The Canadian stock market is forecast to improve next year to at least match the performance of the U.S. for the first time since 2010, led by companies raising their dividends such as Rogers Communications Inc. and Brookfield Asset Management Inc.
The Standard & Poor’s/TSX Composite Index and its U.S. counterpart, the S&P 500, will both return about 7 percent in 2014 including dividends, as economies in the U.S., Europe and China grow, said Robert Gorman, chief portfolio strategist at Toronto-Dominion Bank’s TD Wealth unit.
“We’re going to see a convergence of returns, implying the three-year period of sharp underperformance for Canada is coming to a close,” Gorman, 59, said in a phone interview on Nov. 25. “Dividend stocks will continue to rule but on relative terms we’ll see resources do comparatively better after showing signs of bottoming out.”
Next year will be the first year since 2011 when Canada, the U.S., China and Europe will all post positive growth, according to average estimates of economists surveyed by Bloomberg. Gross domestic product in the eurozone is forecast to expand after shrinking for two straight years.
Gorman founded TD Private Investment Counsel in 1991 for the Toronto-based bank, which now manages about C$19 billion ($17.9 billion), and helped co-found the TD Mutual Funds family. TD’s Canadian Equity Fund, its largest Canadian equity-focused fund with C$2.73 billion in assets, has gained 13 percent in the year through yesterday to outperform 24 percent of its peers, data compiled by Bloomberg show.
The S&P/TSX is on track to underperform the S&P 500 for a third straight year in 2013 with a 7.1 percent gain this year, the third-worst performer among the world’s developed markets ahead of only Hong Kong and Singapore. The Canadian index fell 99.70 points, or 0.7 percent, to 13,319.87 at 4 p.m.
By contrast, the S&P 500 has rallied 26 percent in 2013, aided by the U.S. Federal Reserve’s $85 billion-a-month bond-buying program. The purchases have helped suppress bond yields, boosting liquidity and supporting stocks as an alternative.
“The big story was the expansion of P/E multiples” in the U.S. market in 2013, Gorman said, referring to the price investors are willing to pay for a stock based on earnings. The price-to-earnings ratio for the S&P 500 has climbed to 17 times as of Dec. 2, its highest reading since 2010. “While it’s possible it could expand further next year, it’s unlikely with the prospect of tapering,” referring to a predicted slowing of the Fed’s bond buying.
Brian Belski, chief investment strategist at BMO Capital Markets, said he enters 2014 less optimistic than in the past few years.
“Current levels suggest it may be more difficult for the market to continue its impressive run without equally impressive earnings growth,” Belski, based in New York, said in a Dec. 2 report.
The benchmark Canadian equity gauge snapped a seven-year streak of dominance over the S&P 500 in 2011, hampered by a 52 percent plunge in raw-materials stocks since the end of 2010.
Gold has slumped 27 percent in 2013 and is set for the first annual drop in 13 years as some investors lost faith in the metal as a store of value. The group remains largely out of favor with Gorman.
He prefers diversified miners such as Teck Resources Ltd., which produces coking coal, used for steel manufacturing, and base metals such as copper.
Energy producers such as Suncor Energy Inc., the largest oil producer in Canada, also look attractive, he said.
“In the oil stocks I don’t think you want to make an investment based on the expectation of a rising commodity price,” Gorman said. “It’s much more important to focus on companies with rising production and free cash flow, which Suncor does.”
Full-year output at Suncor has increased in three of the past four years, with the company producing about 549,000 barrels of oil equivalent per day in 2012, more than double its production in 2007. Free cash flow is on track for a third positive year, after four negative ones, data compiled by Bloomberg show.
Gorman said he prefers stocks with a history of increasing dividends, including Rogers Communications and Brookfield Asset Management. Rogers, which last raised its annual dividend 10 percent to C$1.74 a share in February, has a five-year dividend growth rate of 11 percent. Brookfield Asset Management raised its annual dividend 7 percent to 60 cents a share in February while Suncor boosted its payout 54 percent to 80 cents this year.
It is important to make a distinction between companies with a history of rising dividends and stocks with high dividends, especially in an improving global economy that suggests a rise in bond yields, Gorman said.
“I’d be wary of those that trade purely on yield, so the utilities and to some degree any large REITs will face some pressure,” he said.
Real estate investment trusts invest in properties from senior homes to factories and pay out most of the earnings in unit distributions. The S&P/TSX Capped REIT Index has dropped 13 percent this year on speculation the Fed would slow its stimulus.
“We have been much more positive on the U.S. than Canada,” Gorman said. “Going forward, it will be very close between the two as they converge. This will be the first year of synchronous global growth since the credit crisis and with significant favorable impacts throughout.”
The global economy will grow 2.8 percent next year, ahead of a projected 2 percent gain in 2013, to snap three years of slowing expansion, according to the average estimates of economists surveyed by Bloomberg.
Factory growth in China, the world’s largest consumer of raw-materials such as copper and Canada’s second-largest trading partner, held at 51.4 in November, according to a report yesterday, ahead of economists’ forecasts. Manufacturing data also rose more than estimated in the U.K., the euro-area and the U.S., separate reports showed.
The Canadian economy will accelerate in 2014 at a 2.3 percent annualized rate, according to the average estimate of 28 economists surveyed by Bloomberg. That would be the first year-over-year gain in Canada since 2010 after probably posting a 1.7 percent advance in 2013 that is unchanged from 2012, economists project. The U.S. economy is forecast to grow 2.6 percent in 2014, rallying from a 1.7 percent advance this year, according economists surveyed by Bloomberg.
Risks remain in the Canadian economic outlook.
The better-than-forecast 2.7 percent growth in Canada’s third quarter showed continued weakness in exports and “one-off” rebounds in business spending following a flood in Alberta and the end of a labor strike in Quebec, David Madani, Canada economist at Capital Economics in Toronto, said in a Nov. 29 report.
Ian Nakamoto, director of research with MacDougall MacDougall & MacTier Inc. in Toronto, said until global growth accelerates past 4 percent, Canada and other commodities-based markets will stay out of favor with investors.
“Equity investors continue to believe commodities will not do much or go down, not up,” he said in a Nov. 26 interview. The firm manages about C$4.7 billion. “What’s been in favor is the countries that consume commodities. That’s the big picture and I don’t see that changing. There’s pockets within Canada but there isn’t going to be a broad-based uplift.”
The outlook for economic growth as it stands does remain below-average, Gorman said. If the global economy is a little better, then investors could bid markets higher.
“It’s not a blockbuster but it’s not bad,” he said.