McMurtry Investment Report and Model Portfolios™

McMurtry Investment Report Portfolios August 2022

Also available in PDF: McMurtry Investment Report Portfolio – August 2022

 Investment Commentary August 2022

US Yield Curve

The 10-2-year US Treasury yield curve inverted sharply from last month’s 0.06% to the current level of minus 0.41%. This is a material change and does indicate the probability of an upcoming recession is increasing. While many economists and the US government have still not formally announced that the domestic economy is in a recession, the negative GDP growth over the last two quarters would normally indicate that a recession has already begun. However, economists argue that the strong growth in employment is not a normal sign of a recession.

US Corporate Debt Spreads

As of August 4, 2022, Baa rated US corporate bond spreads relative to 10-year US Treasuries actually declined by 9 basis points to 2.32%. This does not indicate any immediate panic in the US economy.

Covid – 19 Health Stats

Covid cases in North America are gradually improving and this is resulting in the removal of most lockdowns. The Chinese situation is much more complicated with lockdowns continuing.

Equity Market Valuations

 The recent market rebound has caused the Forward PE of the S&P 500 to rise back up to 17.4 times from 16.1 times last month.

 Central Bank Monetary Policy

 It is obvious to me that the US Federal Reserve was much too late in increasing interest rates to stop domestic inflationary pressures. Contrary to what many believe, the Federal Reserve is very unlikely to stop their hawkish approach until there are clear signs that inflation is peaking. They are much more worried about the level of inflation than the negative repercussions on the economy from higher interest rates.

Asset Mix

As a result of the persistently high inflationary pressures combined with strong employment growth in the US, I am maintaining the same high cash levels and low equity weights as last month. Should the equity market retest its recent lows once again, having a higher cash weight will be most helpful in reducing portfolio volatility.

However, it is also important to note that there are some signs that inflation is peaking. Lower commodity prices, weak housing prices, lower shipping costs, high inventory levels and a much weaker global economy may be just starting to put pressure on inflationary concerns. This is one of the reasons why equity markets rebounded last month. The US real return Tips ETF indicates that the expected rate of US inflation has come down from last month’s 3% to the current 2.46%.

Once the Federal Reserve determines that the rate of domestic inflation has peaked, they will most likely back off their aggressive interest rate increases. Equity markets will also react favourably when this occurs. I do not think that inflation has peaked yet, but this is a key factor to monitor.

The only change I am making this month in the asset mix is to remove European equities from both portfolios with the funds redeployed into equities in Canada and the US. The European economy is facing a major headwind from the very high natural gas prices as a result of the Russian / Ukraine war.

Equity Sector Weights

As a result of the impending recession, many cyclical sectors have fallen sharply. In particular both the REITS and Materials sectors appear to be already discounting a recession. Consequently, I have decided to increase my REIT weight from the current underweight the North American benchmark to a market weight. As I am already at market weight the Materials sector, I am not making any changes to that sector, except to point out that Teck B, Capstone and Lundin are starting to look attractive on a long- term basis.

Individual Equity Changes

In a blog dated August 5th, I added back Premium Brands to both portfolios in the Consumer Staples sector. The recent decline in share price provides a buying opportunity. Second quarter revenues, adjusted EBITDA and adjusted EPS rose year over year by 23.1%, 16.6% and 12.2% respectively. Company management expects EBITDA to reach $600 million by 2023 from the projected $510-530 million range for this year. The company trades on a forward PE of 19.2 times, reasonable given the projected growth in EPS of 16.2% this year and 23% in 2023. The company offers an attractive dividend yield of 2.8%.

In a blog dated July 31st, I added NuVista Energy to the Growth portfolio. The company is a small cap producer of condensates, natural gas and natural gas liquids principally in the Montney region of Alberta. The company has a healthy balance sheet and is using its free cash flow to pay off its long- term debt and to buy back stock. The shares trade at a very reasonable 2.93 times Enterprise Value to Forward EBITDA. The company does not pay a dividend.

In a blog dated July 25th, I advised subscribers to reduce their holdings in Agnico Eagle by 50% with the funds redeployed back into more Franco Nevada. While I continue to like both companies, Agnico is a producer affected by rising operating costs. On the other hand, Franco is a pure royalty company with very low operating costs that also has some energy exposure. In the current period of flat gold bullion prices, Franco should perform better than Agnico. However, when bullion prices start going back up again, Agnico has more price leverage than Franco has.

