Canadian stocks are cheap, this fund manager says

Now’s the time to be investing in Canadian companies, says portfolio manager Colin Stewart, who argues that even with the S&P/TSX Composite looking strong so far in 2021, there’s still a big gap between Canadian and US stocks.

Canada’s main stock index closed above 20,000 for the first time on Friday, buoyed by post-pandemic optimism including new positive employment numbers in the United States.

The S&P/TSX Composite touched above 20,000 on Wednesday but waited until Friday to close above the milestone market at 20,029.19, putting the index up 14.3 per cent for the year and up 26 per cent for the past 12 months.

The resource and energy-heavy TSX had an off year in 2020, relatively speaking, but has come to life in 2021, fueled by higher demand for lumber, oil, minerals and commodities.

Over the first quarter, Healthcare was the clear winner among the TSX Composite sectors, rising 38 per cent on the back of a surging cannabis sector. Energy gained 28 per cent over the Q1, followed by Financials at 13 per cent and Consumer Discretionary and 12 per cent. With the pullback in cannabis over the past couple of months, the S&P/TSX Capped Health Care Index has dropped 12 per cent so far in the second quarter.

Information Technology managed just a one per cent return over the first quarter, a marked contrast to last year’s huge gains across the sector, although tech stocks have picked it up somewhat over April and May.

E-commerce company Shopify (Shopify Stock Quote, Chart, News, Analysts, Financials TSX:SHOP), for example, with the TSX’s largest market cap at $181 billion, is barely up one per cent for the first five months of the year, whereas in 2020 the stock returned 178 per cent. Canadian telecom stocks like BCE (BCE Stock Quote, Chart, News, Analysts, Financials TSX:BCE) and Telus (Telus Stock Quote, Chart, News, Analysts, Financials TSX:T) have faired a little better so far in 2021 with returns of 12 and 11 per cent, respectively.

But those are still small numbers compared to a Suncor Energy (Stock Quote, Chart, News, Analysts, Financials TSX:SU), up 44 per cent year-to-date, or even financials like Royal Bank (Stock Quote, Chart, News, Analysts, Financials TSX:RY) and Toronto-Dominion (TD Stock Quote, Chart, News, Analysts, Financials TSX:TD), which are up 21 and 22 per cent, respectively.

Recent gains notwithstanding, Canadian stocks are still trading at a discount to their US peers, though, and investment is likely to catch onto that fact, says Stewart, CEO of JC Clark Limited.

“I certainly think over the next six to 12 months the TSX outlook is quite positive,” Stewart said, speaking on BNN Bloomberg on Thursday. “There are a number of reasons. First of all, we’re definitely moving into a more inflationary environment and I think a lot of the commodity type stocks and basic materials companies that are part of the TSX will will benefit from that.”

“There’s investor capital that’s coming back into the Canadian market after a really long period of time where foreign investors really favoured US equity markets and other places in the world,” he said.

“The valuations here in the Canadian equity market are quite attractive,” Stewart said. “According to our numbers, as much as a five multiple point discount on a P/E basis to the S&P 500, which is pretty much the widest discount we’ve seen Canadian equities trade at in the last 30 years. So, from a valuation standpoint it’s a pretty attractive time to invest in Canada.”

Stewart said rising oil prices will continue to benefit the Canadian market but that oil and gas stocks may not be an investor’s best bet over the long haul, pointing to headwinds troubling the sector as government’s turn to renewables such as solar, wind and renewable natural gas in effort to meet their climate goals.

On that front, Canada’s renewables market is “pretty broad and strong,” Stewart said.

But the COVID-19 pandemic could still have more long-term effects on the Canadian economy and market, Stewart said, since government support programs have resulted in massive debt.

“Many countries have used debt to finance pandemic spending and Canada has certainly been at the top of the pile there as far as the amount of government spending,” Stewart said. “From a debt to GDP standpoint Canada is looking like it has a relatively high debt load.”

Stewart said Canadians might end up with a higher tax burden once all is said and done.

“One of the key questions is well how are we going to pay for all this debt that’s been accumulated during this period,” Stewart said. “Obviously, one of the potential negatives coming out of that could be higher taxes, whether it be just corporate or personal tax rates or even the potential for higher capital gains tax rates.”

“Particularly on the corporate and the capital gains tax side, that could be seen as a negative for Canadian equities,” he said.