Canada lags U.S. in investment opportunities

Investors who want cheap stocks should set their sights south of the border. Although prices were a lot lower back in 2010, there’s still plenty of opportunity, says Larry Sarbit, a portfolio manager at IA Clarington.

“The stock market started to decline last week and if this continues no one will be more excited than I will be,” he says. “When people get frightened, it gives us an opportunity to buy at cheaper prices.”

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David Taylor, also a portfolio manager at IA Clarington, agrees. He says the U.S. is a good place to invest thanks to a recovering economy.

“U.S. banks are underleveraged and they’ve cleaned up their balance sheets. Consumers are deleveraging and house prices are rising.”

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In comparison, Canada is trailing behind, with a housing market that’s rolling over and consumers struggling to deleverage.

“We’re going to see a slowing Canadian economy while the U.S. economy is going to improve,” says Taylor.

He predicts it’ll be two years before we catch up to the U.S., though Canada won’t see the same type of downturn.

Looking at individual U.S. stocks, he says many companies are replacing their large trucks, which means truck suppliers will outperform. Cummins Engine is one company to consider. It’s the largest manufacturer of diesel engines with a 55% market share.

“The average age of a truck in the U.S. is as old as it’s ever been,” he says. “We think operators are finally going to replace their fleet, and that’s going to be a boon to Cummins Engines.”

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Meanwhile, Sarbit talks to the consumer non-discretionary area, which he notes will continue to grow despite economic ups and downs.

“We own a company called Iconix, which owns 33 [fashion and home] brands,” he says. “They don’t manufacture or distribute anything. Their free cash flow margins are 50%. It’s trading at eight times free cash flow. This company continues to generate cash and there are always more brands to be bought.”

And both PMs suggest hedging currency because “you don’t know what the Canadian/U.S. dollar rates are going to be,” says Sarbit.

Bulls vs. bears

Taylor believes the 31-year bull market in U.S. bonds is over.

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Over the last decade, rates have improved 100 basis points. But even at 260 basis points, he says, “if you look at the relative rate you’re getting on a 10-year S&P 500 dividend yield, it’s still way out of whack compared to where it’s been in the past. People are going to realize you can lose money buying bonds.”

Adding to this is that the REIT index is down 17% from its highs, and pipelines utilities are down 15% to 20%.

“There is going to be a quantum shift out of fixed income and into equities.

So we’ll enter a strong bull market for equities.”

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Sarbit adds rates are naturally going to rise and that’s what’s driving down the valuations of stocks.

“But that creates the opportunity, so you’ve got to be in stocks for the long term,” he says.

Meanwhile, the TSX will lag the S&P 500.

“As the U.S. leads us out of this thing, China is still slowing and because of that (given that half the Canadian market is tied in resource sector) I don’t see how it’s going to turn on a dime,” says Taylor.