Also available in PDF: McMurtry Investment Report Portfolio – February 2022
Investment Commentary February 2022
US Yield Curve
The ten minus two- year US Treasury yield curve narrowed by 27 basis points to 0.62%. This narrowing of the curve should not be viewed as negative for the economy as the yield curve remains positively sloped.
US Corporate Debt Spreads
As of February 3, 2022, Baa rated US corporate bond spreads relative to 10-year US Treasuries actually rose modestly by 14 basis points to the current level of 1.92%. Once again, this minor rise in the corporate spread is nothing to worry about at this time.
Covid – 19 Health Stats
The Omicron variant is proving to be much more transmissible than either the basic Covid-19 strain or the Delta variant. Globally there are between 2.5 – 3 million new cases daily. This is one of the highest levels since the pandemic began. The global daily death rate is between 8,000-12,000 which remains stubbornly high, but not at record levels compared to the daily new cases.
In the US daily new cases have come off sharply to around 300,000 from 850,000 previously. The 7-day moving average level of US hospitalizations has fallen by 18% over the previous period to 16,068.
In the western world, the combination of increasing vaccination rates combined with the fact that a very high percentage of the population has contracted the virus but recovered, has significantly eased fears of the negative implications of this pandemic. While it is still premature to use the words herd immunity, we may be gradually going in this direction.
However, this is not the case in the poorer countries of the world where affordability and logistics continue to keep vaccination rates low and this remains a real problem in controlling the virus in places like India, Africa and Russia.
Equity Market Valuations
The forward PE multiple of the S&P 500 is 19.70 as of February 4th. This compares to the long -term median of 19.6 times.
Central Bank Monetary Policy
Faced with rising inflationary pressures, the US Federal Reserve Bank remains vigilant in fighting inflation by reducing the balance sheet and increasing interest rates. Their feeling is that the current combination of less accommodating Central Bank policy and less fiscal policy incentives will eventually slow inflationary pressures. It remains to be seen if their assessment will be correct.
Equity markets were oversold on a short- term basis over the last two weeks and this caused the market to rally a little last week despite continued fears of rising interest rates. Overall quarterly profits in the 4th quarter were solid, but the annual year over year growth rate this year is anticipated to drop off from the unusually strong levels of 2021. However, the growth rate is still expected to be in the range of 8% this year which should keep equity markets from falling dramatically.
I am not making any major changes to the equity and cash weights from last month. I am increasing preferreds by 1% for both portfolios while simultaneously reducing high yield bonds by the same amount. I am increasing the European and Emerging Market equity weights by 1% and 1.5% respectively and reducing the North American exposure accordingly.
Equity Sector Weights
I remain overweight my North American benchmark Financials, Energy, Materials, Industrials, Consumer Discretionary and Real Estate. I remain underweight Consumer Staples, Healthcare, Technology, Utilities and Communications. I am reducing the technology underweight from last month, but increasing my Communications underweight.
Individual Equity Changes
In a blog dated January 19th I added Lundin Mining to both portfolios. The company offers a nice dividend that is well covered by cash flow. Lundin has a strong balance sheet as well. The company is cheap on a Enterprise Value to Forward EBITDA basis.
In a blog dated January 31st, I deleted CSX and replaced it with Canadian National for both portfolios in the Industrials sector. CN offers much better EBITDA growth prospects this year than CSX.
In the technology sector, I am deleting Keysight, CGI, Open Text and Oracle. In addition, in the Communications sector, I am deleting Facebook as well. Despite the weak share prices of these companies, their projected EBITDA growth rates are much lower than their competitors.
Lastly, I am adding Chubb, the US property and casualty company to both portfolios in the Financials sector. In the 4th quarter, the company reported core operating income increased by 18% more than consensus estimates with strong growth in premium revenues. In addition, the company’s combined ratios for its domestic and international businesses fell materially for both divisions. This was a result of a 5% decline in catastrophic losses combined with rising premiums. The company provides a dividend yield of 1.55% with a low cash flow payout ratio.
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