Buying on weakness

Resources retreat provides opportunities, Guardian Capital's Ted Macklin says.

Sonita Horvitch 6 July, 2011 | 6:00PM
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 Ted Macklin, managing director at Guardian Capital LP, has used the weakness in the Canadian equity market, which started in early April, to selectively add to his existing holdings of large-cap, high-quality names.

Sectors that have provided opportunities, he says, include energy and materials. "The natural-resource stocks came under some selling pressure," he says, "in the face of retreating commodity prices."

The Canadian equity market has turned in a lacklustre performance in the first six months of this year. Through June 30, the S&P/TSX Composite Index produced a meagre total return of 0.2%.

Energy, with a current weighting of 27.4% of the composite index, produced a negative total return of 0.6% for the first half, while materials (currently 21.6%) recorded a negative 9.7% total return. By contrast, financial services, the largest of the three major sectors in the index with a 29.1% weighting, produced a positive total return of 6.2%.

Macklin notes that Canadian energy stocks were particularly weak in the second quarter of this year. The sector produced a negative total return of 8.5% in the three months ended June 30. During this period, the price of oil dropped 14.3%, he says, while natural gas, which has been in the doldrums for some time, fell 2%. "For the most part, it was the oil-related companies' stocks in this sector that experienced the biggest corrections," says Macklin.

Turning to other TSX sectors, the notable laggard in the first half of the year was information technology, says Macklin. It had a negative total return of 30.8%. "This reflects the sharp drop in the share price of Research in Motion Ltd RIM."

Of late, says Macklin, investors in Canadian equities have shown "a decided preference for larger-cap, high-quality names versus their higher-risk small-cap counterparts." Looking at price returns only, the S&P/TSX Composite was down 1.1% in the first half of this year versus the S&P/TSX Small Cap Index, which lost 5.4%.

Ted Macklin

This, Macklin says, is in sharp contrast to the substantial outperformance by Canadian small-caps in the roughly two-year strong rally in the Canadian equity market following the depth of its March 2009 lows. "Investors' more recent emphasis on larger-cap Canadian stocks tells me that they are scrutinizing the risks more carefully."

Macklin's universe is the large-cap segment of the Canadian equity market. A member of Guardian Capital's Canadian equity team, he is a growth-at-a-reasonable price (GARP) manager.

At Guardian, which has $15 billion under management, Macklin is directly responsible for managing $1.7 billion in both institutional and retail mandates. This includes his role as lead manager of BMO Guardian Canadian Large Cap Equity, which has assets of $430 million.

This fund is benchmarked against the S&P/TSX Composite Index and has 38 names in what is a low-turnover portfolio. The fund, says Macklin, has been attracting money and "I have been modestly adding to existing names, taking advantage of weakness in sectors, such as energy."

An example is Suncor Energy Inc. SU, which is the largest energy holding in the fund. "It is the senior of the senior integrated producers in Canada, producing solid production growth." Suncor has "extensive exposure" to the Alberta oil sands near Fort McMurray, says Macklin. It also has important conventional oil and gas interests both in the North Sea and in key operating fields off Canada's Atlantic coast.

"Its operations in Africa, the Middle East and South America are less crucial to its overall success," says Macklin. This integrated producer also has refineries in Canada and the United States, he notes, and 1,500 gas stations in Canada, which operate under the Petro-Canada banner. The estimate of cash flow per share for 2011 is $5.87, and for 2012 it is $6.43.

Besides Suncor, Macklin notes that he has also "modestly" increased his holdings in other energy names such as Cenovus Energy Inc. CVE, Crescent Point Energy Inc. CPG and Talisman Energy Inc. TLM.

Macklin has long favoured having a weighting in gold stocks. His largest gold holding in the fund is Goldcorp Inc. G. "The company's main growth projects are in the Dominican Republic, Argentina, Chile and in Quebec." Its gold production is expected to grow by 11% in 2011, Macklin says, and by 12% in 2012.

"These are robust numbers, supported by a high gold price and low, though modestly increasing, production costs." The earnings-per-share (EPS) estimates for Goldcorp are $2.30 in 2011 and $2.65 in 2012. Macklin says that gold stocks tend to trade at a premium to the companies' book values. "Goldcorp trades at 1.9 times book value per share, which is within industry norms."

A smaller-cap holding in the consumer staples sector, which he considers has solid growth prospects, is Viterra Inc. VTE. This company is in three distinct businesses: retailing agricultural products to farmers, grain handling and marketing and value-added processing. It has operations in Canada, Australia and New Zealand.

"The emerging middle class in the developing economies will boost the demand for animal proteins which, in turn, will increase the demand for Viterra's products and services." EPS estimates for Viterra are 75 cents for 2011 and 80 cents for 2012. The stock trades at 13 times current EPS estimates, which is in line with the price/earnings multiple of the market as a whole.

Goldcorp. Inc. Suncor Energy Inc. Viterra Inc.
July 5 close $47.54 $38.83 $11.12
52-week high/low $53.34-$38.99 $47.27-$30.72 $12.28-$6.96
Market cap $38.0 billion $61.1 billion $4.1 billion
Total % return 1Y* 9.8 27.6 60.6
Total % return 3Y* 2.0 -12.2 -6.5
Total % return 5Y* 7.1 -2.9 7.4
*As of July 5,2011
Source: Morningstar

Macklin, a long-time holder of Research in Motion, sold half his holding in the stock after RIM launched its PlayBook tablet on April 19. "This much anticipated launch was rushed and less than successful," he says. Then, on April 29, the company reduced its profit guidance for the quarter and Macklin sold the remainder of his holding.

But, of late, he says, he has inched back into the stock. "The company is undoubtedly facing severe competition and has considerable challenges in its transition to its new product cycle," he says. "But the market has largely discounted these risks and RIM's recent spate of bad news."

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Sonita Horvitch

Sonita Horvitch  

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