Chris Blumas, portfolio manager, Raymond James Investment Counsel

FOCUS: North American large caps 

MARKET OUTLOOK:

Concerns about inflation have prompted central banks around the world to tighten monetary conditions, but the pace of tightening has varied as striking the right balance between supporting growth and managing inflation has proven challenging.

While core inflation in the U.S. is down significantly from its peak, it remains stubbornly high and above the U.S. Federal Reserve’s two per cent inflation target. However, downward trends in the component parts of core inflation suggest that inflation is likely to roll down over the next few months. Strong wage growth over the last two years has helped to fuel inflation but wage growth appears to be slowing due to increased supply and slowing demand for labour. As a result, market participants have begun to price in interest rate cuts next year as the persistent battle between inflation and deflation continues and the lagged impact of higher interest rates weighs on the U.S. economy.

While the depth and duration of a potential U.S. recession remain uncertain, I think investors should remain well-diversified and defensively positioned and avoid the temptation to exit the markets and wait on the sidelines. There are pockets of value in today’s markets and history has shown that the single biggest mistake an investor can make is to capitulate and exit the markets at the wrong time. In reality, this can be one of the best times to buy, and in the words of legendary investor Charlie Munger, “a great business at a fair price is superior to a fair business at a great price.”

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TOP PICKS:

CGI (GIB.A TSX)

CGI is an IT outsourcing and consulting company and its revenues are split almost evenly between these service offerings. The company has clients around the world and a strong competitive position in North America and Europe. As companies look to boost efficiency and transition to a more digital world, CGI’s service offerings and global delivery model lead to enduring client relationships and a high level of recurring revenues. Going forward, the CGI is well positioned to benefit from trends in digitization and has the financial flexibility to create value through acquisitions, organic initiatives, and share buybacks. The shares currently trading around 18 times forward earnings and have a trailing free cash flow yield of almost six per cent. CGI does not pay a dividend to shareholders.

Enbridge (ENB TSX)

Enbridge is a North American-focused energy infrastructure company with a lower-risk business model. The company has low commodity price exposure, strong contracts, and low counterparty credit risk. Enbridge recently announced a deal to buy three U.S. gas utilities from Dominion Energy for around $19 billion in an all-cash transaction that is expected to close next year. This transaction will help the company grow its earnings and cash flows and further enhance asset diversification. The shares currently trade at 8.5 times forward distributable cash flow. It has a dividend yield of 7.7 per cent with a cash flow payout ratio of around 65 per cent.

Yum China (YUMC NYSE)

Yum China is the largest restaurant operator in China. The company generates revenues through company-owned restaurants and from franchise fees. Yum China’s most well-known brands are KFC, Taco Bell, and Pizza Hut but its restaurant portfolio also includes several other well-known local brands and concepts. While some near-term headwinds associated with macroeconomic conditions persist, the company’s resilient business model, proven management team, and strong digital capabilities should allow it to continue growing sales and profits at an above-average rate. The company has an exceptionally strong balance sheet (net cash of almost $3 billion or $7 per share) and a loyalty program with over 400 million members. The shares currently trade at around 15 times adjusted forward earnings and have an adjusted free cash flow yield of more than five per cent.

PAST PICKS: DECEMBER 14, 2022

Alphabet (GOOGL NASD)

• Then: US$95.07
• Now: US$132.61
• Return: 39%
• Total Return: 39%

Brookfield Corporation (BN TSX)

• Then: $45.55
• Now: $49.18
• Return: 8%
• Total Return: 9%

Chartwell Retirement Residences (CSH.UN TSX)

• Then: $8.22
• Now: $10.89
• Return: 32%
• Total Return: 41%

Total Return Average: 30%