A Mackenzie Investments Report
Source: Equity Comments – December 31, 2008 Fred Sturm, Chief Investment Strategist, Mackenzie Financial Corporation
General Interest Article 1 Number 2
This report may contain forward-looking statements, which reflect our current expectations or forecasts of future events. Forward-looking statements include statements that are predictive in nature, depend upon or refer to future events or conditions, or include words such as “expects”, “anticipates”, “intends”, “plans”, “believes”, “estimates”, “preliminary”, “typical”, and other similar expressions. In addition, these statements may relate to future corporate actions, future financial performance of a fund or a security and their future investment strategies and prospects. Forwardlooking statements are inherently subject to, among other things, risks, uncertainties and assumptions which could cause actual events, results, performance or prospects to differ materially from those expressed in, or implied by, these forward-looking statements. These risks, uncertainties and assumptions include, without limitation, general economic, political and market factors in North America and internationally, interest and foreign exchange rates, the volatility of global equity and capital markets, business competition, technological change, changes in government regulations, changes in tax laws, unexpected judicial or regulatory proceedings, catastrophic events and the ability of Mackenzie to attract or retain key employees. The foregoing list of important risks, uncertainties and assumptions is not exhaustive. Please consider these and other factors carefully and not place undue reliance on forward-looking statements. The forward-looking information contained in this report dated December 31 2008, is current only as of the date of this report. There should not be an expectation that such information will in all circumstances be updated, supplemented or revised whether as a result of new information, changing circumstances, future events or otherwise. The year 2008 is now in the history books. The mess that it was has created new opportunities for the years ahead. It was a year of extreme volatility, as commentators and analysts leapfrogged each other to add the latest superlative. Only once before in 100 years has the global financial system had a similar shock. Investment markets were absorbing challenges earlier in the year, but the collapse of Lehman was a trigger for investors to panic. Inter-bank lending, global trade letters of credit, and credit in general seized up. Consumers went on a buying strike, and companies shut down new orders as they worked down inventories to free up working capital. Over half of the shares in the s&P500 Index declined more than 50%. Many financial institutions were forced into restructuring and Wall Street was absorbed into the banking system. The flight of money out of emerging and resource oriented markets rocked those shares and their currencies. The Russian stock market fell 72% on the year. The economic work-out will take time and there will be more dislocation in 2009. However, history teaches us that panic modes do not last long. Investors that buy, rather than sell when there is a sale in financial assets are the ones that ultimately get the better deal. Global central bank response has been unprecedented, and fiscal stimulus will be pro-
Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.
gressively implemented worldwide throughout the coming year. This gives hope that the strongest bonds and the strongest stocks have already seen their lows and have begun a new bull market. Rarely in history has investor patience been tested as much as this, and yet patience will be the key for investors to be in position to capture the gains the next bull market in financial assets, which is beginning, will bring. M*V=Q*P. This equation states that the amount of money available, times the velocity at which it is circulated equals the total quantity of orders at a given price. U.S. and U.K. housing have been at the epicentre of challenges to consumer confidence and the banking system. Not in over 50 years of prior recorded history has there been a coast-to-coast decline in the primary asset of most individuals. The “hunker down” mentality and ensuing loss of velocity caused the fourth quarter to post extremely weak economic results. The inventory of unsold homes suggests we have not turned the corner just yet and more losses should be expected, but more affordable prices and lower interest rates have dramatically improved affordability, and with new construction below family formation this suggests the market will gradually stabilize. The fourth quarter also saw businesses suspend new orders as they shortened inventory cycles. While the quarter past may be the worst rate of change quarter we will see this cycle, the New Year begins with global activity still in a decline phase. Central banks have been working overtime to offset the decline in velocity. Our models which monitor central bank activity frankly misguided us when the U.S. Federal Reserve lowered interest rates meaningfully from 5.25% in August 2007 to 2% by April. In the past this would have been enough to argue for improving equity markets within six months. In retrospect it was the more than usual delay by foreign central banks and the lack of follow through by local banks that contributed to the credit crisis. Thankfully, since the fourth quarter all central banks are sailing in the same direction. These are necessary, but perhaps not sufficient steps to offset the current economic conditions. With the customary lag we expect their efforts to play well into financial markets and the good news is that government bond yields, as well as high grade-, and mid grade bond yields have come down (a new bull market in bonds is underway). This is why we recommend investors commit funds to
