Worries over a global slow down continued to fade last month allowing equity markets to extend their 2019 rally in March with the S&P 500 up 1.8% and the S&P/TSX 60 up a more modest 0.6%. The Canadian dollar fell 1.4% for the month, pushing the US$ return of the unhedged S&P 500 to 3.2% in March. Prices for crude oil continued to recover from their swoon during the fourth quarter of last year and prices for WTI gained 4.5%. Despite the substantial gain for crude oil from its lows (up over 33%) equity prices for energy related companies continue to lag. Although up roughly 20% from their lows, share performance for energy companies was largely negative in March with the XEG sector ETF down almost 2% despite the 4.5% gain in crude prices. Finally, gold gave back some of its gains from earlier in the year, falling 1.9% in March as worries over future inflation (which were already low) fell further.
We were not in the recession camp during the selloff late last year, and we are still not in the recession camp as we have moved through the first quarter. Yes, economic data, particularly sentiment data, softened meaningfully exiting 2018 and for the first part of 2019; however, there were also several headwinds that played a role. Anxiety of the China/US trade dispute, fears over the Fed over tightening, worries the US government could shut down (which it did) and typical weak first quarter seasonality all played a role. Add to those factors tough year over year earnings growth comparisons as last year’s tax cuts are lapped and the outlook looked risky. Yet here we stand, entering the second quarter, with the China trade spat increasingly looking resolved (if only superficially), The Fed on hold and sounding dovish, the shutdown over and largely forgotten, vastly improved seasonality and a labour market that has continued to meet or beat expectations so far this year.
In our view, we think the wind can remain at our backs for some time to come. With improving growth, steady (or softening) inflation (which is keeping central bank policy on a dovish path), reduced trade tensions (as Trump pauses his tariff campaign in light of the 2020 election) all that is left to really worry about is whether earnings can actually grow this year and, if so, how much should we pay for that growth?
Earnings estimates for the S&P 500 have been steadily moving lower for weeks and now stand at $166 (bottom-up)/$171 (top-down) for 2019 and $184.65 (bottom-up)/~$180-181 (top-down) for 2020. Most investors seem to be penciling in ~$180-182 for 2020 and based on that range the S&P is presently trading at ~16x exactly. We believe the earnings bar is now set low enough to allow the “meet and beat” cycle to resume again and, if we are right, the first quarter earnings season could provide the fuel to continue to push equity markets higher. Our two largest sector allocations, Financials and Energy, remain substantially undervalued in our view and are both poised to beat very low investor expectations and deliver excellent earnings and cash flow, especially relative to their very low current valuations. With WTI now over US$60 and Brent crude approaching US$70, we believe our energy holdings can deliver exceptional cash flow yields (20% or more) and return capital to shareholders through increasing share buybacks. Likewise, investors have been too focused on net interest margins (NIMs) for our bank holdings and are ignoring their tremendous earnings power as they enjoy strong balance sheets (including their capital buffers), continued loan growth, low credit losses and excellent cost control. Elsewhere in the portfolio we effectively reduced our weighting in U.S. healthcare related stocks to a toehold position (roughly 1%) as we entered March over concerns the Democratic presidential campaign would introduce increasing rhetoric surrounding “healthcare for all” – a clear negative for healthcare insurers and providers. We kept our hedging book relatively short dated during the year to date rally in order to minimize the hedge burn as indices moved consistently higher but we have started to extend out our expiry dates at current levels (at or above 2800 on the S&P).
Looking forward, the top five most important macro events for equity markets over the next few months are likely to be as follows:
It is tempting to look at the strong year to date gains for equity markets and assume there isn’t any more room for gains this year. In our view, that would be wrong. In effect, the strong rally from the market lows hit last Christmas have just back filled the hole created by the sharp decline in equity values late last year. While we don’t expect another double digit gain in the second quarter, it is not unreasonable to expect high single digit gains over the remainder of this year. We believe our current portfolio is more than capable of delivering that sort of performance and, as always, we will continue actively hedging in case we are wrong.
The Enhanced Team
1 All returns and fund details are a) based on Class/Series F shares/units; b) net of fees; c) annualized if period is greater than one year; d) as at March 31, 2019; e) inception date for Ninepoint Enhanced Equity Class is 04/16/12. The index for the Ninepoint Enhanced Equity Class; Ninepoint Enhanced Long Short; and Ninepoint Enhanced Long Short RSP is 50% TSX & 50% S&P 500 (CAD) Blended Index and is computed by Ninepoint Partners LP based on publicly available index information. The index for the Ninepoint Enhanced US Equity Class is S&P 500 TR USD and is computed by Ninepoint Partners LP based on publicly available index information.
The risks associated with investing in a Fund depend on the securities and assets in which the Fund invests, based upon the Fund’s particular objectives. There is no assurance that any Fund will achieve its investment objective, and its net asset value, yield and investment return will fluctuate from time to time with market conditions. There is no guarantee that the full amount of your original investment in a Fund will be returned to you. The Funds are not insured by the Canada Deposit Insurance Corporation or any other government deposit insurer. Please read a Fund’s prospectus or offering memorandum before investing.
Ninepoint Partners LP is the investment manager to the Ninepoint Funds (collectively, the “Funds”). Commissions, trailing commissions, management fees, performance fees (if any), other charges and expenses all may be associated with mutual fund investments. Please read the prospectus carefully before investing. The indicated rate of return for series F units of the Fund for the period ended March 31, 2019 is based on the historical annual compounded total return including changes in unit value and reinvestment of all distributions and does not take into account sales, redemption, distribution or optional charges or income taxes payable by any unitholder that would have reduced returns. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated. The information contained herein does not constitute an offer or solicitation by anyone in the United States or in any other jurisdiction in which such an offer or solicitation is not authorized or to any person to whom it is unlawful to make such an offer or solicitation. Prospective investors who are not resident in Canada should contact their financial advisor to determine whether securities of the Fund may be lawfully sold in their jurisdiction.
The opinions, estimates and projections (“information”) contained within this report are solely those of Ninepoint Partners LP and are subject to change without notice. Ninepoint Partners makes every effort to ensure that the information has been derived from sources believed to be reliable and accurate. However, Ninepoint Partners assumes no responsibility for any losses or damages, whether direct or indirect, which arise out of the use of this information. Ninepoint Partners is not under any obligation to update or keep current the information contained herein. The information should not be regarded by recipients as a substitute for the exercise of their own judgment. Please contact your own personal advisor on your particular circumstances. Views expressed regarding a particular company, security, industry or market sector should not be considered an indication of trading intent of any investment funds managed by Ninepoint Partners LP. Any reference to a particular company is for illustrative purposes only and should not to be considered as investment advice or a recommendation to buy or sell nor should it be considered as an indication of how the portfolio of any investment fund managed by Ninepoint Partners LP is or will be invested. Ninepoint Partners LP and/or its affiliates may collectively beneficially own/control 1% or more of any class of the equity securities of the issuers mentioned in this report. Ninepoint Partners LP and/or its affiliates may hold short position in any class of the equity securities of the issuers mentioned in this report. During the preceding 12 months, Ninepoint Partners LP and/or its affiliates may have received remuneration other than normal course investment advisory or trade execution services from the issuers mentioned in this report.
Ninepoint Partners LP: Toll Free: 1.866.299.9906. DEALER SERVICES: CIBC Mellon GSSC Record Keeping Services: Toll Free: 1.877.358.0540