In a blog dated July 15th, I added Altagas to both portfolios in the Utility sector. The company is one of the largest energy infrastructure companies in North America. It operates in both regulated natural gas distribution in the US and a midstream business in Canada through its ownership in the Ridley Island Propane Export Terminal near Prince Rupert, BC. EPS are projected to grow by 8% this year. The company’s recent acquisition of the remaining 25.97% of Petrogas it does not yet already own, is expected to be immediately accretive to EPS. The company pays a dividend of 3.75%. Its shares trade on a forward PE of 14.90 times.

In a blog dated July 12th, I deleted Freeport McMoran, First Quantum and Hudbay Mining from all portfolios as a result of the upcoming recession. On the same date I added Teck B to both portfolios. Teck has a much more diversified product mix than the others with its coking coal operation that is used exclusively to make steel. Coking coal prices are holding up much better than base metal prices at this time. The company has a strong balance sheet and is trading at a reasonable valuation. I continue to recommend Lundin Mining and Capstone with their strong balance sheets.

In a blog dated July 9th, I recommended a switch out of Target into Ulta Beauty. Target ‘s earnings are being negatively affected by rising operating costs and lower margins. On the other hand, Ulta Beauty’s revenues, earnings and operating margins remain strong. The company operates 1300 retail stores where they offer cosmetics, skincare, haircare, fragrances and bath products. The company has a loyalty program with 37 million members. During the last quarter same store sales rose by 18%. The shares currently trade with on a forward PE of 18.66 times, reasonable taking into account the company’s long term growth prospects. As the shares do not pay a dividend, I am only adding them to the Growth portfolio.

I am deleting Ball Corp from my Growth portfolio. The much weaker than expected 2nd quarter highlighted weakening North American demand, a 25% increase in operating costs, a much weaker balance sheet and plant closures in Arizona and Minnesota. Over the last six months operating cash flows declined sharply from a positive $168 million last year to the current level of minus $398 million.

In response to my deletion of European equities from my Asset Mix recommendations, I am deleting the iShares ETF XEU MSCI Europe and the iShares ETF EUFN European Financial. However, I am still maintaining individual European equities such as AstraZeneca and the European Residential REIT.



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Also available in PDF: MIR Portfolios April 2019

Investment Commentary (April 2019)

Asset Mix Changes

Last week both the Canadian and US yield curve inverted where short rates exceeded longer maturities. For most of the past economic recessions, an inverted yield curve occurred 6-18 months before the onslaught of an economic slowdown. Consequently, this signal should not be taken lightly and brushed off as is frequently the case with economists stating that things are different this time.

This week the inversion of the curve went away in both Canada and the US with longer rates now slightly exceeding shorter maturities. However, the negative yield curve is still present in Europe where their economy continues to suffer.

US corporate bond spreads for both investment and High Yield securities had been creeping up in late December. However, year to date corporate spreads over US Treasuries have been coming down once again. Historically when corporate spreads widen this is a danger signal for an economic slowdown. The recent reduction is spreads is a positive sign that the economy may not be as weak as many pundits are saying.

Overall economic activity is definitely slowing globally. This is also true in the US but their economy is still growing on a relative basis much faster than Europe and Canada. Economic growth in the Chinese economy had been coming down sharply, but this week an announcement came out stating that their domestic industrial production started to revive after nearly nine months of decline. Several months ago the Chinese authorities began stimulating their domestic economy by lowering corporate taxes and increasing government spending. Once again this is a positive development.

The Federal Reserve has stopped increasing rates by emphatically stating that there will be no more rate increases for the remainder of the year.

US corporate profit growth has slowed dramatically from last year, while equity prices have rebounded sharply year to date. Equity valuations are no longer cheap as they were in late December.

This week the US / China trade talks have taken a more positive tone which is good for markets.

Taking all these factors into consideration, I have decided to leave the asset mix for both portfolios the same as last month. The jury is still out if an economic recession is imminent or only years away.

McMurtry Investment Report Asset Mix (April 2019)
Asset Mix – Income and Growth Portfolios
%Income Growth
Bonds – Regular20.0010.00
Bonds – High Yield5.005.00
Emerging Markets0.000.00

Equity Sectors

The main change to my equity sector recommendations is to reduce the Financial equity exposure from overweight to market weight the 55% US 45% Canada benchmark. This works out to a new weight of 21.25% of my North American equity exposure.