capture extra yield in bonds directly, and in high yielding stocks. We expect an easing of interest rates for prime borrowers and a new bull market in high yield bonds will be next. Fiscal policy, both government project spending and direct financial support, is being promoted globally as an additional necessary step to offset economic weakness. Countries that have a more robust domestic economy are likely to respond more immediately to fiscal stimulus. Where emerging markets were in trouble ten years ago, this time they are in better shape and we expect them to come out of the gate quicker with select markets like China potentially leading the way into the next bull market. Nonetheless these markets were hit extremely hard in 2008 as foreign investors trounced the stocks and the currencies sold off an additional by 10-30%. We believe the Canadian dollar went from the top end of a range to the bottom and will recover half of last year’s decline in 2009. These emerging economies do not have the depth and accumulated wealth of the U.S., so if this global recession period extends for several years, they remain vulnerable. If not, we expect investors are being presented with an above average buying opportunity to get exposure to above average growth prospects. In fact, early signs are already emerging that inventory destocking is running its course and new orders are being placed. There are several ways to participate including in global companies with strong presence in those markets, domestic utility type companies including mobile phone operators, companies that will benefit from long-term growth in consumer buying power, and leading banks with conservative loan/deposit ratios that will ultimately facilitate the growth. We also believe that the quest for a better life urbanization trend will continue, leading to more consumption of resources especially energy. Economic recovery in the developed world will be more challenging. After years of high spending, individuals may continue to defer discretionary spending and seek to rebuild savings. The financial market shock will also bring forward the need for boomers to increase savings for retirement. More stores will close and the auto industry will remain vulnerable. All of this suggests that the global economic recovery will be a bounce along affair rather than a clean and quick “v”, with better prospects for sustainable recovery in the second half of 2009 and into 2010.
Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.
While profound economic uncertainty still lurks as we begin the year, we expect fear will shift to hope over the course of the year, and financial markets will anticipate this. There appears to be overwhelming consensus of global recession conditions for most of 2009, and with it a consensus of limited scope for equity market gains in the first half of the year. This most recent panic sell-off is tracking not far off past panics over the last century. Huge selling pressure creates swift declines, generating more panic selling, then brief violent reversals and further volatility often leading to new lows a few months after the waterfall decline. Panic fatigue sets in, markets stabilize and tentative buying meets limited resistance from exhausted sellers. Stocks advance not because the economy makes a magical turn, but because the outlook is less bad, stocks rally from deeply oversold levels. In this cycle, the maximum new lows were registered in October. Investments like corporate bonds, stable utilities, and high-yielding global leading stocks appear to have bottomed at that point. The majority of stocks put in a low in November, from which stocks rallied into year-end and into the beginning of the year. Companies with debt pressures or busted business prospects still appear at risk of further loss into 2009. The market did not give much pre-warning for investors to avoid declines, and it may well make it difficult for investors to get invested. One way the market could make it challenging for investors is by making worthwhile recovery gains quickly before many expect, having investors begin to finally buy, and then shaking investors out again as difficult economic headlines cause markets to retest. Trading successfully in range bound markets requires strong contrary discipline. For most investors it will be best to simply stay invested. Historically the riskiest investment is the one that becomes hugely popular and is priced for sustained low returns. This well describes the current holdings of government t-bills yielding 0.25%! Stay cautious, stay safe, stay in government t-bills has rarely been more embraced by investors. Logically the point of maximum pessimism marks the low. If you and others you know, as well as all the headlines around you have never been this negative, then there is a good chance that long-term investors should be buying, not selling. During the last quarter, famous investor Warren Buffet made the point that it is
