied to that infrastructure.
And so, yes, we’ve seen sentiment waver quite significantly in July. But when we dig in and look at the fundamentals, look at the valuation levels, look at the earnings potentials, we’re still excited about this space.
And finally, what’s the bottom line for investors in Canadian equities in the current moment?
LC: Today’s backdrop creates a compelling setup for Canadian equities. The world increasingly needs what Canada has. Onshoring, electrification, AI infrastructure, and a more fragmented, inflationary world are increasing the demand for energy, power, and critical commodities — areas where Canada has significant global advantages.Canada has the resources the world increasingly needs, an improving policy backdrop, attractive valuation, and growing global investor interest. We believe the ingredients are in place for a sustained period of opportunity in Canadian equities.
Well, those are today’s Soundbites, brought to you by Investment Executive and powered by Canada Life. Our thanks again to Lisa Conroy of Connor, Clark & Lunn. Visit us at investmentexecutive.com, where you can sign up for our a.m. newsletter and never miss another Soundbite. Thanks for listening.
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