Stephen Takacsy, president, chief executive officer and chief investment officer, Lester Asset Management

FOCUS: Canadian stocks  

MARKET OUTLOOK:

Stock and bond markets rebounded strongly in January after one of the worst years for both equities and fixed income as investors try to anticipate the end to the aggressive central bank interest rate hikes. Rising rates have slowed down parts of the economy such as residential real estate. However, Canada and the U.S. should be able to engineer a “soft landing” as their economies are coming from a strong place with low unemployment, high personal savings and strong currencies. Inflation is already showing signs of easing as supply and demand come more into balance while supply chain disruptions normalize.

The strong rebound in both stocks and bonds is evidence that investors are starting to sniff out a possible end to the tightening cycle. Inflation data is slowly softening and central banks are easing-off in order to give some time for the hikes to take effect with the Bank of Canada already on pause. Investor sentiment has been extremely bearish which was a great contrarian signal. As we said as far back as early November, when sentiment starts to turn, markets usually rise sharply which has been the case since the lows in mid-October (the S&P 500 has risen +15 per cent since). This is why it’s important to keep cool and stay the course.

We have stayed invested but remain well diversified in recession-resistant businesses that have pricing power such as telcos, pipelines and utilities. These safe high dividend-yielding sectors look particularly attractive having corrected significantly towards the end of last year.

We also own companies benefitting from strong tailwinds such as the transition to clean energy (renewable power producers like Boralex and Northland Power). Additionally, we own other long-term investment themes such as aging demographics (Savaria, Park Lawn, Neighbourly), digitization and automation (CGI, Tecsys, Kinaxis, MDF Commerce, ATS), as well as infrastructure (Stella Jones, AG Growth, Logistec). We took advantage of volatility last year to add high-quality companies to our portfolio at more reasonable valuations as share prices came down, such as WSP Global, CCL, Cargojet, Richelieu Hardware, and Jamieson Wellness.

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TOP PICKS:

RICHELIEU HARDWARE (RCH TSX)

A high-quality company now on sale.

Richelieu is a leading North American distributor and manufacturer of specialty hardware for kitchens, bathroom cabinets and storage closets. It has grown organically and by acquisition. Recently it reported record sales of $1.8 billion as well as record profits. It usually trades at a premium valuation but sold-off hard in 2022, down 25 per cent because investors view it as a housing stock.

Richelieu’s sales are mostly tied to the home renovation market through manufacturers and contractors (rather than DIY through the home hardware channel) who are still backlogged from the pandemic demand and supply chain issues. So, despite a slowdown in housing prices, there is still huge pent-up demand in the home renovation market. The company is extremely well managed, has a very strong balance sheet and now has a compelling valuation with a P/E of around 16X 2023 and the company has been aggressively buying back shares at these levels.

PET VALU (PET TSX)

Growth and recession-proof.

Pet Valu is Canada’s leading retailer of pet supplies with 700 mostly franchised stores and some corporate-owned ones. It is three times larger than its nearest competitor. Industry growth has been driven by increased pet adoption rates, particularly during the pandemic when three million more pets were adopted in Canada and now have to be fed for the next 10-15 years. Additionally, spending per pet is higher because of the humanization of pets as we now treat our pets like a member of the family.

The pet supply business is also a recession-resilient business. Since Pet Valu’s initial public offering (IPO) in 2021, it has consistently beaten consensus, delivered double-digit organic growth and raised its guidance. It keeps rolling out new stores to gain more market share and recently acquired the largest pet supply retailer in Quebec. The company is trading at around 23X NTM P/E which is reasonable given its growth rate.

FLAGSHIP COMMUNITIES (MHC.U TSX)

A unique and stable sub-asset class in real estate.

Owns over 60 manufactured housing communities in the U.S. Midwest. These are unique real estate assets because municipalities aren’t issuing permits to build new communities because they don’t collect much tax on these properties. Only the land is taxed by the municipality and not the home which is treated as a depreciating asset (i.e. “mobile” homes are treated like cars). MHC’s have a very stable tenant base with no rent control and low capex. It’s a very fragmented industry owned by “mom and pop” operators, so it is a great industry to consolidate because of the SG&A cost synergies and revenue growth through rent increases, higher occupancy and value-added services like parks. It’s USD denominated and the only pure-play publicly-traded such company in Canada and has a dividend yield of 3.6 per cent. 

PAST PICKS: January 20, 2022

LOGISTEC (LGT.B TSX)

• Then: $46.01
• Now: $41.50
• Return: -10%
• Total Return: -9%

VELAN (VLN TSX)

• Then: $9.15
• Now: $5.57
• Return: -39%
• Total Return: -39%

QUARTERHILL (QTRH TSX)

• Then: $2.64
• Now: $1.87
• Return: -29%
• Total Return: -27%

Total Return Average: -25%