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Investment Ideas How to determine what's a 'cheap' stock, a lumber investment option, and the sectors getting a boost from Canada's economy

Workers sort wood at Murray Brothers Lumber Company woodlot in Madawaska, Ont. in this file photo.

Sean Kilpatrick/THE CANADIAN PRESS

There are words and phrases in investing that are used so loosely they have lost all meaning. 'Cheap stock' is one of these.

When a manager of broker calls a stock 'cheap,' or the more subtle 'attractively valued,' the first question that should pop in to an investor's mind is 'compared to what?' An equity can be valued relative to its trailing 12-month earnings, the average for the benchmark, five-year average annual earnings history, analyst projections for next 12-months profits, or – and this is a technology analyst favourite when covering fast growing companies – as a multiple of projected calendar 2019 earnings. Stocks can also be valued based on book value, cash flow, earnings before interest and taxes (EBIT), debt to equity, and a host of other measures.

Even after the correct context of 'cheap stock' is determined, there is the important step of determining whether that particular valuation multiple is relevant to the future performance of that investment. Trailing price to earnings is most widely used, but in many sectors there's no correlation between the current PE ratio and the next few years of returns.

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Merrill Lynch chief quantitative strategist Savita Subramanian added to the confusion with an exhaustive 250-page report measuring the long-term effectiveness of stock valuation methods. Ms. Subramanian concluded that, while valuation levels determine more than 80 per cent of future investment performance, the strategy of buying inexpensive stocks takes a full decade to pay off in terms of portfolio returns. And that's only if the correct valuation techniques are used.

'Timing the market' is another over-used phrase that means little without context. We know that timing the market is bad in general. But in usual parlance the phrase refers to an exaggerated form of portfolio strategy where, for instance, an investor fearing a correction builds a 50 per cent or more portfolio allocation to cash.

At the same time, Warren Buffett is a market timer in his own way. Mr. Buffett carries an enormous cash allocation in his portfolio, assigns prices to stocks that fit his methodology where he'd buy them, and waits, often for years. What is this if not timing his investments?

Investors must absolutely, positively, dig beneath the off-hand, common financial phrases when active in the market and determining portfolio strategy. There will never be a shortage of people trying to sell them something, and it's important to truly understand what you might be buying.

-- Scott Barlow, Globe and Mail market strategist

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Stocks to ponder

Norbord Inc. This company has handily outperformed the broader stock market over the past two years, which might normally push nimble investors to the sidelines ahead of the next cyclical downturn. But here's one compelling reason to stay put: Hurricane Irma. This year's Atlantic hurricane season has been particularly violent, uprooting lives and causing catastrophic damage to parts of the Caribbean and United States. Hurricane Harvey flooded parts of Houston and caused an estimated $180-billion (U.S.) in damage. Irma, which followed, was one of the most powerful Atlantic storms on record, destroying an estimated 25 per cent of homes in the Florida Keys alone. Extensive rebuilding needs to be done, and Norbord is one of the go-to names for a key building material: oriented strand board, or OSB, an engineered panel similar to plywood but cheaper and available in longer lengths. David Berman explains why this is a stock to watch.

Aecon Group Inc. This stock appears on the positive breakouts list. The share price continues to rally on takeover speculation.This is a stock that may appeal to short-term speculative investors, writes Jennifer Dowty. This stock is rising on speculation that it may soon be acquired. Aecon is a construction and infrastructure development company serving both the private and public sectors. The company operates in three core market segments: energy, infrastructure, and mining.

Suncor Energy Inc. This stock may appear on the positive breakouts list in the near future, particularly if a sector rotation into laggards continues. To illustrate, during the first eight months of the year, the worst performing sector in the S&P/TSX composite index was the energy sector, declining 16 per cent. Month-to-date, the best performing sector in the TSX Index is the energy sector, rising 3 per cent. This stock's share price is up over 6 per cent month-to-date. While the price of oil is up just under 6 per cent so far this month. Jennifer Dowty explains.


The Rundown
 

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For investors, there's a hurricane coming. What you should do now

Hurricane Irma demonstrated a surprising feature of human nature: Even with potential calamity bearing down on them, a significant number of people refused to budge. Put up your hand if you spot a parallel with today's stock markets. To be sure, there's nothing as cataclysmic as a Category 5 hurricane bearing down on our portfolios. But we live in perilous times, with many prominent voices warning of trouble ahead. Ian McGugan takes a look at what analysts say is ahead for the markets.

The TSX sectors that will get the biggest boost from Canada's economic rebound

Canadian investors are justifiably frustrated in an environment where domestic economic growth rockets ahead while the S&P/TSX composite index stubbornly treads water. Analysis by Bank of Montreal chief economist Doug Porter implies, however, that all investors might have to do is wait. Scott Barlow explains using charts to show the bullish case.

