James Telfser

Absolutely. When you look at some of the performance numbers that have come out over the past few months, despite the rally, the Russell 2000 is still basically flat since the end of 2021. Still lots of room for companies within that index, and certainly Canadian small caps as well, to catch up on valuation appreciation and fundamental appreciation alone.

He's still optimistic about this sector. Q2 earnings for this group are going to be quite dramatic. He's expecting north of 15% EPS growth at the index level, which should provide an extra tailwind there.

Certainly that's part of it. That's part of a secular trend that's going to continue for technology. 

But what really happens is that there's only so much money to go around. So when large-cap stocks, and tech stocks in general, are taking a lot of capital in, that takes money from other areas of the market. We're seeing that with valuation depression in a lot of the small-cap names.

So if that rotation happens a bit (think big pension funds and institutional managers), capital is going to start shifting away from the larger-cap stocks into some of these more depressed areas of the market. When you get these dramatic moves in the market, it usually marks a shift change. Compared to the S&P 500 and the NASDAQ, the Russell 2000 is seeing the greatest outperformance since the 1980s.

Even more encouragingly, we're clearly in an environment of loosening financial conditions. We saw this with the Bank of Canada yesterday, and we're seeing it with central banks around the world. If you look at when small caps started to underperform, it was when interest rates started to go up. So interest rate certainty is very important to this subset of the market, because they have more variable debt and more debt on their balance sheets.

Finally starting to see interest rate cuts. He feels that these cuts should have been a bit sooner, based on the data he was seeing. Nevertheless, it's encouraging. If you look at the next few meetings, north of 70% probability of more cuts is what the bond market's pricing in. Likely to see more cuts as the year progresses. Hopefully, the economic data doesn't fall too much off a cliff between now and those meetings. 

Should be a tailwind for a whole bunch of sectors that have been struggling over the last year -- REITs, utilities and telcos. It's a broadening of breadth, not just in small caps, but in areas of the market that haven't been feeling much love since tech stocks started to take off about a year and a half ago.

Based on the data he's seeing, he expects the BOC to cut again on September 4. And that's built into the markets as well.

Not surprising. Lots of high-quality, public assets trading at significantly depressed valuations. It's encouraging. Likely to see more, and the premiums have been pretty nice.

It really comes down to the credit markets in this environment being quite robust. Credit spreads are quite tight. And now you have the benefit of more interest rate certainty. A survey would likely show a belief that interest rates are going to be lower a year from now, not higher. This creates a catalyst for companies to make a move.

A second big theme is that we know that private equity is a massive asset class, with more and more money going there. So a lot of capital is sitting on the sidelines, ready to be deployed. That's why we're seeing private equity come in and buy these assets, probably still at pretty good prices given the underperformance we've seen in the space. Doesn't see this aspect changing anytime soon.

A third thing, not much talked about, is that public market costs have actually gone up quite a bit. In this regulatory environment, it's expensive to be a public company, which takes substantial capital away from the business itself. Stripping that out becomes a meaningful synergy to the buyer.

Buy high-quality, small- and mid-cap stocks, especially in Canada. Lots of great assets trading at depressed prices. Take a barbell approach in your portfolio -- have some large-cap or ETF coverage, but start to sprinkle in some of these higher-quality smaller-cap names, and you might get a nice premium over the next year or so if they're acquired.

He has a lineup of stocks where he thinks there's a high probability of this happening. But if not, you want to make sure you own high-quality names where the fundamentals will help the multiple expansion.

Not the most exciting until you look under the hood. Its M&A cadence is picking up with more deals done recently. Stable business with long-term contracts, recurring revenue. Hospitality, but also healthcare. Finally starting to see more volume since Covid. Great business, generates a lot of cash, yet trades at only 6-6.5x EBITDA. Right in the crosshairs of private equity.

Once it makes an acquisition, it can use its size, scale and know-how to grab more contracts from that geographic area. Don't forget -- they have to pick the stuff up and then deliver it after they clean it. That know-how is really valuable, and they can do it at quite a margin. 15-20% EBITDA margins on contracts.

Not a lot of Canadian REIT takeovers yet. Maybe that's coming. As we get more interest rate certainty, we should see a lift in the valuation. A lot of them are quite undervalued. These names will appreciate in value as interest rates come down and people get more comfortable owning that sector.

Operates in malls, which makes everyone run for the exits. Operates in centres such as Kelowna, Guelph and Halifax. Places where there's only 1 mall, and nobody's building malls. So they have lots of power as landlords about who they'll accept as tenants, along with pricing power.

Very high quality. One of the best REITs in the whole sector. Trades at 40% discount to NAV.

Telecom's the only sector that's done worse than REITs this year. Headwinds of competition, interest rate sensitivity, dividend. Doesn't think dividend will be cut, lots of levers it can pull. If you own it for yield (and it's tax-efficient yield), you'll be OK. Yield is in 7.5-8% range.

Not a bad place to be as interest rates are decreasing. May not get a lot of dividend hikes over the next few years. If you want long-term capital appreciation, not an area he'd focus on. Sometimes it's worth it to sell, take the tax loss, and recycle the proceeds somewhere else to make money (into REITs, for example).

Should do well. Consistently compounds capital for investors. Way more shareholder friendly with buybacks, dividend increases, and debt paydown. Valuation still quite reasonable, given what it is. 

As inflation expectations go up and down, investors are positioning their portfolios for one or the other. On the deceleration trade, people are selling materials and energy stocks. A bit of a headwind between quarters, as the trade becomes more macro-focused. Keep holding. It's all just noise and volatility.

The numbers are phenomenal, and should be for next few years. You'll see the highs once again as things settle between the different strategies that investors are deploying.

Good place to be. One of the top-performing REITs in the space. Lots of tailwinds in the sector, especially after Covid. High on the list of companies that pensions or private equity may take private.

Good place to be. Lots of tailwinds in the sector, especially after Covid. 

Interesting ETF to get broad exposure to small caps. Have to always be really careful with the small-cap ETFs because you end up owning a lot of low-quality stocks. He focuses on high-quality names. Make sure you don't just blindly buy these indices, as you're going to end up owning a whole bunch of stocks that you probably wouldn't own individually in your portfolio. 

For example, he remembers looking at IWM a few years ago and Plug Power was in there. It was a dog's breakfast then, and he thinks it's going bankrupt now or close to it. 

So he'd focus more on specific stock names. They tend to move along with the indices, but you have more control over whether you want to own them or not.

Interesting ETF to get broad exposure to small caps. Have to always be really careful with the small-cap ETFs because you end up owning a lot of low-quality stocks. He focuses on high-quality names. Make sure you don't just blindly buy these indices, as you're going to end up owning a whole bunch of stocks that you probably wouldn't own individually in your portfolio. 

For example, he remembers looking at IWM a few years ago and Plug Power was in there. It was a dog's breakfast then, and he thinks it's going bankrupt now or close to it. 

So he'd focus more on specific stock names. They tend to move along with the indices, but you have more control over whether you want to own them or not.

A high-quality, small-cap name in Canada to look at.