The U.S. stock market, as measured by the Dow Jones industrial average, is back. The American market was counted down and out after its housing market tumbled, its financial system imploded, the European Union blow-up and the divided U.S. Congress threw a fiscal hissy-fit.
Despite these hurdles, the American stock market bounced back stronger than ever with the Dow breaking record highs set five and a half years ago. The broader S&P 500 stock index is slightly below the record it set in October of 2007.
Now it might be Canada’s turn, though conventional wisdom on the Street has it that the Canadian markets have peaked and better investing opportunities exist beyond Canada’s borders. If you accept the view that markets are truly cyclical then Canada’s good run could be slowing. Over the past few years, Canadian capital markets have been consistently outperformed and been more resilient to the financial crises that have wracked the other world markets. The Toronto Stock Exchange Index outperformed the S&P 500 from 2006 through 2010 but did falter in 2011 and 2012.
Economic signals would also indicate the Canadian market is on the verge of tipping over, though a collapse is unlikely. Canada counts on growth in China to sustain the demand for commodities – the backbone of the Canadian economy – and there are questions whether China’s overheated expansion can continue. The other engine for wealth in Canada is the banking sector and, with the housing market languishing, the concern is that borrowing will bottom out.
Despite those caveats, there are so many reasons to invest in the Canadian markets. Here are just a few:
By any standards, Canada is politically very stable. Its budget deficit is moderate relative to any other jurisdiction. The balance-of payments deficit is also small, with its most important trading partner as the United States, followed by China and Mexico. Canada enjoys a large surplus in its trade with the U.S. Canada faces very little inflation risk since the country has maintained a sound monetary policy.
Volatility seems considerably less in Canada than in the U.S. Over the past four years of financial crises, Canada has had the smallest downturn of any of the G7 countries.
2. Investment Prominence
Along with the commodity boom, Canada’s weight in the MSCI World Index has doubled over the last decade. At about 5 per cent, it is the fourth largest constituent of the index and second fastest growing (behind Australia). The Canadian equity markets are expected to continue to play an important role in the global financial markets as the country negotiates major free-trade agreements with Europe and India and develops access to emerging markets.
Over 75 per cent of the S&P/TSX is concentrated in the energy, material and financials sectors.
3. Oil and Gas
The Alberta oil sands contain as much oil as the entire Middle East and, at today’s prices and with modern technology, it has become economically viable to refine them. Economist Jeff Rubin makes that point that the cost of transporting oil will become even more important than the cost of oil itself. Even if the Keystone Pipeline System is not approved, the cost of transporting synthetic crude oil and bitumen to the refineries along the gulf coast of Texas, along with Canada’s political stability compared to other oil producers, makes Canada’s oil sector strategically lucrative.
Currently, Canada has either the second or third largest reserve of oil, depending on the credibility of Venezuela’s claims. It is the world’s fifth largest energy producer, the sixth largest oil producer, and the third largest natural gas producer.
The S&P/TSX energy sector has 68 companies offering diversified exposure. Meanwhile, the U.S. market is dominated by Exxon Mobil, Chevron and other large, less-nimble companies.
4. The Mining Sector
Canada is the world’s largest source of many minerals including nickel, zinc and uranium. The price for precious metals is beginning to increase after falling over the past year.
There are 65 companies in the S&P/TSX materials sector. The materials sector derives most of its revenues from international markets. The major gold producers in the world are listed in Canada and their leadership in the gold and mines and metals industries gives them access to capital markets around the world.
Investing in the Canadian mining sector becomes a resourceful way to invest in emerging markets without the political risk, since the Canadian-listed companies in the sector are subject to Canadian investment rules and regulations.
5. The Banking System
The rating agency, Moody’s Investors Services, ranks Canada’s banking system as number one in the world for financial strength and safety. For the fifth consecutive year, the World Economic Forum rates Canada’s banking system as the world’s soundest. During the global financial crisis, no Canadian bank or insurance company failed or required bailouts. The banks operate as an oligopoly which leads to very high profit margins and there is an implicit promise of government protection in case of any drop off.
The Canadian banks are among the most well-regulated in the world which leads them to adopt a conservative approach.
Canadian companies seem to pay higher dividends than those based in other countries. The banks, the telecommunications companies and energy companies are the leading dividend payers.
Using the value criteria devised by Benjamin Graham, Canadian companies appear to be clearly undervalued compared to their peers in other countries, and the appreciation potential appears greater.
Diversity is the hallmark of any good investment portfolio. So, while there is no suggestion that Canadian long-term investors avert their eyes from the rest of the world, they shouldn’t be overlooking the opportunities in their own backyard, especially now.
READERS: Did we leave out any other important “national advantages” for Canadian companies? Join the debate in the comments.