Brian Madden, chief investment officer at First Avenue Investment Counsel

FOCUS: North American equities

MARKET OUTLOOK:

The S&P TSX Composite Index recently joined U.S. equity indices in making fresh all-time highs after a two-month lag. While Canadian economic data has been mixed, U.S. data and corporate profits have been robust. Markets tentatively broadened out late in the first quarter from the narrow growth-centric leadership that dominated much of last year.

Ten of 11 U.S. economic sectors rose during the first quarter and nine of 11 sectors rose in Canada, alongside 77 per cent of individual S&P 500 and 69 per cent of S&P TSX Composite constituents participating in the rally. Pockets of weakness in the rate-sensitive telecom, utilities and real estate sectors remain though, much to the chagrin of income-seeking investors as the “dividend aristocrat” indices captured only just more than half the total returns enjoyed by the headline S&P 500 and S&P TSX Composite indices. 

A risk we remain mindful of is the lagged effect of the 2022-2023 rate hikes, particularly with recent clues indicating that interest rate relief may be later and smaller than investors earlier had hoped. Another is the risk of reversal in investor sentiment, with the latest American Association of Individual Investors survey reading 50 per cent bullish versus 22 per cent bearish, a degree of lopsidedly bullish sentiment surpassed only 12 per cent of the time going back to 1987. Either could trigger a garden-variety correction in stocks of five-10 per cent, still in the context of a durable and ongoing cyclical bull market.

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TOP PICKS:

Netflix (NFLX NYSE)

Netflix is the clear global leader in streaming high quality video content as evidenced by its 260 million and growing subscriber base. Despite a competitive landscape, Netflix commands strong pricing power while maintaining best-in-class customer retention. We expect Netflix will continue to grow revenues at a healthy double-digit pace led by aggressive investment into original content, conversion of password sharing users to paid subscribers, capitalizing on digital advertising via its new ad-supported plan, and price hikes across its global footprint. With scale and strong expense management, we expect margins to expand materially and enable rapid free cash flow growth, up to 75 per cent of which is earmarked for share repurchases.

Service Corp. International (SCI NYSE)

Service Corp. is North America’s largest death care company, with 2,000 funeral homes and cemeteries in Canada and the U.S. The industry is fragmented, with many single location mom-and-pop outfits, and SCI is the leading consolidator, holding a 15-16 per cent market share. Size and scale advantages are significant in this business, which works to SCI’s advantage and allows them to earn premium profitability with a return on equity above 30 per cent and rising. Their financial strength is also advantageous as the two other consolidators are having financial difficulties. Now lapping several years of post-COVID growth headwinds, we expect SCI to accelerate back towards its historic pace of 14 per cent earnings and dividend growth supported by demographics, proactive “pre-needs” sales tactics they are executing, and a growing trend towards “premiumization” in cemetery plots.

Cameco (CCO TSX)

Cameco is among the world’s largest producers of uranium and is among a very small number of public companies globally that produce solely uranium, as seven of the 10 largest global producers who collectively control 70 per cent of global output are state-owned companies. With 485 million pounds of reserves across its two majority-owned and operated mines in Saskatchewan and a joint venture in Kazakhstan, Cameco is well positioned to benefit from strong demand from utilities for secure supplies of fissile material from safe jurisdictions.  Having resumed production at their McArthur River mine last year, Cameco benefitted from both a 76-per-cent increase in production volumes and a 16-per-cent boost to realized pricing, which led to 136 per cent earnings growth. India and China have been driving most of the growth in the installed fleet of nuclear reactors globally, but other big countries, including Japan, Canada, the United States and various European countries are greenlighting new reactor builds and reactor life extensions to power their electrical grids in light of ESG commitments. The icing on the cake for Cameco is the $8-billion acquisition late last year of Westinghouse Electric in partnership with Brookfield Renewable Partners.

PAST PICKS: June 23, 2023

Alimentation Couche-Tard (ATD TSX)

Then: $63.48
Now: $75.51
Return: 19 per cent
Total Return: 20 per cent

Constellation Software (CSU TSX)

Then: $2649.60
Now: $3629.81
Return: 37 per cent
Total Return: 37 per cent

UnitedHealth Group (UNH NYSE)

Then: US$477.00
Now: US$444.70
Return: -7 per cent
Total Return: -6 per cent

Total Return Average: 17 per cent