Encounter

Signature team's top strategist favours equities over bonds.
By Sonita Horvitch | 30/05/18

Eric Bushell, chief investment officer at Toronto-based Signature Global Asset Management, says he remains bullish on equities and less so on bonds. "Global economic growth is intact, the fundamentals of the equity market are still constructive and despite the fact that the bull market in equities is getting longer in the tooth, valuations are still within reason."

About the Author
Sonita Horvitch is a Morningstar columnist who specializes in reporting on money managers and their strategies. A veteran financial journalist, she was formerly with the National Post and its predecessor, the Financial Post. At the Post she was best known as the author of the popular Buy & Sell column, which she wrote from its inception in 1994 to December 2008. She holds a master's degree in business economics from the University of the Witwatersrand in Johannesburg, South Africa.

Since the beginning of this year, says Bushell, the financial markets have been adjusting to the new environment of rising interest rates and the widening of credit spreads in the bond market, as investors demand higher yields from corporate fixed-income securities versus those on government issues. "The result has been a lacklustre year-to-date performance in both the equity and the bond markets."

Bushell says he expects the new U.S. Federal Reserve chairman, Jerome Powell, will continue the strategy of raising the federal funds rates, but there is a caveat for the rest of the world. "Unlike his predecessor, Janet Yellen, Powell's emphasis is largely on fostering a strong U.S. economy, rather than assessing the implications of Fed action on the global economy."

Bank of Canada chairman Stephen Poloz is unlikely to follow the U.S. lead in raising the central bank's policy rates at the same pace and to the same degree, says Bushell. "The U.S. economy is healthier than the Canadian economy," he says. "There is less consumer leverage, there is a decidedly pro-business government and the U.S. technology sector is innovative, having spawned most of the world's largest, dominant players in the Internet/digital transformation."

Bushell and his team of sector specialists are responsible for managing some $53 billion in both equities and bonds at Signature, a separate portfolio-management group under CI Investments Inc.'s umbrella.

Since the summer of 2016, the Signature team has been repositioning its portfolios for a revival in inflationary expectations and a rebound in corporate earnings, coupled with weakness in the bond market. The team has boosted the equity component of its balanced funds and de-emphasized bonds. "Given the outlook for Canadian interest rates versus those south of the border," says Bushell, "we prefer Canadian bonds over U.S. fixed-income securities."

Eric Bushell
Eric Bushell

In addition to his role in determining the overall investment strategy for Signature, Bushell is the lead manager of CI Signature Select Canadian, which had assets $2.6 billion at the end of April, and the $1.1-billion CI Signature Select Canadian Corporate Class.

At the end of April, CI Signature Select Canadian, with some 100 holdings, had 53.9% in Canadian equities, 22.8% in U.S. equities and 20% in international equities. Financial services continued to dominate the sector weights at 35.2% of the portfolio at the end of April, followed by energy with a 12.9% weighting.

Bushell says he and his team are enthusiastic about the major Canadian chartered banks. Rising interest rates are positive for the banks, he says, domestic economic growth is intact, and the banks are "structurally sound." Bank stocks, he says, "can outperform the overall Canadian equity market, a reflection of the banks' good earnings growth, rising dividends, share buybacks and reasonable valuations on the stocks."

The Signature team is not overly concerned, he says, about the impact of the actions from the major technology companies and emerging fintech (financial technology) companies on the banks' core businesses. The big Canadian banks are innovating, he says, and adopting new technologies. It is likely, he says, that the fintechs will make more money working with the banks than on their own.

But he cautions that the Canadian banks have not, as yet, been fully tested on this issue of disruption. "There is also the risk of a major pullback in the Canadian housing market."

Among the top-10 holdings in the fund and in their order of weighting are:  Bank of Nova Scotia (BNS), which has, for some time, been the biggest overall weighting in the fund;  Toronto-Dominion Bank (TD),  Canadian Imperial Bank of Commerce (CM) and  Royal Bank of Canada (RY).

Also featured in the top-10 holdings is the major Canadian insurer  Manulife Financial Corp. (MFC). "We have increased our holding in Manulife," says Bushell. "There has been a dramatic change in management with the appointment of the new CEO, Roy Gori, in mid-2017." Gori was formerly CEO of Manulife Asia, where he introduced new products, distribution systems and technology, he says. "The Asian market is highly competitive, and Gori is introducing the cutting-edge strategies that he honed in Asia to the rest of Manulife."

Bank of Nova ScotiaManulife Financial Corp.
May 28 close$79.94$24.84
52-week high/low$85.50-$75.20$27.77-$23.01
Market cap$92.3 billion$48.1 billion
Total % return 1Y*9.58.4
Total % return 3Y*11.25.7
Total % return 5Y*9.511.8
*As of May 28, 2018.
Source: Morningstar

Another plus for Manulife, Bushell says, is that its wealth-management arm is doing well. One concern is its legacy long-term-care insurance business, he says. "The equity market is unsure as to whether Manulife has made sufficient reserves against this business, but we consider that it has."

In contrast to Bushell and his team's guarded optimism about the ability of the major Canadian chartered banks to withstand the potential disruption from outside technology companies, they are doubtful that the major Canadian telecommunications-services companies can do the same. As a result, the team has sold the portfolio's holdings in this sector,  BCE Inc. (BCE) and  Rogers Communications Inc. (RCI.B). "The advent of the global digital age has dismantled the barriers to entry in what was formerly an oligopolistic telecommunications-services industry in Canada," he says. "The stocks can no longer be viewed as a safe-haven, defensive play."

When it comes to energy, Bushell says that the team's enthusiasm is "tempered by the fact that in the context of the global industry, Canada remains a high-cost oil producer." Investors should note that there are major structural changes under way in the Canadian oil patch, he says. "The junior and intermediate producers are having their share of problems, due to their lack of capital in what is a capital-intensive industry."

In the past, says Bushell, the juniors could look to the big producers to take them over. "But the majors now have significant inventories and are not acquirers." It is likely, he says, that there will be mergers among the smaller players and that the trend to consolidation in the oil patch will continue.

Signature Select Canadian's emphasis in this sector is decidedly on the large-cap Canadian energy producers. In order of their weighting in the portfolio, they are:  Suncor Energy Inc. (SU),  Canadian Natural Resources Ltd. (CNQ) and  Encana Corp. (ECA). The latter, he says, has a significant exposure to the prolific Permian Basin in Texas. "The Permian is the focus of global investors in the energy business."

Bushell and his team have taken advantage of weakness in the stock of  Enbridge Inc. (ENB) to add to the portfolio's holding in this major energy-infrastructure company. Enbridge's purchase of U.S.-based Spectra Energy Corp., with its U.S. pipeline system, has resulted in considerable leverage on Enbridge's balance sheet.

Also, he says, negative changes in the U.S. tax rules governing U.S. limited partnerships have hurt Enbridge's U.S. limited-partnership subsidiaries. Enbridge recently announced that it would buy all the outstanding equity securities in these entities from their outside investors in exchange for Enbridge's common shares. The estimated cost of the transaction is C$11.4 billion or 272 million Enbridge common shares. This is a positive move, he says.

Another positive prospect for Enbridge, says Bushell, is increased business for its infrastructure in the United States following a successful outcome to the trade dispute between the United States and China. This would mean, he says, that more oil would flow through Enbridge's U.S. pipelines to U.S. ports en route to Asia. "In all, we like the stock and consider that its dividend growth is intact."

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