McMurtry Investment Report & Model Portfolios

McMurtry Investment Report – March 2022

March, 2022 – Canada, Canada, Canada

We are in the midst of a commodity boom that many of us have not experienced in our lives since the late 1970’s when inflationary expectations were comparable to what they are now. Although I am repeating this same message from a recent newsletter, I want to continue to stress the importance of investing your capital in areas that provide you with the biggest bang for your buck.  


The current outlook of rising inflation predicated by both supply chain disruptions, rising commodities and higher labour costs continues to provide a major headwind to global central banks. The recent invasion of Ukraine by Russia is resulting in inflation rising even faster with sanctions imposed by western countries that are very upset with Russia’s military behaviour. The US dollar and US Treasuries have strengthened since the invasion as investors flock to a high- quality investment. 


A rising US dollar combined with rising energy prices is especially hurting Europe with commodity prices rising even faster in local currencies. In regards to Canada, historically very strong energy prices like we have today have normally resulted in a much stronger domestic exchange rate. A weaker loonie on a comparable basis to other economic cycles is another tailwind for the Canadian economy and companies at this time. 


As I have mentioned many times in previous writings, the Canadian equity market is materially more exposed to both consumer and industrial cyclical companies than is the case in the US. Even after the very strong investment performance from both the Energy and Materials sectors in the US, these groups still only represent 3.70% and 2.60% of the S&P 500 index respectively. US Portfolio managers trying to beat the benchmark returns need to materially overweight these cyclical sectors in order to achieve strong returns for their entire portfolio. US money managers that continue to favour high multiple growth stocks are fighting a losing battle with interest rates set to rise at the fastest rate in many years.  


Most commodities, including crude oil, natural gas, wheat, fertilizers, copper, aluminium and gold are reaching historically high levels and are not showing any signs of peaking out in the near future.  


Taking into consideration the much higher domestic equity exposure of cyclical stocks, it is not a surprise that the Canadian benchmark index has sharply outperformed its US counterpart during previous high inflationary periods.  


Over the last 12 months, the TSX Composite has jumped by 18.08% in price terms only, outperforming both the S&P 500 and Nasdaq Composite’s price changes of 14.87% and 4.64% respectively. Over the last six months the Canadian market is clearly showing its superior investment performance with a price return of 2.79% compared with losses of 4.55% and 13.34% for the S&P and Nasdaq Composite respectively. As long as we do not get a global recession in the next 6-8 months, the party is only beginning for Canada in terms of strong investment performance. 


Going back to the 1970’s, there have been several inflationary periods, 1970’s, 1986-1990, 2002-2005 and 2006-2008. During these periods copper, gold and crude oil exhibited very strong real returns. In addition, over these periods the US S&P 500 index had an average negative real return of 5.6% compared to the TSX Composite’s positive 2.3% real return.  


I am increasing the domestic North American benchmark weight to 70% Canada and only 30% US from the previous 65% Canada and 35% US.  


While I continue to advocate a diversified equity exposure to all sectors, I still favour an overweight for all cyclical groups including Financials, Energy, Materials, Industrials, Consumer Discretionary and Real Estate. There are very few periods where the Canadian equity market outperforms its US counterpart. This is clearly one of these times. Along the way you will get periods of high volatility where commodity stocks and cyclicals fall sharply. However, it is important to keep in mind that cyclicals tend to continue to outperform in the latter stages of a bull market. At some point you should also start to see the loonie begin to reassert itself against the US greenback. This will also help to improve your investment returns assuming you switch some of your investments from US to Canadian dollars.  


This is not the time to be eliminating your cyclical / value stocks in order to switch to either the growth or defensive areas.  

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