highly likely that long-term returns from cash are going to meaningfully underperform a diverse basket of high quality businesses. Valuation tools such as price-to-book ratios confirm that only in very troubled periods have the deals been as attractive as they became during the fourth quarter. However, valuation talks to long-term returns, not immediate gratification. One indicator that can guide to timing is to monitor how stocks respond to headlines. If they can shake off bad news and push higher, then markets in their collective wisdom are making an important point. This should be a focus for investors into the first half of the year. Until more of such evidence mounts, it still makes sense for companies and individuals to maintain a reasonable liquidity reserve to buy time. If markets are indeed forming a bottom, then investors should anticipate some high percentage gains from sectors that were most distressed during the sell-off. Coming out of the 2002 low it was the beaten down technology sector that posted some of the strongest initial gains. Coming out of the 1998 low, beaten down emerging market stocks had significant bounces. This time the resource sector was most impacted, and we would not be surprised by a recovery period favouring resources. Typically after the first rebound, the “bounce” sector stalls out awaiting further evidence of repair and renewed growth. Asian stocks outperformed in waves for a decade coming out of 1998. In contrast many technology stocks faded after their recovery rally. We believe leading resource stocks put in a low during the quarter and should emerge from sustained recession pricing levels into an early recovery zone. We would expect them to trade in that zone awaiting support from renewed global growth. The long-term challenge of securing resources for still increasing global demand should support another major wave of profitable returns within the resources space a few years out. However, after a solid rally, more stable growth sectors like healthcare may provide steadier returns for a period. The banking sector, which has also taken a beating, needs to work through a likely increase in bad loans, but investors should continue to build positions in the surviving leaders in this long-term outperforming sector. Superior long-term growth may be available in emerging markets, but Canada continues to offer attractive choices for equity investors.
Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.
A career in a year, is how some investment professionals would describe 2008. Global growth to recession, monetary tightening to unprecedented easing, record high oil prices to 75% off sale, all within one year. The economy will remain tough to start the year, but the economy and investment markets are only loosely tied at the hip. As volatility subsides, good companies with reason-
able results should be rewarded with good returns. The market is doing its best to get investors to look at the immediate past, instead of into the future. Hidden by a fog of negative headlines, we believe 2009 will bring constructive progress for the base of the next bond and stock market advance, with some of the best gains coming before most expect it.
PORTFOLIO MANAGEMENT TEAM:
Fred Sturm, Executive Vice President and Chief Investment Strategist, Mackenzie Financial Corporation. Fred Sturm has been a member of Mackenzie’s investment team since 1981, and has established a reputation as one of the country’s leading investors in natural resource-based companies. Fred holds a Bachelor of Commerce and Finance degree from the University of Toronto and is a Chartered Financial Analyst charterholder. Fred is the Lead manager of Mackenzie Growth Fund, Mackenzie Universal Canadian Resource Fund, Mackenzie Universal Precious Metals Fund, Mackenzie Universal World Precious Metals Class and Mackenzie Universal World Resource Class. Benoit Gervais, Vice President, Investments, Mackenzie Financial Corporation. Benoit Gervais is Lead Manager of Mackenzie Universal Precious Metals Fund and Mackenzie Universal World Precious Metals Class. He joined Mackenzie in 2001 as an Investment Analyst. Prior to joining Mackenzie, Benoit gained valuable experience in the resource industry working for organizations such as Inco Ltd., Fording Inc., ICI PLC and the International Institute for Environment and Development in London, England. He completed a Master in Mineral Economics at Colorado School of Mines and also holds a Bachelor of Engineering from École Polytechnique and McGill University. Shechar Dworski, Senior Investment Analyst, Mackenzie Financial Corporation. Shechar Dworski joined Mackenzie in 2004 as an Investment Analyst. Shechar holds a Ph.D. in Physics from the University of Cambridge, as well as a Master of Science in Biomedical Engineering and a Bachelor of Science (Hon.) in Biology and Physics, from the University of Toronto. He also holds the Chartered Financial Anaylst designation. He covers non-resource sectors with a focus on the technology and life-sciences sectors and has spearheaded the resource group’s efforts in the renewable energy sector. Kevin Kelly, Investment Analyst, Mackenzie Financial Corporation. Kevin Kelly joined Mackenzie in 2007 as an equities analyst and works with Fred Sturm as an integral part of the diversified resources team. Kevin’s experience prior to joining Mackenzie focused on quantitative and qualitative research of energy equities and energy commodity fundamentals. He holds a Bachelor of Commerce (Hon.) from Queen’s University, the Canadian Investment Manager (CIM) designation and is a CFA charterholder.
Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.