Brian Madden, Chief Investment Officer at First Avenue Investment Counsel, shares his outlook on North American Equities.

Brian Madden, Chief Investment Officer, First Avenue Investment Counsel

Focus: North American equities

Top picks: Constellation Software, KKR, Telus

MARKET OUTLOOK:

As expected, both the Bank of Canada and the U.S. Federal Reserve cut interest rates at their meetings yesterday – an acknowledgement that growth is slowing and inflation abating.

Job creation has gone into reverse in back-to-back months in Canada, all but erasing any net job creation – with just 37,500 jobs created year-to-date in a labour force of 22.5 million.

As such, the unemployment rate has spiked to 7.1 per cent – near the highest levels (excluding the COVID-19 era) in a decade. Similarly, U.S. job creation has trended lower all year and unfilled job vacancies have slipped below normalized levels, signalling an oversupplied labour market – despite aggressive attempts to round up and deport undocumented migrants and labourers, which ordinarily would tighten up labour market conditions. Yet, despite evidence of slowing economic growth, corporate profits and major equity indices like the S&P 500 and the S&P TSX Composite are within a hair’s breadth of all time highs.

The stark contrast is a reminder to investors that the stock market has a very different complexion than the overall economy, and skews to larger, more robust and structurally profitable and more globally exposed businesses than the on-the-ground reality experienced by the median American or Canadian households.

Our two North American equity mandates, while certainly less concentrated in Magnificent 7 mega-cap giants than the S&P 500, are nevertheless high conviction, focused portfolios comprised of mid-to-large cap, predominantly multinational companies and thus have also benefited from this larger and more global orientation in recent months.

TOP PICKS:

Brian Madden’s Top Picks: Constellation Software, KKR & Telus Brian Madden, Chief Investment Officer at First Avenue Investment Counsel, shares his top stock picks to watch in the market.

Constellation Software (CSU TSX)

Constellation Software is a software holding company that acquires mission-critical vertical market software companies and helps them to grow. With its unique operating philosophy, Constellation equips unit operating managers with best practices, procurement and shared services efficiencies but empowers them to make decentralized decisions at the grass roots level.

Notoriously and deliberately tight-lipped and non-communicative with the investment community, the company’s results do the talking for them, although they have scheduled a very rare investor conference call for Sept. 22 to address artificial intelligence (AI) opportunities and risks facing their businesses.

Earnings per share (EPS) have grown at a 23 per cent compound rate over the last decade; despite operating primarily in sluggish organic growth markets and the share price has generated a total return of over 32,000 per cent since the 2006 initial public offering.

With the shares having dipped 20 per cent off the recent highs and trading at 34 times expected earnings, we see a good combination of value and growth here.

KKR (KKR NYSE)

KKR is a long-established leader in the growing alternative investment space, growing its assets under management at an 18 per cent compound rate to US$686 billion since their 2010 initial public offering.

The strong balance sheet and A credit rating enables it to invest as principal alongside third party investors, aligning shareholder interests with outside investors. The 2024 acquisition of Global Atlantic, a life insurance and annuity business bring additional stability to smooth out the large private market’s investment business.

A rapidly growing capital markets business further augments its stream of recurring management fees. Succession planning four years ago entailed naming two co-CEOs, both career KKR executives, but namesake founders Henry Kravis and George Roberts continue to each own nine per cent stakes in the business, valued at $12 billion apiece.

Private markets are more prone to mispricing than public markets, thus affording skilled and well-scaled investment teams the opportunity to generate high returns, justifying relatively high management fees plus “carry” or a share of fund profits, and the asset classes in aggregate have been outgrowing public market investments by a wide margin in terms of institutional and private client funds flows for decades. The shares have rallied a mighty 68 per cent since Liberation Day but have yet to eclipse their late January high despite the overall S&P 500 index marking successively higher all-time highs.

We believe the likelihood of a “catch up trade” is high in this secular growth compounder, which has generated a total return of over 2,300 per cent since the initial public offering (IPO).

Telus (T TSX)

Telus is the highest quality telecom business in Canada and currently offers a yield of 7.6 per cent – very elevated relative to the ten-year average yield of 4.9 per cent it has typically traded at. Not only do we believe this dividend is secure, but we also believe it will continue to grow at a faster pace than the dividends paid by Canada’s other telecoms – a belief validated by its decisions to increase the dividend by seven per cent over the past year.

All the telecoms face easier earnings comparisons in the coming quarters as the price war that began nearly two years ago – to the determinant of the overall industry profit pool – fizzles out. All the telecoms should also benefit from macro and money flow tailwinds from income hungry Canadian investors realizing that their guaranteed investment certificates (GICs) are rolling over at third – 3.5 per cent versus five – 5.5 per cent a few years ago.

Telus, in particular, is advantaged by its ownership of some faster growing non-telecom businesses, by its financial strength and flexibility as well as by its operational focus while its rivals are distracted integrating their recent acquisitions.

Lastly, we believe Telus has some intriguing unpriced catalysts in front of it, including a plan to monetize $3 billion of surplus urban real estate via re-development into high rise housing.

DISCLOSUREPERSONALFAMILYPORTFOLIO/FUNDCSU TSXNNYKKR NYSENNYT TSXNNY

PAST PICKS: September 26, 2024

Brian Madden’s Past Picks: Allied Properties REIT, Newmont & TD Bank Brian Madden, Chief Investment Officer at First Avenue Investment Counsel, discusses his past stock picks and how they’re doing in the market today.

Allied Properties REIT (AP-UN TSX)

Then: $19.88

Now: $20.45

Return: 3%

Total Return: 12%

Newmont (NEM NYSE)

Then: US$55.53

Now: US$77.53

Return: 40%

Total Return: 41%

TD Bank (TD TSX)

Then: $85.33

Now: $107.89

Return: 26%

Total Return: 31%

Total Return Average: 28%

DISCLOSUREPERSONALFAMILYPORTFOLIO/FUNDAP-UN TSXNNYNEM NYSENNNTD TSXYNY