Each quarter, our Investment Management teams publish their key observations and detailed portfolio updates across North American, Global and Fixed Income markets. This is a summary of our views for the First Quarter of 2021. You can download the full reports via links shown below.

KEY OBSERVATIONS

Probably the best way to describe the US economy today is “smoking hot.” Corporate earnings continue to beat expectations. The ISM manufacturing index, which surveys purchasing managers at more than 300 US companies, recently recorded its strongest reading since 1983. Meanwhile, a similar index for global markets hit a 10-year high.

The largest vaccine rollout in history is underway. It has been estimated that more than 700 million doses have been administered globally. Despite some worrying trends, the average rate of inoculation is outpacing the rise in new cases.

The combination of record earnings, positive economic data and vaccination progress drove stocks higher. During the first quarter of 2021, the S&P 500 total return index was up +6.2% in US dollars, or +4.9% in Canadian dollars, as the Canadian dollar appreciated about 1.0 cent. The TSX total return in the first quarter was strong at +8.1%.

Between the US Treasury’s US $1,400 stimulus cheques issued to 250 million Americans in March (adding even more fuel to the fire) and the Fed sitting tight on interest rates, the bond market is trying to estimate inflation while the stock market attempts to forecast earnings. Whether that results in a short-term pullback, a more serious correction, or revised earnings expectations, only time will tell. 

The bottom line is that the market appears to be pricing in a lot of good news and the risks have now increased. While our outlook remains positive, we have raised a little cash and will pause for the moment to see how this sorts itself out in the second quarter.

NORTH AMERICAN EQUITY UPDATE

Our US equity exposure decreased from 52% to 48% during the quarter, while our Canadian exposure increased slightly to 46%. Cash rose from 3% to 6%. Many of you  who follow our North American Plus International global strategy will have a roughly 20% allocation to international equities, which means the US and Canada weights will be lower.

We now have more than half of the portfolio invested in the value end of the spectrum to benefit from the economic recovery, while maintaining about a third of the portfolio in growth stocks. Staples, which we don’t classify as either growth or value, make up the balance of our equity exposure.

We added three new positions in the first quarter of 2021:

Intact Financial is a Canadian insurer of homes and autos. Company management has a stellar track record both in operating the business and in making accretive acquisitions, including a pending acquisition of RSA Group of the UK, which we believe will prove to be a real winner.

Dollarama Inc. is the largest dollar store chain in Canada, with 1,300 company-operated stores and plans to reach 1,700 stores by 2027. The company has acquired a majority stake in Dollar City, a 240-store chain in Latin America with a market about 4x larger than Canada.

U.S. Bancorp is the 5th largest commercial bank in the United States by assets and one of the most profitable based on return on equity. As the US economy recovers from COVID, we believe the company will experience a rebound in its fee-based businesses and will benefit from an improved credit outlook in 2021.

GLOBAL EQUITY UPDATE

Unlike most recessions, which are typically triggered by economic imbalances or central bank action, the recession of 2020 emerged out of left field. And, unlike most recoveries, where households, corporations and governments typically need time to regain their footing, everyone is flush with record amounts of cash and ready to spend.

As we exit the pandemic, there will be substantial demand for dining out, travel, sporting events, and concerts. There is also a US $2 trillion infrastructure proposal in the United States. We currently see a path to a strong global economic recovery with a level of growth that is likely to be the strongest in decades.

Now let us consider some of the risks. There are new variants of the virus, valuations are elevated, and there are concerns about the potential for inflation. Although each of these risks is significant, we believe they are all manageable.

As you know at Cumberland, the companies we own are profitable across the business cycle, generate strong free cash flow, hold leadership positions in attractive industries globally, and are, in many cases, emerging from COVID even stronger than before. We are confident that they can handle some setbacks that will eventually materialize down the road.

We view equities as the preferred asset class to benefit from the recovery. The US economy has performed well over the last decade and we expect this to continue. However, we believe there is catching up to do in both Europe and the Emerging Markets, which have gone through several years of lacklustre growth. Our global mandates have exposure to these economic regions and are well positioned to benefit as the recovery unfolds.

FIXED INCOME UPDATE

In January, the Bank of Canada (BoC) signaled its intention to reduce the buying of Government of Canada securities. The expectation from economists is that the Bank of Canada will taper its buying from $4 billion/week to $3 billion/week as early as April, as they gain confidence in the strength of the recovery.

On Feb 23rd, the BoC reduced its buying of provincial bonds in the secondary market from twice a week to once a week and reduced the maximum from $500 million to $350 million. Similarly, the Bank reduced their buying of corporate bonds from $200 million per week to $100 million per week.

This slowdown in bond buying is a signal that Canada’s economy requires less help to emerge from the coronavirus crisis. Indeed, the BoC upgraded its economic forecast in March. Nonetheless, we, as taxpayers will ultimately be left to deal with the ballooning level of federal and provincial government deficits that remain.

With stronger economic growth comes the possibility of interest rate increases, but the BoC has reiterated that they will not increase rates until inflation of 2% is “sustainably achieved.” We believe that we are very likely to see near-term spikes above 2%, and the question will be whether this is sustainable or not. The Bank of Canada kept its overnight rate unchanged in Q1 at 0.25% and the Federal Reserve also kept its rate unchanged at 0%.

At the end of the Q1, 88% of the bonds in the Canadian Bond Universe traded above par, compared to 99.5% at the end of 2020. As a result, the Index yield rose from 1.21% to 1.72%. The market clearly needed to take a breather and we believe there could be a bit more downward price pressure (and higher yields) to come. We are now taking advantage of lower prices to selectively lock-in some yields and reduce the risk of capital losses.