Chris Hensen is senior portfolio manager at Manulife Asset Management. His focus is North American equities.
Top Picks:
MTY Food Group (MTY TSX)
MTY Food Group is a master franchiser of quick service restaurants (QSR) with over 30 banners and approximately 2,600 locations. Coined the "King of the Food Court" with banners that include Thai Express, Sushi Shop, Jugo Juice, Extreme Pita and Mr. Sub. MTY is a highly profitable business given its franchise model, similar to Tim Horton's, that is consolidating the QSR industry. Recent acquisitions in the United States provide a platform for further growth as the majority of revenues are generated in Canada. Recent stock weakness caused by negative same-store sales growth creates buying opportunity for a company that has the potential to double its revenue in the next 7 years.
Moody's (MCO NYSE)
Moody's is the leading provider of credit ratings in the world with over a 40-per-cent market share. The credit ratings industry is dominated by Moody's, S&P and Fitch. Given the consolidated nature of the industry combined with the fact that debt issuers need continuous credit ratings, the ratings companies generate very high levels of profitability. Half of Moody's business is reoccurring via continued credit monitoring and the analytics business. Continued debt market issuance, disintermediation of credit markets namely in Europe and EM combined with single-digit price increases and increased penetration of the analytics business should drive low double digit revenue growth. Berkshire Hathaway owns approximately 12 per cent of the outstanding stock.
Empire Co. (EMP.A TSX)
Empire is a diversified Canadian company with two main segments. The primary segment is food retailing where Empire is the second-largest grocer in Canada with close to a 19-per-cent market share. Their main banners are Sobeys, recently-purchased Safeway, IGA, Foodland and Fresh Co. The second segment is Crombie REIT, in which Empire owns a 41-per-cent stake, which owns and manages a $4-billion commercial real estate portfolio. The recent acquisition of Safeway allows them to build a national grocery footprint and realize $200-million in merger synergies. Empire has a long history of creating shareholder value through acquisitions, divestitures and optimizing its capital structure when the timing is right. Best way to measure this is book value per share growth. Empire has grown its book value per share by 10-per-cent a year for the last 10 years vs S&P/TSX at 6.5 per cent.
Market outlook:
The markets have been in a very low volatility environment since the early part of 2012 as central banks have kept rates low to stimulate economic growth. We know that a low volatility environment (and even a high volatility environment) is never a steady state and is typically followed by a period of higher volatility or lower volatility from a higher level. As the stimulative economic policies begin to diverge (U.S. versus Europe for example) we should expect higher levels of volatility in the market. However, with volatility comes opportunity. If you look underneath the major indexes you will see the opportunities presenting themselves. For example here is cross-section of the market vs its 52-week high.
S&P 500 | Down 6% |
Russell 2000 | Down 10% |
Market Cap > $100B | Avg stock down 10% from high |
Top 3000 cos. with market cap > $200M | Avg stock down 20% from high |
Approx. 800 cos. with market cap > $5B | Avg stock down 14% from high |
1500 cos. with market cap > $1B < $10B | Avg stock down 19% from high |
On the economic outlook, the U.S. economy keeps moving forward and will continue to expand even as Europe and China slow. Lower oil prices and subdued inflation will contribute positively to economic growth.
As investors, we worry top-down and invest bottom-up. Focusing on quality businesses as measured by high and stable returns on capital, businesses with manageable levels of debt and trading at valuations that will provide us with adequate returns has served us well over different market environments. The key is to be prepared and have the conviction to act on the opportunities as they present themselves.