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Slow economic growth, great investment returns

Worried about the economy and how it will affect your returns? Then here's a glass-half-full approach: Murray Leith at Odlum Brown believes that low economic growth is no reason to expect low investment returns.

Indeed, he thinks that annual returns of 8 per cent to 10 per cent look perfectly reasonable. He included this observation at Odlum Brown's annual address in Vancouver on Wednesday – and though we didn't attend (we're in Toronto), he was kind enough to send his presentation.

One of the key elements was a chart comparing economic growth to stock market returns over various 10-year periods in the post-war era: The eras with the slowest growth in the United States saw the biggest returns for the S&P 500, and vice-versa.

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For example, U.S. gross domestic product grew 5.6 per cent annually in the 1990s, but the S&P 500 rose 18 per cent a year. Similarly, in the 1950s, GDP grew 6.3 per cent and the S&P 500 rose 19.3 per cent.

Conversely, the 1970s saw GDP grow an astounding 9.7 per cent a year on average (before inflation) but the S&P 500 eked out an annualized return of just 5.8 per cent. "Higher economic growth is generally associated with lower stock market returns." he said in his prepared remarks.

Mr. Leith isn't alone here. Jeremy Grantham of global asset manager GMO made a similar point in his recent quarterly letter to clients: "This is where I break ranks with many pessimists because I believe theory and practice strongly indicate that lower GDP growth does not directly affect stock returns or corporate profitability," Mr. Grantham said.

The big difference between the two strategists, though, is that Mr. Grantham is pessimistic about stock market returns (on the belief that they are expensive), while Mr. Leith believes that an "8 to 10 per cent return is an achievable expectation over the next 10 years." Perhaps the Caisse de dépôt et placement du Québec would agree with Mr. Leith. The Quebec pension fund manager posted a 9.6 per cent return in 2012, more than double the 4 per cent return on the S&P/TSX composite index.

The way to get these returns, according to Mr. Leith, is to look for stocks with reasonable valuations and avoiding fast-growing, over-hyped stocks. That's why he's keen on foreign stocks, and U.S. stocks in particular.

"Aside from valuation considerations, the other reason to invest outside the country is the fact that there are far fewer high quality companies in Canada and much less diversity across sectors," he said in his remarks.

"Because the shares of successful big U.S. companies have been depressed for so long, we think the stage has been set for a long period of outperformance."

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He is very fond of large multinationals listed in the United States, including Coca-Cola Co., Starbucks Corp., Apple Inc., Google Inc., General Electric Co., 3M Co., Johnson & Johnson and Stryker Corp.

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