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‘Mundane works’: BMO’s Brian Belski on how to invest in rising Canadian stocks in 2018
Michael Babad

This article was published more than 6 years ago. Some information may no longer be current.

Briefing highlights

  • What BMO’s Belski sees for 2018
  • Markets at a glance
  • What to expect in the U.K. budget
  • What else to watch for this week

Belski's 2018 outlook

As Bank of Montreal's Brian Belski sees it, "mundane works" when it comes to investing in Canadian stocks heading into next year.

"If we were going to choose a word to explain the Canadian stock market environment heading into 2018, that word would be, 'mundane,'" said the chief investment strategist at BMO Capital Markets.

"Mundane works, in our view," he added in his 2018 outlook for Canadian and U..S. markets.

"Admittedly, the term is far from exciting. However, in a marketplace (Canada) that feeds on negativity, starves for total return and considers it a failure unless gold is at $2,000 and [West Texas intermediate oil] is at $80 and going up – increasingly consistent broader equity market performance could prove to be an alternative to other regions in the world."

Mr. Belski believes investors are probably juggling the same issues that "befuddled" them this year, from interest rates to the North American free-trade agreement to a housing market that hasn't melted down amid ongoing angst.

Canada's S&P/TSX composite index lagged in the first part of 2017, then underwent a growth spurt later in the year.

Mr. Belski, who had projected that rally, sees that continuing, with Canada's "longer-term fortunes" linked to the U.S.

"Canadians must push their personal views aside and accept the fact that President Trump is a reality, with the so-called 'negotiations' to date representing much more of a side show compared to reality," Mr. Belski said, referring not just to NAFTA, but to broader negotiations.

Common sense, he added, suggests the Trump administration plans to "fortify the hemisphere," rather than just America.

"And why should it not? The majority of 'business' takes place between our two countries. In fact, we believe Canadian stocks began to more fully accept this notion later in 2017, thus joining other broader equity strength shared by the U.S."

First, here are BMO's scenarios for next year:

Mr. Belski's "base case" puts the TSX at 17,600. His "bull" scenario would see Canadian stocks at 19,000, and his "bear" outcome at 14,500.

For the S&P 500, the base case is 2,950, the bull 3,250, and the bear 2,200.

Next are Mr. Belski's eight "core assumptions" for 2018:

1: "Investors do not appreciate that positive earnings, average valuations and low interest rates are good for stocks."

2: "Negativity surrounding NAFTA, tariffs and provincial/thematic tax issues are paralyzing short-term momentum-laden investors, thereby benefiting longer-term fundamental active stock pickers."

3: Most Canadian clients believe the stock market has failed because West Texas intermediate, the U.S. oil benchmark, hasn't rallied toward the $80-a-barrel (U.S.) mark: "They despise the current $40-60 trading range and do not understand that the operating efficiencies of high-quality energy companies in Canada can actually thrive within a WTI trading range environment."

4: Canada's real estate market isn't crashing: "Housing bubble is well contained and debt service levels are being cushioned by historically low interest rates and the potential for improved wages."

5: "Steadily improving (not spiking) global growth will be a positive for the overall materials sector."

6: "Financials remain massively under-owned globally, as most investors do not appreciate the pristine balance sheet positions and dividend growth of banks and increased diversification of insurance companies."

7: Canada boasts some "great" companies not among the financials, materials and energy groups that "we believe have an even better opportunity (and track record, for that matter) to keep pace with the US."

8: Canadians are "fixated" on the last cycle of our fortunes being tied largely to emerging markets, commodities and the quantitative easing asset-buying programs of central banks. Thus, we're "missing the fact that Canada is being increasingly aligned in terms of earnings and GDP growth with the US."

And, finally, the sectors:

For the S&P/TSX composite: Overweight for financials, industrials and materials, market weight for consumer discretionary, consumer staples, energy, information technology and telecom services, and underweight for health care, real estate and utilities.

For the S&P 500: Overweight for financials, industrials and materials, market weight for consumer consumer discretionary, energy, health care and information technology, and underweight for consumer staples, real estate, telecom services and utilities.

A closer look at the big Canadian sectors:

Financials

These stocks are "one of our overweight sectors for the sixth straight year (yes, it has outperformed all five so far) as this sector continues to be the tone-setter for Canada, with strong dividend and earnings stability, and near-peak operating efficiency," Mr. Belski said.

