Investment Commentary February 2024
US Yield Curve
The 2-10 year US Treasury yield curve narrowed slightly to a minus 29 basis points.
US Corporate Debt Spreads
Investment grade US corporate debt spreads remained stable at 1.59% indicating that a recession is not imminent.
China
While the Chinese economics stats remain weak, the probability of both a major fiscal and monetary stimulus in that country is increasing.
Equity Market Valuations
The forward PE of the S&P 500 rose to 20 times and this compares to the 5 year average of 18.9 times.
US Corporate Earnings
US corporate earnings are coming in on average higher than the consensus estimates with the 2024 full year EPS still projected to grow by over 11%. The earnings growth is expected to be stronger during the latter half of this year.
Central Bank Monetary Policy
The stronger than projected employment growth is making the Federal Reserve sound more hawkish once again. However, overall inflation is still coming down. Central Bank interest rate decreases are now expected to be fewer this year than consensus projections and only begin in the second half of this year.
Asset Mix
I am making several changes this month to asset mix. I am reducing fixed income by 5% with the monies directed back into more equities. On a pro forma basis Equity weight increases to 50% for the Income Portfolio and 60% for the Growth portfolio. In addition, I am increasing the non- North American equity weight with these markets much cheaper than the US equity market. As a result of the Federal Reserve sounding slightly more hawkish, I am reducing the 5-10 -year Canada fixed income weight by the 5% figure mentioned above to the new level of zero.
While overall domestic US inflation continues declining, economic growth remains robust amid strong employment growth. The probability of a recession is diminishing with this strong growth. Despite most economists doubting this scenario, a soft goldilocks type landing is becoming more likely.
The Federal Reserve is still expected to decrease interest rates, but the amount and the timing are still subject to market conditions.
US corporate profit growth is quite encouraging and this is helping the equity markets.
Equity Sector Recommendations
I am making one major change to my equity sector weights. My North American benchmark weight goes from 65% Canada 35% US, to my new weight of 55% Canada 45% US. This is a significant change and is predicated by the astonishing strength in the US economy despite the level of interest rates. I am still overweighting Canada relative to the US as our domestic equity market is significantly cheaper than the US one. Value / cyclical stocks are still expected to play catchup once the US dollar peaks vs global currencies and the Central Bank starts reducing interest rates. This is expected to commence in the second half of this year.
This above change automatically increases the equity sector weight for the Technology and Communication sectors and reduces exposure to the Financials, Materials, Energy and Consumer Discretionary areas.
In regards to the ETF portfolios, I am making the same changes as the individual portfolios. In addition, I am adding a 2% position into the US small cap ETF, AVUV – US as well as a new position of 2% in the Emerging Markets ex China ETF, EMXC-US. Pro forma equity weights are also increasing for these ETF portfolios to 50% and 60% for the Income and Growth portfolios respectively.
Individual Equity Changes
Last month Tricon Residential was taken over by Blackstone at a significant premium to the current market values at the time. I advise tendering your shares and am removing this company from my model portfolios.
I am also deleting the ADR, Fevertree from both portfolios in the Consumer Staplers sector. Even though the company’s prospects are materially improving, the ADR shares are very illiquid and frequently do not show any daily volume from day to day. This lack of liquidity is the only reason I am deleting these shares, but nevertheless it is an important one.
In a portfolio blog dated January 29th, I added Avantis small cap value ETF, AVUV-US, to both portfolios. This fund has a low MER of 0.25% and offers the investor equity exposure to the much cheaper US small cap sector.
In a portfolio blog dated January 26th, I deleted Humana from both portfolios in the Healthcare sector. Humana is facing major headwinds with most of their business being derived from Medicare. This differs from both United Healthcare and Elevance where most of their clients are private pay ones. In the Medicare Area, there has been a sharp rise in healthcare services and this is having a negative effect on medical insurance providers focusing. on Medicare clients.
In a portfolio blog dated January 14th, I added the US healthcare Reit, Welltower to both portfolios. The company’s businesses include Seniors Housing, acute care rehab centers and outpatient medical facilities. The 3rd quarter saw strong organic growth with projected EBITDA expected to grow by almost 18% this year. The company has a strong balance sheet and pays a dividend of 2.81% with an 85% payout ratio.
In a blog dated January 11th, I added back Loblaw to both portfolios in the Consumer Staples sector. The company has a strong advantage over its peers, deriving a much higher proportion of its earning from its drug business. Loblaw trades at a reasonable 16 times forward earnings with a projected growth rate of EPS of 9.5% this year. Its dividend yield is 1.33% with a very low cash flow payout of 17%.
IN a portfolio blog on January 11th, I added Meta to the Growth Portfolio in the Communications sector. After they announced a dividend for the first time in their history, I added the stock to my Income Portfolio as well. Even after its sharp share price rise after announcing its most recent quarter, the stock still only trades at a forward PE under 24 times with a projected EPS growth in 2024 of 33%.
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