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The logo for the Bank of Montreal is seen at its branch in Toronto.© Mark Blinch / Reuters

When Brian Belski speaks, investors should take note: The chief investment strategist at BMO Nesbitt Burns has a successful track record in recent years for accurately forecasting the market.

Last year, his base-case forecast target for the S&P/TSX composite index at the end of 2017 was 16,000 and the TSX index is currently right in line with his expectations. The prior year, his 2016 year-end target for the S&P/TSX was 15,300, and the index closed out the year at 15,288.

For the upcoming year, he is calling for the S&P/TSX to continue its rally, reaching 17,600 by the end of 2018.

He credits his team, experience and discipline to his success. His fundamental analysis involves four "time-tested, back-tested" models that look at dividends, earnings, valuation and macro variables. "We depend on all four models to not only get us the price target but also the earnings target."

He recently discussed with The Globe and Mail how he believes investors can best position themselves to achieve solid returns. Below are highlights from that conversation:

Of your four different models, is there one where you are seeing greater accuracy?

What we have found through the years is that our dividend discount model has been amongst the most accurate. [Using a dividend discount model approach, a target price is calculated by taking the sum of future dividend payments that are discounted back to their present value.] There seem to be different phases when macro works, when [valuation] works, or when earnings work. We typically use a median of all of our targets but our dividend discount model of both the United States and Canada has been pretty accurate in the last few years … I think an important attribute to investing going forward is the need, the want, and the desire for dividends and income in general.

So why do you have underweight recommendations on the real estate and utilities sectors, which are known for their attractive dividend yields?

The more simplistic your yield strategy, the more it tends to underperform. A simplistic yield strategy is buying companies that are paying high yields. We have found from our work is that the best dividend product, the best performance in terms of companies that pay dividends are those that grow their dividends over time. Typically and historically, REITs and utilities, especially, can't provide the type of dividend growth that the banks can, the insurance companies can, the health care companies can, the industrial companies can, even the consumer companies in Canada. Dividend growth outperforms simplistic high yield.

When you look at the overall market, what three pieces of information must investors watch? What pieces of data should investors monitor?

I would say weekly jobless claims because the actual unemployment rate is a lagging number – are we adding jobs, are we decreasing jobs? I would say things like the ISM, the Institute for Supply Management, manufacturing numbers to see in which direction the economy is heading. And then I would say probably things like personal consumption expenditures, so PCE, are we still spending money? Remember in Canada and the United States, we are really good at buying stuff, we are really good at it, and our economies are really driven by consumption.

For the end of 2018, your base case target for the S&P/TSX composite index is 17,600 and your base case target for the S&P 500 index is 2,950; why are your return expectations lower for Canada compared with the United States?

Well, I think companies in general have been reluctant to increase their forecasts in terms of growth until their comfort increases with respect to what is going to happen in NAFTA, or potential tariffs, or carbon taxes, things like that. So companies in Canada, from their forecasts, have actually become a little bit more conservative and earnings revisions have been relatively muted.

You believe that 'performance dispersion' has increased sharply – it's a stock-picker's market – advocating for an active investment strategy. What characteristics have you seen that result in outperformance? You mentioned that with dividend stocks it's dividend growth that matters, but what about with other stocks?

It's been those companies that have been able to actually provide a consistency of earnings growth, which is very important given the fact that we have seen lots of volatility in earnings growth through the years. It's also companies that have a competitive advantage relative to others. I think that the consistency of not only the earnings but dividends will also become very important, so I would say, the consistency overall of growth.

You see that trend continuing into next year?

Yes.

Will there be a rotation from these growth stocks reporting consistent earnings growth and dividend growth into value stocks?

The problem with Canada is it's such a cyclical index, and the index, the TSX in general, is quite volatile. It's more of a small, mid-cap index actually, compared with the S&P 500, and the turnover in the index is higher, and so given the fact that you've seen so much fundamental volatility in things like energy and materials, it's a more difficult index in general.

What about in the United States?

Our call is for value to outperform. The way you look at value in the United States is, when growth is scarce, growth outperforms. I think the majority of investors believe that growth is really scarce in America, that's why they continue to try to chase up the FANG (Facebook, Amazon, Netflix, and Google – now known as Alphabet) stocks and things like that. In our work actually, there is an increasing number of companies in the United States that have double-digit earnings growth, that actually tells you that you should be a value investor. A value investor is really looking for mispriced growth stocks. Growth investing is looking for priced-in growth, growth at any price. I think the growth trade is going to be unwinding in 2018.

You believe earnings surprises are likely to continue into 2018. What gives you the strong conviction?

I think companies in general are still too conservative. And in general, in the United States, companies are not going to [raise] their numbers until they see what their corporate tax cuts are going to be, and in Canada, companies are not going to [raise] their numbers until they feel better with respect to what is happening in tariffs and NAFTA.

You have overweight recommendations on three sectors: financials, materials and industries. Tell us about the largest-weighted sector in the S&P/TSX, financials.

The banks in Canada have been among the most conservatively managed assets in the world and [benefit] as the economy continues to improve, not only in Canada but the United States. There are many Canadian banks where the majority of their growth, in terms of earnings and revenue, are going to come from the United States in the next 10 years. So as the United States continues to grow, I think earnings are going to continue to expand... . But most importantly, dividend growth is still very strong and earnings growth has been consistent.

Do you favour Canadian banks with international exposure?

I would say for the Canadian banks with stronger U.S. exposure.

Let's turn to the materials sector.

We like the big companies in Canada like West Fraser Timber – it's a great theme on rebuilding of America. We love Goldcorp, it's a secular theme in terms of new management, buying back stock, and growing the dividend. Global growth is improving and that should also be very positive for the materials sector.

What sub-sectors within materials are you recommending?

I think it's lumber. I think it's some precious metals. I think in America, you have other things like chemicals, steel and aluminum, and other specialty materials companies…We like precious metals. I think gold is an area that is interesting to us given the fact there seems to be a little bit more of a negative undertone to gold.

If investors want to diversify and look outside of Canadian markets, what international markets would you recommend exposure to?

I think the biggest position outside of Canada should be the United States.

What about Europe or Asia?

You should maybe have some exposure to what's happening in emerging markets, whether or not that's China or other Far East markets. I think Europe will have its day. I would caution Canadian investors to go to Europe as the default international market. There seems to be a consensus viewpoint that Europe is cheap, but Europe is almost always cheaper than the United States and valuation is not necessary a precursor to forward performance.

What do you see as the greatest potential risk to the current positive momentum in equity markets?

If you start to see the global economy and North American economy slow down. If the economies start to slow, then the Fed and the BoC [Bank of Canada] actually have to be a little bit more dovish ... then we may see an issue where the fortitude and respectability and believability of the stock market rally may come in question.

Any comment on currency – the Canadian dollar relative to the U.S. dollar?

The Canadian dollar is the most correlated currency to WTI (West Texas intermediate). The way we look at oil is we believe oil is fixed within a $40 to $60 (U.S.) trading range. The trajectory of oil will be flat we believe for the next few years – as such we believe that the longer-term trajectory of the Canadian dollar will be flat over the next few years.

This Q&A has been edited and condensed.

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