A simple TSX stock-picking technique that would have produced 18.5% annual returns over the past 15 years

Applying simple value-investing strategies to the S&P/TSX 60 index produced wonders in recent years. It's high time to put them under the microscope. The S&P/TSX 60 follows 60 of the largest enterprises in Canada. It includes big banks, insurance companies, utilities, resource firms and others. Over all, the index produced solid returns over the past 15 calendar years with average annual gains of 7.52 per cent, including reinvested dividends. But narrowing in on value stocks by using four simple strategies yielded even better results. Norman Rothery explains his technique.

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Dividend investing works: Here's five years of proof

Wednesday was the fifth anniversary of Strategy Lab (cue sound of Champagne corks popping), and to mark the occasion, John Heinzl took a detailed look at how his model dividend portfolio has performed. The numbers make it clear: Dividend investing works. Even he was pleasantly surprised by some of the data – particularly by how much his dividend income has grown.

Three beaten-down stocks that fit Warren Buffett's patient investor style

If there's one thing that's hard to persuade investors to be, it's patient. The urge to chase the hot idea or the manager with the dazzling recent track record is incredibly powerful. The resolve to resist crowd mentality can falter when it seems as if everyone else is winning and you've been left behind. At Validea, we have designed a model to track Mr. Buffett's patient investor style. We track both U.S. and Canadian portfolios. In the United States, the portfolio is up 165.4 per cent since 2003, outpacing the market by 33.6 percentage points, and in Canada the Buffett-inspired portfolio is up 141 per cent compared with 27 per cent for the S&P/TSX since August, 2010. John Reese outlines three stocks in the current U.S. patient-investor portfolio that have sold off recently and could be buying opportunities.

These stocks will benefit the most from the surging Canadian dollar

There's no hiding from a strong loonie. Even the most domestically focused Canadian investor has little hope of entirely dodging foreign-exchange movements, which can prove to be powerful determinants of equity returns. But there are ways of dulling the impact of this year's rise in the Canadian dollar. Canadian companies that report financial results in U.S. dollars, for example, might benefit from an important offset to foreign-exchange pressures, according to Ian de Verteuil, head of portfolio strategy for CIBC World Markets. Tim Shufelt explains.

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Where RBC sees the Canadian dollar heading next

The strong Canadian dollar has been weighing heavily on U.S. dollar assets held by Canadian investors, but is the pain nearly over? Here's one way to look at the issue: The S&P 500 is at a record high in U.S. dollar terms, but if you hold an S&P 500 index fund priced in U.S. dollars, then your holding in Canadian dollar terms is down more than 6 per cent since June. Your U.S. bonds are probably smarting even more. So what's the outlook for the loonie? RBC analysts believe that the biggest moves are behind us and that the loonie should settle back. David Berman explains.

A better way of identifying stocks that could be takeover candidates

Over an investment career spanning 40 years, Robert Tattersall always had a great interest in stocks trading below the net-net working capital value popularized by investment legend Ben Graham. These are companies where the value of the current assets (primarily cash, accounts receivable and inventory) minus all liabilities is greater than the market capitalization for the entire company. This means that, in theory, you could liquidate the current assets at 100 cents on the dollar, pay off all the liabilities and still have more cash per share than the stock price. No value is given to the fixed assets or intangibles. Clearly, these are companies trading below liquidation value and are ripe for takeover or other shareholder intervention. As a practical matter, he has found that a strategy of investing in these stocks has become less successful in recent years, for two reasons. Robert Tattersall explains.

If you're married to paper investment statements, it's divorce time

There's the eco-argument for choosing electronic statements from your investment firm over paper, and then there's cold, hard practicality.No matter what firm you deal with, electronic statements offer a more organized, secure way to store monthly or quarterly statements, trade confirmation slips and tax documents. Suggestion: Pick one of your investment accounts to test electronic documents delivery. Once you try it, you'll never go back, writes Rob Carrick.

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Impact of tax changes on small businesses greater than you think

At last week's Liberal caucus retreat in Kelowna, B.C., Prime Minister Justin Trudeau stated that the tax rules applying to private corporations need "tweaking." He also said that proposed tax changes introduced on July 18 are aimed at those earning more than $150,000 annually. Here's the reality: Talk to any tax professional and you'll understand that these proposals represent perhaps the most significant overhaul to our tax law that we've seen since 1972. Tweaking? Hardly. Tim Cestnick takes a look at a real life example regarding how the proposed tax changes could hurt the middle class.


Others

The week's most oversold and overbought stocks on the TSX

Friday's Insider Report: Companies insiders are buying and selling

Thursday's Insider Report: Companies insiders are buying and selling

Wednesday's Insider Report: Companies insiders are buying and selling

Number Crunchers

Six U.S. building and construction stocks poised for increased revenue

Twenty TSX stocks with strong earnings growth

Nine attractively valued dividend stocks in the financials sector

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What's up in the days ahead

Rob Carrick looks at bond ETFs, David Milstead looks at the Roots IPO, John Heinzl reveals the tricks in last week's quiz and David Berman takes at look at Brookfield Infrastructure Partners LP and their latest issue of stock.

Click here to see the Globe Investor earnings and economic news calendar.

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Compiled by Gillian Livingston

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