James Telfser on BNN-Bloomberg’s Market Call – Oct 15, 2019

James Telfser on BNN-Bloomberg’s Market Call – Oct 15, 2019

MARKET OUTLOOK

Over the past three months North American equity markets have been marred by an increasing level of volatility. Weak economic data continues to persist with PMI coming in at 47.8 in September, the lowest reading since June 2009. Similarly, non-manufacturing PMI also disappointed with a well below expectations in September. There seems to be no near-term solution to trade tensions, which aren’t helping sentiment. While there are some underlying positive trends in housing and consumer confidence, we worry about the negative drag from the above data points and how global markets will react, especially as Q3 earnings season unfolds.

We’re positioning our client portfolios and underlying strategies defensively with above average levels of cash. Given how accommodating central banks have become, we’re opting to hold more cash and treasuries versus outright puts or shorting the market. We feel comfortable with our positioning in this environment despite markets inching towards new highs in the short term. If you are committing new capital to the market for the long term, like we are with our recently launched U.S. dividend growth fund, the Aventine Dividend Fund, we would recommend picking away at the large liquid names that have been overly punished in recent months. We have also taken notice of several non-resource Canadian small-cap names that have been driven lower for the sake of liquidity.

Our allocations to utilities and REITs have performed well in this environment and while some tactical trading has caused us to reduce this exposure in recent weeks, we still recommend a healthy allocation here. In addition, we continue to favour alternative asset classes, such as private credit and merger-arbitrage strategies which have been consistent performers through the cycle. Lastly, we have also added non-traditional instruments to the portfolio, such as mandatory convertible preferred shares, which have valuation floors in the case of further equity market deterioration.

Top Picks

Akumin (AKU/U:CT)

Akumin has been executing well on their business plan of acquiring and operating diagnostic imaging clinics focusing on MRI, CT scans and other procedures in the U.S. They’re now the number two player in the U.S. outside of publicly traded RadNet (RDNT-US) with 130 centres. Their business has several tailwinds including demographics, operating leverage as they scale and volume growth from insurance companies encouraging patients to utilize freestanding clinics versus the more expensive hospital centres. While growth has been robust, we’re even more impressed with the margin profile at less than 20 per cent on EBTIDA and their ability to integrate new acquisitions. Given their execution to date we believe that the current multiple of five times EV/EBITDA is too far out of line with peers other consolidators. We consider this level to be an excellent entry point as the next phase of their business plan unfolds which should include even more organic growth and free cash flow.

GDI Facilities (GDI:CT)

GDI is one of those great businesses that offers stability (recurring revenue), organic growth and significant catalyst potential. GDI provides services such as cleaning, food sanitation, hotel services, disaster recovery, technical and event support services and maintenance for offices, hospitals, institutional buildings, laboratories, shopping centers and airports. There are several elements to like here including a recent inflection higher in organic growth, a very aligned management team with directors and officers owning 50 per cent of the shares outstanding and a free cash flow profile that provides flexibility. We also believe there will be further consolidation in the industry which provides a significant opportunity for the shares to outperform. GDI has completed over 20 acquisitions since 2005. Taken together, we conservatively model a 15 per cent IRR over the next few years given management’s targets and multiple expansion as this relatively underfollowed story attracts more attention.

Emera (EMA:CT)

Emera offers a compelling combination of growth and defence. The team here has executed exceptionally well over the years and clearly demonstrated that they’re good stewards of our investor’s capital. We would expect gains here to come from a combination of valuation expansion, dividend growth and organic growth. Interest rates globally remain depressed which bodes well for the valuation of utilities and other interest sensitive sectors. Emera is trading at 18 times expected earnings and has a dividend yield of 4.7 per cent. This comes with 95 per cent of their asset base being regulated or very predictable.

James Telfser,

Aventine Asset Management