Stan Wong, portfolio manager at Scotia Wealth Management

FOCUS: North American large caps and ETFs

MARKET OUTLOOK:

Equity markets have stalled in recent weeks in response to a more hawkish tone from the U.S. Federal Reserve Bank. After climbing nearly 19 per cent from the mid-June intraday lows, the S&P 500 index has reclaimed almost half of those gains in the past few weeks. Year-to-date, the energy sector continues to shine with the S&P 500 energy index up over 40 per cent and the S&P/TSX energy index up over 23 per cent. Meanwhile, the information technology, communication services and consumer discretionary sectors continue to be significant laggards.

We could see more equity market choppiness in the very near-term given that September has historically been one of the toughest months of the calendar. Since 1950, the S&P 500 index has averaged a 0.54 per cent decline in September – the worst of all 12 months. However, seasonality trends could improve sooner than later as we look at the presidential cycle. Historically, the fourth-quarter of the midterm election year has signalled the start of above-average equity market returns. In fact, since 1950 the 12-month return for the S&P 500 index following midterm elections has averaged 19 per cent.

From a macroeconomic perspective, inflation remains a principal concern for investors, but we note several encouraging data points indicating that inflation may have hit an inflection point. Prices for a wide range of commodities including oil, gasoline, copper and wheat have retreated sharply from summer highs. Housing costs also appear to have peaked recently. Central banks today face a trade-off between growth and inflation, attempting to rein in inflation while trying to engineer a soft landing for the economy. Looking ahead, as economic growth decelerates, we will likely see central banks pivot next year and shift to a more dovish stance. Despite the challenging economic backdrop and volatility of the equity markets, we see opportunities where investor emotions swing to fear and panic. As always, we encourage investors to be fearful when others are greedy and greedy when others are fearful. Unquestionably, the greatest opportunities are found during the most uncomfortable and unsettling times. We reiterate our viewpoint that bear markets represent periods of tremendous opportunity for prudent investors able to look beyond near-term uncertainties.

In Stan Wong Managed Portfolios, we have tilted our allocation to value stocks and have reduced our weighting in growth stocks. The energy, health care and financial sectors look most attractive to us. We are underweight in technology, communications and consumer discretionary sectors. From a geographic perspective, we prefer U.S. and Canadian equity markets over European and Asian equity markets. The energy crisis in Europe and sluggish growth in China keep us at bay from these regions. In our fixed income allocation, we like inflation-protected bonds and short-duration corporate bonds but have also added some duration with government and investment-grade corporate bonds. 

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TOP PICKS:

ISHARES S&P/TSX COMPOSITE HIGH DIVIDEND INDEX ETF (XEI TSX)

 Last bought this month at ~$25

The iShares S&P/TSX Composite High Dividend Index ETF is designed to replicate the performance of the S&P/TSX Equity Income Index. The XEI ETF provides a compelling opportunity for investors seeking strong dividend income from established, large-cap Canadian companies. XEI currently pays a 5.2 per cent dividend yield with top holdings in Canadian banks, pipelines, utilities and telecommunications industries. Some of the top holdings include Royal Bank, BCE, Enbridge, TD Bank and Pembina Pipeline. With the iShares S&P/TSX Composite High Dividend Index ETF still down nearly 15 per cent from its highs earlier this year, it provides an attractive buying opportunity in high-quality Canadian dividend payers. The ETF carries an expense ratio of 22bps.

EXXON MOBIL (XOM NYSE)

Last bought in July at ~US$82

Exxon Mobil is one of the world’s largest energy companies and is forecasted to gross over US$425 billion in revenue in 2022. Exxon’s immense portfolio holds more than 18 billion barrels of oil equivalent of proven reserves across 15 countries. The company’s downstream operations represent nearly 80 per cent of Exxon’s total sales. Its free cash flow yield of over 12 per cent remains very attractive. Like many large-cap energy companies, Exxon Mobil has been focused on returning excess cash to shareholders and keeping capital expenditures and production increases in check. Earlier this year, Exxon’s management announced a tripling of its share buyback program to US$30 billion. Broadly speaking, energy prices are expected to remain firm over the coming years given steady global demand, low inventories and industry-wide underinvestment. Exxon Mobil currently pays an attractive 3.7 per cent dividend yield and reports its next quarterly results on Oct. 28.

UNITEDHEALTH GROUP (UNH NYSE)

Last bought this month at ~US$520

With over US$322 billion in forecasted 2022 revenues, UnitedHealth Group is the largest managed care and private health insurance provider in the United States, providing medical benefits to 50 million members across its U.S. and international businesses. UNH’s strategy of providing medical insurance, pharmacy benefits and healthcare services creates a strong value proposition to its customers, and consequently steady and reliable sales. Last quarter, management reported earnings that handily beat Wall Street expectations and raised its earnings guidance for the full year. UnitedHealth Group’s annualized earnings growth rate is expected to top 12 per cent over the next few years. UNH shares currently pay a modest but growing 1.3 per cent dividend yield. The company reports its next quarterly results on Oct. 14.