There are companies whose stock prices have come off, but competitive advantage remains in place, growth outlook is sound, and balance sheet is solid. Those are the types of companies to nibble away at as their prices fall, says David Sykes, Head of Public Equities, TD Asset Management.
- Dave, you were kind of characterizing the market right now and I guess the one thing that I think people really want to know is that with all these intraday dips that are happening-- and there's some days where nothing is spared, but we see these big rallies back-- is this a buy the dip kind of time? I mean, is there an opportunity to pick up some sectors or some positions here?
- Sure. I mean, I think it always is. If you see a pullback-- we've seen the NASDAQ stocks pullback something like 15% as an index. But if you look inside that, there are some stocks that have pulled back 40%, 50%, 60%. And if you look at the S&P 500, we're down something like 10% from the highs at the beginning of January.
But there are several stocks that are down 10%, 12%, 15%. And I think in our world, and what we're looking at, and what we're trying to find in the market-- there are opportunities. There's clearly some companies that have some concerns around them, whether you get rising rates, and what's going to happen to their business model, and what happens with COVID? There's always lots of dislocations, but we do think there are definitely some opportunities that you can nibble away in.
KIM PARLEE: And like what? I mean, give me a sense of what kinds of companies. Because I know the one thing we're in the middle of earnings right now-- I'm kind of collapsing two things here-- what are you seeing in earnings that has feel comfortable maybe with companies in terms of buying dips and what are you seeing that has you not?
- Yeah, so I think there are-- as far as earnings go-- let's take that first. Earnings, in the long run, are what matters. If you're a stock person, as earnings go, the stock goes. And so I think what we're seeing this earnings season-- it is early, but what you're seeing is that companies are beating, not by as much as they did in the fourth quarter, but they're still beating. And so that tells me that corporate fundamentals are in good shape.
The question really, though, comes around the multiple. What multiple do you put on those earnings? And that's really being impacted by the Fed, talks of rate hikes, and what they're going to do with the balance sheet, et cetera.
But I think if you look at certain sectors-- I mean, there are a number of companies that were big COVID winners, not necessarily in the technology space, but if I think about companies like Costco or Estee Lauder-- really, really solid business models-- Home Depot is one these stocks have come off-- and to me their competitive advantage remains in place, their growth outlook is pretty darn good, balance sheets are solid, free cash flow is there, and so for us those are the kind of names that we want to nibble away at as they continue to fall.
- I know that you and I talked before and, I mean, we've talked about payout ratio. So companies, they make money, they earn, and then, of course, they choose what they pay out. But the amount that they've paid out as a percentage of what they could pay out is lower than it has been traditionally. I guess there's different ways of interpreting it. I interpret that sometimes as they're maybe a bit scared to pay out because they want to keep this cash reserve just in case or maybe it's like look at all this room they could pay more. What camp are you in?
- Yeah, so I'm definitely in the camp that they're going to pay out more. As an equity person, we're always accused of being wildly bullish. I think it's fair to say that earnings growth this year will be OK. I'm a little worried that the multiple on those earnings will compress a little bit. And it's not going to be a fantastic year for the equity market, still should be positive returns. But the one thing I feel really strongly about is during the height of the pandemic, a lot of corporations-- either because of regulations or because of conservatism at the board level, at the management level-- weren't necessarily increasing those distributions to show just as much as they could. They were hanging on to that cash for a rainy day and all the cash flow they were generating.
I think you're going to see a tremendous uptick in the dividend distributions this year and the share buybacks. And we've seen that already in the first quarter with a number of companies really significantly increasing the dividends-- 19%, 20%. I think that's a theme you're going to continue to see. And we're talking about rates going higher, but ultimately the terminal rate, where the Fed stops, it's going to be 2%, 2 and 1/4% maybe in 2023. But we're not talking about astronomically high rates and we're going to end up in this lower for longer interest rate environment.
- I know right now if we take a look at the Wealth Asset Allocation Committee, this is of course the group that you work with, of course, and try to understand where the opportunities are longer term or not. And I understand that you are more overweight-- Canada-- compared to the US. Why is that right now?
- Yeah, so from our perspective, Canada is in a good spot if you think about a few things. One is on this interest rate cycle that we're talking about, both with the Fed and the Bank of Canada, if you look at the composition of the Canadian stock market and large Canadian companies, a lot of banks a lot of financial services, they will do better from an earnings perspective as interest rates rise. And so that is one thing that we really believe Canada will have in its favor.
And the second thing is our resource-based economy, particularly in the energy sector. We really do believe in ESG and all those principles to get us to net zero. But, in the interim, you're still going to need a lot of those products that we produce and, boy, oh boy, there's been a lot of underinvestment in those areas in the last number of years. We believe you're going to see higher commodity prices, higher energy prices.
And, wow, with those prices where they are today, for a lot of our energy producers, it's going to mean tremendous free cash flow. And, again, we think a lot of that's going to come back to you and I, the shareholder, with buybacks and dividends. And so because of interest rate rises, because of the commodity complex at the moment, and what we think is a very supportive commodity complex, we're overweight-- Canada-- to a maximum extent.
- Not to get too into the niggly details here, but I think with resource companies, too, commodity prices are high, but the same barriers that stop them, perhaps, from expanding, exploration, or getting more resource out of the ground are going to be even worse going forward. So I assume it's going to be tricky with those companies as well, too.
- Well, it is one of the ironies. I mean, we need increased supply, but, of course, if you increase supply there is that-- there's an environmental cost to that. And so right now I think a lot of companies in that sector have said, look, we're not interested in putting free cash flow back into the ground, if you will, and looking for new resource. We're going to be disciplined and paid out to our shareholders.
And if-- we've come through this-- these companies have cut a lot of costs and now with commodity prices where they are, the amount of profit and free cash that they can generate is going to be tremendous. And I think it's going to surprise some people. As a consumer it may not be so nice when you pay at the pump, but I do think that's an area that investors can benefit from.
- David, always a pleasure. Thanks so much for joining us.
- Thanks, Kim.