"We continue to believe our global institutional clients are dramatically underexposed to the Canadian banks," he added.

"As such, a potential reallocation trade could be very positive. Bottom Line: Focus on those areas that have higher U.S. exposure, especially those banks and insurance companies with scalable models – especially wealth management."

Bank towers are seen on Bay Street in Toronto’s financial district in 2010.

Materials

Little has changed from Mr. Belski's 2017 forecast. But …

"In fact, our conviction may be higher given the market has not responded as positively as it should have to global growth developments. As such, the materials sector is likely to have to catch up to fundamentals in 2018."

Since 1990, Mr. Belski added, this group has not outperformed for just a year or two, but rather "materials sector outperformance usually comes in bunches."

U.S. economic growth and inflation, along with easy central bank policies in Europe and China, should boost gold, while American housing and infrastructure should help forest products and base metals.

"Bottom Line: Add to high-quality gold names; base metals likely to play a game of catch-up; add to forest products companies exposed to the U.S. on any pullback."

Gold bars are stacked in the safe deposit boxes room of the Pro Aurum gold house in Munich.

Industrials

The rhetoric from NAFTA negotiations will probably hit "peak negativity" in early 2018. But BMO believes the talks will succeed in the end, with little effect on Canadian stocks.

"As such, investors should use periods of volatility to add to positions," Mr. Belski said.

U.S. economic growth should keep railways on track – that lame attempt isn't his fault, but mine – given their cross-border nature.

"Bottom Line: Focus on the rails and select manufacturers and waste companies tied to the U.S."

Energy

Mr. Belski believes that the recent $40 to $60 range for crude holds "until proven otherwise," and that the market will be moved by the "sentiment" around meetings of OPEC producers, who have a production-cap agreement in place, speculation over mergers and aquisitions, the outlook for pipelines, and the general view of the global economy.

"Over all, structural supply and demand dynamics remain challenging for the sector," Mr. Belski said.

"Bottom Line: Stay defensive, with a core focus on high-quality companies that are cash-flow heavy and fully integrated. Tradeable rallies could occur within higher beta exploration and services companies."

Pump jacks pump oil at an Encana well near Standard, Alta.

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Markets at a glance

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What to watch for this week

It's something of a slow week where the calendar's concerned, particularly given Thanksgiving in the U.S., though we will get a sense of how Canadians are shopping and what the British government plans amid Brexit goings-on.

Today

We see corporate earnings reports from Hewlett Packard a Enterprise Co. and Intuit Inc.

Tuesday

Quebec presents its fiscal update amid a stronger outlook.

Federal Reserve chair Janet Yellen speaks in the evening at New York University.

And corporate earnings include Campbell Soup Co., George Weston Ltd., HP Inc. and Lowe's Cos.

Wednesday

The British government unveils what Royal Bank of Canada says will be a budget that "won't be easy," with a cumulative jump in borrowing to the tune of £58-billion over five years based on the U.K. fiscal rule, the "cyclically adjusted" deficit.

That measure will make it more difficult for the Chancellor of the Exchequer, Britain's finance minister, to "claim he has much headroom versus his fiscal rule to respond decisively to a Brexit shock in the future," RBC said.

We'll also see the minutes of the last Federal Reserve meeting, with little in the way of big news, which is "fortunate because most market participants will be busy baking pumpkin pies when it is released at 2 p.m. on Wednesday," RBC said in what it expects from the Federal Open Market Committee, the U.S. central bank's policy-setting group.

"There will be a brief discussion of the impact of the hurricanes, but the [last Fed] statement already indicated that the FOMC believes 'the storms are unlikely to materially alter the course of the national economy over the medium term.'"

And Deere & Co. and Metro Inc. report quarterly results.

Thursday

BMO expects Statistics Canada's monthly report to show retail sales rose 0.9 per cent in September.

"Unfortunately, the bulk of the increase will likely be driven by gasoline prices, which surged 9 per cent in seasonally-adjusted terms," said Benjamin Reitzes, BMO's Canadian rates and macro strategist.

"With goods prices rising about 0.6 per cent in the month, fuelled by gasoline prices, look for volumes to rise only modestly," he added.

U.S. markets are closed for Thanksgiving, so it may be a slow day. Japan's market is closed, too.

Friday

Black Friday. Ready, set …

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