Negative sentiment in Canada is creating investment opportunities for Robert Taylor, lead portfolio manager of the $217-million Canoe Canadian Asset Allocation. Taylor, based in Toronto, is a senior vice-president with Calgary-based Canoe Financial.
"Whether it is concerns about trade, about the housing market or the political environment," says Taylor, "we're starting to see value in a lot of the Canadian stocks. We think we're at the early stage of a late-cycle business move. Commodities are starting to outperform here, and as a result, Canada should be a beneficiary of that."
Primarily a tactical mandate, the Morningstar 5-star rated fund follows an investment approach that is meant to be flexible and nimble. "When times are good," says Taylor, "the flexibility can be more aggressive and we can allocate more money to equities and less to bonds."
The tactical approach to asset allocation is evident in the fund's positioning from May 31, 2017 to May 31, 2018. During that period, Canadian equities increased from 37% to 47% of the portfolio, and fixed income decreased from 35% of the portfolio to approximately 28%. Over that timeframe, U.S. and foreign equities represented approximately 24% of the portfolio, with the remainder in cash. "That's been the right move," says Taylor, "because the stock market has outperformed the bond market since then."
If the team can't find enough investment opportunities to generate an adequate rate of return, it will go into cash until favoured stocks represent good value. The overall investment goal is outperformance.
Depending on the market environment and tactical outlook, Taylor allocates a percentage of the mandate to the fixed income team who manage the bond securities.
The energy and financial services sectors currently represent approximately 26% and 25% of the portfolio, respectively. Energy has gradually increased in weight from 19%, and financials have been as high as 34% and as low as 20% since May 31, 2017.
On the energy side, the top equity holding, 
Tourmaline Oil (TOU), based in Canada, illustrates a company that represented good value in the research process. "When we started to evaluate the value of the business," says Taylor, "their liquids business, their mid-stream business and their gas business, we got a much higher value than what the stock was trading at. Almost double." Based on the promising research, Tourmaline became a high-conviction 3% weight in the portfolio. Since then the stock has gone from $18 to $24, says Taylor, "but we still see a lot of upside potential in that stock over the next 12 to 18 months."
In the financial area, the team has liked the U.S. financials for a long time but the stocks have been such strong performers that they're actually seeing better opportunities in some of the Canadian banks right now. "We think the Bank of Nova Scotia (BNS) now represents a good opportunity," says Taylor. "The bank has performed extremely poorly on a year-to-date basis and the stock looks very cheap compared to history." As well, the Bank of Nova Scotia meets the criteria of a high-quality company with compounding opportunities over the long run.
In the mid-cap area, the fund's holding in Great Canadian Gaming Corp. (GC) also illustrates buying quality stock at a good price. When the casino company expanded its mandate to include facilities beyond Ontario, the investment managers thought there was a lot of earnings growth potential that was not reflected in the stock price. "We bought the stock at around $28," says Taylor, "and now it's around $47. That's a company where the information was not readily available. We did our homework, we bought the stock at a good price, and it was a big win for our portfolio."
The stock criteria in the portfolio, with large caps representing about two-thirds of the mandate, is based on fundamentals and focused on free cash flows, high return on equity and clean balance sheets so companies can finance their growth without leverage. As well, the four-member Canoe team, including Taylor, looks for strong management teams that are good allocators of capital and generate strong returns on invested capital. The qualitative research includes the management team's track record and the dynamics of the business that will lead to better growth potential.
At certain times, the portfolio will have zero weight in certain sectors if the managers don't see attractive opportunities. For example, today areas that are seen as challenging include the utilities sector, consumer staples and REITs, because the team has found a lot of those sectors to be expensive. Many of the companies have generated growth by leveraging their balance sheets, and that adds another element of risk, says Taylor.
Going forward, "it's not a trending market in our view," says Taylor, "probably more of an oscillating market, a lot more rotation. There's willingness for us to be active and it's going to be more important to pick the right stocks to choose the winners and avoid the losers. We're an all-cap mandate, we're flexible, and we have a bigger sandbox to play in to look for opportunities."
