Kash PashootanA Comment -- General Comments From an ExpertA CommentaryCOMMENTJun 07, 2017

Last couple of years they were positive, which was a big surprise. More often than not, we usually get negative returns in September. Now we have the midterms. If you look back all the way to 1945, the average decline during a midterm session is ~1.3%. 

Moral of the story is:  Buckle up!

His team has entry points for stocks, and they have price targets. They find that if you stick to the knitting, it'll prove out. Over the last 4-5 months the market has been in a band, albeit a wide one. It can drive you nuts, but it also provides some opportunities.

They stick to the knitting on single stocks, and then they have a hedge overlay to add some value/alpha to portfolios. If you look at the NASDAQ futures, they've traded in a range between 31,000 and 27,500. When they approach 31,000, you sell some futures. His team is always fully invested in the single stocks, and they try to add value by hedging. It works, until it doesn't :)

It was only 4 years ago when MSFT put $10B into OpenAI. Over those 4 years, it was all about agents and chatbots for software companies. But then everyone thought that the large language models were going to eat the lunch of the SaaS companies.

Over the last 12 months, this agentic AI (like an army of agents, rather than individual) has come to the front. If you can control that army to solve the puzzle or build the house or whatever, it's pretty powerful.

The Canadian AI equity story is real, but different. In the States it's all about the AI ecosystem, and sitting at the top of the hill are the hyperscalers.

In Canada, it's more of a multi-theme portfolio rather than a single AI stock or ETF. It's more about the infrastructure enablers. We don't really have hyperscalers here, but we have some fantastic enablers. Think of CLS. The poster child for industrial AI software is SHOP. We also have power and data centre beneficiaries, such as ENB, FTS, EMA, and H.

You can drill down further into space and defense AI. The first one that comes to mind is MDA.

A bit, but we have to take stock of where we are. The market, in and of itself, is not actually all that expensive. This equity market has been driven by fundamental earnings growth. 

The recent damper has been the belief that the Fed may not be hiking enough, inflation's getting a bit out of control, and long-term bond yields are moving higher. Along with all the geopolitical stuff going on.

Take a step back. Mid-teens growth in equity markets as a whole, and pretty broadly distributed. If this were December 31, we'd say it's been a pretty good year.

There's a lot of stability at the top, but a lot of volatility underneath. Some of the biggest companies are being held back, while the bottom 300-400 companies in the US and globally have seen relatively good acceleration in the last few months.

That volatility underneath is the opportunity.

Generally speaking, it's the bigger companies that are more of an opportunity than potential risk today. What we used to call the big FAANG stocks are relatively cheap for the growth profiles that they offer. 

One reason could be concerns that the AI overbuild is too much and there will be breakthroughs in the future. That type of uncertainty has caused the mega-caps and giga-caps to lag where they should be from a fundamental basis.

Growth in mega-caps has actually been accelerating, but the belief is that acceleration today means a growth cliff in the future. How much time is there for AI? How much time is there for semiconductor stocks to feed into AI?

NVDA saying they're going to grow from 50% to 70% next year makes it one of the cheapest, high-margin stocks on the market. It's trading at 11x PE because people believe that 2029 will see growth fall off a cliff.

In the context of a global, diversified portfolio, these wouldn't cross his radar at the moment. In the context of having to own a bunch of stocks in Canada, his firm owns as little a weighting in banks as it possibly can.

If you look at any of the Big 6, they trade at 25-year highs on valuation. Our economy is up and down, largely driven by stronger energy exports for the time being. Canada doesn't have the most constructive economic backdrop. Banks have been pressing the pedal on loan growth last quarter.

Basically, they're priced for perfection. Due for a 20% correction? No, because bull markets don't die of old age. Forward return expectations from here for most, if not all, the bank stocks are exceptionally low.

Be happy with the dividend, and don't expect the stock price to move all that much.

Yes, if this was a conversation about JPM. No, if we're talking about the Canadian banks. If the Canadian banks were to have massive job cuts, that'll be a problem to navigate politically. You can't have banks firing tens of thousands of people in Canada when employment's really weak. It would be really bad optics.

The sector enjoys a very cosy, highly profitable oligopoly in Canada. You don't want to risk aggressive job cuts. To do so would be penny wise, pound foolish. He acknowledges that our banks are probably not the most efficient, especially compared to those in the US.

The rotation began in mid-June as the momentum stocks took it on the chin, rotating into materials and healthcare and coming out of utilities, especially the last 6 weeks. Seasonally, September sees weaker performance. Then there is the US election this making. The environment is weaker. But we saw strong growth in corporate earnings, and saw a correction in tech. Will there be more rotation? Higher valuations are a concern, but bull markets don't end on valuation--there needs to be another catalyst to end a bull market. Some tech names now have lower valuations and look attractive. He's looking at materials (Canada) and healthcare (US).

He liked the speech last Friday by new U.S. Fed chief, Kevin Warsh. He did a good job guiding the market and not guiding it. He wants to be less transparent than the previous chief, not to be handcuffed. He expects more uncertainty and volatility, which is not a bad thing. There's coordinated interest in keeping the cost of financing US debt as low as possible. Expect the bond market vs. the US government in who wins, and will add volatility. The Fed should not hike, especially if there's another month of soft employment. Raising rates won't fix inflation, which is caused by AI capex, Congress' spending and the US-Iran war propelling oil prices. He sees a fiscal cliff coming, endangering growth in 2027-8. What matters are employment numbers and consumer spending.

He compared crude oil futures and CPI US charts. When oil rises, so does CPI and both decline together. Now, the US-Iran is a maor inflationary factor. Add to that less globalization as Trump tariffs the world. The new US base inflation rate will be higher than the targeted 2.0%, like 2.5-3%. It will be tough to reach 2%. The street bets that there's a 51% chance that the Democrats will win the Senate, though likely the Dems will take the lower House without problem. He predicts Trump will stop Iran from having nuclear weapons, which could be ugly but temporary. He's looking at the the WAR and JEDI and XAR ETFs for defence as trades. In a lame desk presidency, Congress will spend less and slower economic growth. This is positive to manage the deficit, help interest rates to decline and for bonds, more than for stocks.

Plan on the Iran war not being solved in the short term. Your investment strategy should reflect this. Alternate sources of energy are needed in the world - expect shortages in Europe. Defnese spending is a major theme in Canada and the world with NATO committing more money. Increasing amounts of capital are being directed towards Canada and active procurement is already happening, Canadian companies are receiving much more business from the Canadian government in defense spending initiatives, There is $500 billion of wealth creation and everyone should read the Industrial Strategy Document which explains how government will be deploying capital until 2035.