The reason for my reduction in weight for the Financial sector is all to do with interest rates and the slope of the yield curve. Lower rates combined with either a flat or inverted yield curve is not positive for the bank’s net interest margins. A slowing economy normally results in an increase in loan losses, another possible headwind.

For the other groups I remain market weight Energy, Utilities and Healthcare.

I remain overweight Technology, Industrials, Real Estate, Communication Services and Consumer Staples

I remain underweight Materials and Consumer Discretionary.

McMurtry Investment Report – Sector Weights (April 2019)
Equity Sector Weights (%)
SectorMy WeightTSX CompS&P 50055 % US /45% CDN
Consumer Disc.6.404.1010.107.40
Comm. Services8.505.8010.108.17
Consumer Staples6.253.907.305.77
Real Estate3.753.503.103.28

Common Equity Changes

In the Financial Services sector, I am replacing National Bank with Intact Financial for both portfolios. Intact is the largest property / casualty company in Canada and will benefit from the recent departure of AIG, a large US competitor from the Canadian market. Intact is raising insurance rates in Ontario and this will help to increase operating margins. Differing from life insurance companies, property and casualty insurance companies have much shorter term liabilities and are consequently not as negatively affected from flat to falling interest rates as the life companies are.

In the Technology sector, I am deleting Nokia from both portfolios. Huawei, the Chinese company and major competitor to Nokia has been continuously lobbying the global wireless providers to encourage them to continue buying their products. It is only in the US that the Chinese company has been banned with its alleged cybersecurity activities. Thus, Nokia has not been as much of a beneficiary from the 5G wireless ramp up as originally expected. In addition, a law firm has recently alleged that Nokia’s Alcatel – Lucent division has some very serious potential claims for security law violations. This creates a lot of uncertainty. My recommendation is to sell your Nokia shares and use the proceeds to purchase more Cisco, which will be a major beneficiary from the upcoming 5G implementation.

In the healthcare sector I am adding the Swiss dental implant company, Straumann Holdings ADR to my Growth portfolio. This American Depositary Receipt is not very liquid in the US market, so please always use limit orders when buying and selling this security. Despite this shortfall, this is a good quality company and one of the global leaders in the dental implant industry. The company is experiencing strong annual revenue and gross profit growth in addition to record EBITDA margins. The company has strong organic growth and operates in 100 countries globally. The global dental implant market is expected to grow at 4-5% globally this year and Straumann’s organic growth is sharply outperforming its competitors.

Lastly in the Materials sector, I am adding Osisko Metals to my Growth portfolio. The company is a small cap zinc exploration company that operates in both the Far North and in New Brunswick. The company has no long term debt and the level of insider buying is unusually high. Normally I do not even discuss insider buying, but the level of insider buying for this company is extraordinary. The supply / demand situation for zinc is the most favourable for all the base metals with inventory stockpiles at very low levels. Should the Chinese economy rebound the demand for zinc will increase accordingly.

