Even as markets seem to be edging up again, Tony Genua, lead manager of the 5-star gold-rated $2.7 billion AGF Global Select Series F argues that this would be a good entry point to add to one’s equity investments.
“In the first half of this year I did not expect a recession. I thought that the excess savings that consumers had of about $2.5 trillion would allow the economy to continue to grow. We had also seen employment growth with monthly statistics coming in better than expected. Lastly, there’s been tremendous demand for goods which couldn’t be met by suppliers and more recently this has also been true of services as well,” says Genua, senior vice-president at Toronto-based AGF Investments Inc.
The first half of 2022 had several challenges in the form of inflation, the start of the Russia-Ukraine conflict, the first of a series of interest rate increases, plus the aggressive fiscal stimulus of the past two years that came to an end.
“There’s a slowing world economy that is challenged by the high energy prices. China has been battling COVID-19 with total shutdowns. And inflation has moved higher than people expected,” says Genua, a 45-year industry veteran who oversees about $8 billion in assets. “I combine all these elements to conclude that a mild recession is increasingly likely but it’s still possible to avoid. At this point, it seems that a mild recession, or even no recession, are the likely outcomes.”
Indeed, the turnaround in markets is reflected in the fact that for the month ended Aug. 4, AGF Global Select Series F returned 11.03%, versus 6.03% for the Global Equity category. Year-to-date, the fund returned -10.84%, versus -13.55% for the category. On a longer-term basis, however, the fund was a first-quartile performer for 3-, 5- and 10-year periods. Genua has managed the fund for nine years.
Most of the Damage Has Already Been Done
According to Genua, over the last 70 years equity markets have seen 16 bear markets, where stocks dropped more than 20%. “Eight of these 16 bear markets have been associated with a recession and eight, including this one, had a drawdown of more than 20% but were not associated with a recession. To the extent that we do get a recession, it will tip the balance to nine,” says Genua. “The average decline in markets, with no recession, is 25%. The decline that we believed started on January 4th and ended June 17 was 24.5%. To the extent that we don’t get a recession, this is more of an ‘average’ experience.”
Genua’s confidence is based on the view that he doesn’t see the excesses that would cause a severe recession which would lead to more downside. At the core of his argument is the view that most of the damage has been done. “The market represents a good entry point because it’s down 24.5% from its high in January,” says Genua, reiterating that the average market decline, that saw no recession, was about 25%.
Now’s the Time to Buy Stocks
“For an investor who is patient, and can tolerate equity exposure within a range that is comfortable then it’s a good opportunity to increase equities. If we get further downside, you might increase it further,” Genua says.
Primarily, a bottom-up stock Genua has been using up some of the cash to add to existing holdings and acquire new ones. While compliance regulations prevent Genua from revealing specifics about his purchases, he notes that they include a firm involved in production of rare earth minerals used for electric vehicles. “We are moving towards sustainability. This started before Russia invaded Ukraine and if anything it could accelerate with high energy prices. We are seeing evidence with people’s behavior---about one in every seven car purchases are either fully electric or hybrid models. These are the kind of positions that we believe are well-placed to benefit not for the rest of this year but for the balance of the decade, as this trend is not likely to go away.”
Running a portfolio of 35 names, of which 20 are based in the U.S., Genua has allocated about 27.2% of the fund to consumer discretionary holdings, 19.1% technology, 17.2% energy and 12.4% industrials.
How to Spot Good Leadership in Companies
In running the fund, Genua makes it habit to examine all the holdings every day and ensure that each one is a so-called buy, and if not then it should be sold. “My objective is to capture the market leaders in every cycle. Market leadership is always changing and it does so for two reasons,” observes Genua. “These reasons have to do with first, innovation, whereby companies introduce new products and services and when they do so they experience revenue growth and market share, and get rewarded in the marketplace. The day that they take their eyes off the R & D dollar, then another company will come along and introduce a new product and grab market share. That’s why leadership is seldom the same from cycle to cycle.”
The second driver of leadership is the macro-economic environment, which can either provide a tail-wind to growth, or a head-wind and adverse consequences. “This also applies to policy initiatives, which can either help a company, or impede its growth and end-markets. Whether its innovation or macro beneficiaries, I am looking at revenue growth as confirmation that companies are actually delivering on their claims they are innovative with products and services,” says Genua. “Earnings growth is always an important metric. But to the extent that companies are delivering growth and reinvesting profits and perhaps compromising near-term profitability I am okay with that. I like to see companies that have positive revisions. I have been using earnings revisions for a long time, as an indicator of companies that are delivering results that continue to make them leaders.”
Tony Genua’s Two Stock Picks
One of the top holdings, which has been in the fund since 2013, is Amazon.com Inc. (AMZN), the US-based online shopping giant. “The ‘moat’ on fulfillment that Amazon has built with hundreds of billions of dollars in capital expenditures will allow it to be a dominant force in online sales. It will continue to be successful notwithstanding that in the short-term more people are shopping in person and less online. The trend is from the bottom left to the top right corner, in terms of online sales as a percentage of the total. The most recent US census statistic is that 14.3% of retail sales are coming from online. That’s down from a peak during the pandemic, but we think it will revert back up again.”
At the same time, Amazon Web Services (AWS) is a dominant player in the cloud segment and seeing growth as more companies use the so-called cloud to communicate. “Amazon is very competitive and it will continue to do well there.”
From a share-price perspective, Amazon is trading at a 60 times consensus 2023 earnings. “I believe that Amazon will end up being the largest company in the U.S.,” says Genua, declining to be specific about the timing.
Another favorite is Cheniere Energy Inc. (LNG), a Texas-based firm specializing in building and managing liquefied natural gas plants. The company, which has a market cap of US$37.4 billion, has been in business for 26 years. “They are building out more facilities in the Gulf of Mexico to fulfill the tremendous long-term demand for natural gas that is being shipped around the world.” The stock, which trades at 10 times estimated 2023 earnings, has a dividend yield of 0.9%.
As more vehicles rely on hybrid and fully electric power systems, Genua believes that the grid will in turn require more natural gas to generate electricity. “Natural gas is one way to produce electricity that is better for the environment than coal and oil. It’s still a fossil fuel and not in the renewable area, but it is part of the solution. Russia is restricting the supply of natural gas into Europe, which is now scrambling for sources so it can avoid an energy crisis this winter. It takes years to build new plants, and that’s why this stock is a long-term holding for us,” says Genua, adding that Cheniere is financially-sound enough and well-positioned to ride out the inevitable ups and downs of the energy cycle.