Peter McMurtry, B.Com, CFA
Financial Writer
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McMurtry Investment Report – Portfolios (April 2019)
CashAlterna Bank – High Interest Savings (2.35% current rate)Alterna Bank – High Interest Savings (2.35% current rate)
 EQ Bank – High Interest Savings ( 2.30% current rate)EQ Bank – High Interest Savings ( 2.30% current rate)
Bonds -RegulariShares XSB Short TermiShares XSB Short Term
 iShares CBO 1-5 Ladder CorpiShares CBO 1-5 Ladder Corp
 iShares CLF 1-5 Ladder Gov’tiShares CLF 1-5 Ladder Gov’t
Bonds – High Yield CORPiShares XHY US High Yield CDN$  iShares XHY US High Yield CDN $ 
Common StocksSecurityDividend Yield %SecurityDividend Yield %
FinancialsRoyal Bank RY4.05Royal Bank RY4.05
 Bank of Montreal BMO4.00Bank of Montreal BMO4.00
 Bank of Nova Scotia BNS4.89Bank of Nova Scotia BNS4.89
 Intact Financial IFC2.69Intact Financial IFC2.69
 TD TD4.08TD TD4.08
 Sun Life SLF3.90Sun Life SLF3.90
 JP Morgan JPM US3.16JP Morgan JPM US3.16
 Bank of America BAC US2.17Bank of America BAC US2.17
 Citibank C US2.89Citibank C US2.89
 Morgan Stanley MS US2.84Morgan Stanley MS US2.84
 T. Rowe Price TROW US3.04T. Rowe Price TROW US3.04
 Keycorp KEY US4.32Keycorp KEY US4.32
 PNC Fin’l PNC US3.10PNC Fin’l PNC US3.10
EnergySuncor SU3.85Suncor SU3.85
 Freehold FRU7.43Freehold FRU7.43
 Torc TOG5.62Torc TOG5.62
 Pembina Pipe Lines PPL4.55Pembina Pipe Lines PPL4.55
 Enbridge ENB6.04Enbridge ENB6.04
 Trans Canada TRP4.91Trans Canada TRP4.91
   Parex Resources PXT0.00
MaterialsAgnico Eagle AEM1.15Agnico Eagle AEM1.15
 Franco Nevada FNV1.29Franco Nevada FNV1.29
   Osisko Metals OM.V0.00
   iShares Global Gold ETF XGD0.20
IndustrialsToromont TIH1.55Toromont TIH1.55
 Air Products APD US2.44Air Products APD US2.44
 WSP Global WSP2.06WSP Global WSP2.06
 Canadian Pacific CP0.94Canadian Pacific CP0.94
 CNR 1.79CNR1.79
 Raytheon RTN US2.03Raytheon RTN US2.03
 Aecon Group ARE3.33Aecon Group ARE3.33
 Guggenheim Eq WT IND RGI US1.35Guggenheim Eq Wt IND RGI US1.35
 Honeywell HON US2.07Honeywell HON US2.07
 TFI Int’l TFII2.45TFI Int’l TFII2.45
Consumer DiscretionaryHome Depot HD US2.80Home Depot HD US2.80
 Sleep Canada ZZZ3.77Sleep Canada ZZZ3.77
 Canadian Tire CTC.A2.88Canadian Tire CTC.A2.88
 Amazon AMZN US0.00Amazon AMZN US0.00
 Lowes LOW US1.75Lowes LOW US1.75
Communication ServicesRogers B RCI.B2.78Rogers B RCI.B2.78
   Facebook FB US0.00
   Alphabet GOOGL US0.00
Consumer StaplesAlimentation Couche- Tard ATD.B0.64Alimentation Couche Tard ATD.b0.64
 Loblaws L1.79Loblaws L1.79
 Constellation Brands STZ US1.69Constellation Brands STZ US1.69
 Unilever PLC UL US3.06Unilever PLC UL US3.06
TechnologyApple AAPL US1.54Apple AAPL US1.54
 Microsoft MSFT US1.56Microsoft MSFT US1.56
 Open Text OTEX1.58Open Text OTEX1.58
 Paychex PAYX US2.79Paychex PAYX US2.79
 Cisco CSCO US2.59Cisco CSCO US2.59
   Kinaxis KXS0.00
   ETFMG Prime Cyber Sec. HACK US0.15
   Visa V US0.64
UtilitiesAlgonquin Power AQN4.58Algonquin Power AQN4.58
 Northland Power NPI5.12Northland Power NPI5.12
 Fortis FTS3.64Fortis FTS3.64
HealthcareAbbott Labs ABT US1.60Abbott Labs ABT US1.60
 Becton Dickinson BDX US1.23Becton Dickinson BDX US1.23
 Merck MRK US2.65Merck MRK US2.65
 US Healthcare iShares ETF IYH US1.84US Healthcare iShares ETF IYH US1.84
 United Healthcare UNH US1.46United Healthcare UNH US1.46
   Danaher DHR US0.52
   Thermo Fisher Scientific TMO US0.28
   Straumann ADR SAUHY US *0.63
   IBB Biotech ETF IBB US 0.28
Real EstateCdn Apt. REIT CAR.un2.76Cdn. Apt. REIT CAR.un2.76
 InterRent REIT IIP.un2.03InterRent REIT IIP.un2.03
 Dream Industrial DIR.un5.83Dream Industrial DIR.un5.83
 Summit REIT SMU.un4.35Summit REIT SMU.un4.35
European EquityiShares MSCI Europe XEU2.96iShares MSCI Europe XEU2.96

* Be careful purchasing and selling Straumann ADR’s as it is very illiquid. Always use a limit order.

Peter McMurtry, B.Com, CFA

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