Tariffs have been a hot topic for investors over the last few days. For the very first time, our largest trading partner planned to impose a tariff of this magnitude on goods and services between the two countries. Specifically, the U.S. plans to impose a 25% duty on Canadian goods, while energy imports will carry a lower 10% duty. Investors are concerned with how this policy could affect the companies’ earnings in their portfolio and the economy as a whole, as well as how investors can position themselves defensively in this environment. This blog will address some of those questions, along with some suggestions on which sectors investors could hide out that are less affected (or immune) by this.

 1.     Banks and consumer financing companies

Tariffs are expected to have an immediate effect on the Canadian economy, which is currently in a weak shape. The additional shock from tariffs could easily push the economy into recession. An economic recession could negatively affect the credit quality of consumers and businesses. Consequently, these events may lead to an increase in the delinquency rate of financial institutions, negatively affecting banks’ earnings as a group. Although we don’t see this scenario playing out immediately, we think this is something investors can keep in mind in case tariffs happen for longer than expected.

Companies that are impacted: large Canadian banks and consumer financing companies consisting of RY, BNS, CM, BMO, TD, GSY, and PRL.

 2.     Industrials

The two sub-sectors within the industrials that are directly affected by tariffs include transportation and manufacturing. Tariffs could lead to a trade war, which means less economic activity between borders. This situation could lead to a weak shipment volume growth or decline among Canadian operators in the transportation industry. In addition, fewer goods moving back and forth between Canada and the U.S. could negatively impact the productivity of Canadian manufacturers as these are high fixed-cost businesses that need certain volumes to achieve profitability.

Companies that are impacted include:

• Transportation: CP/CNR, TFII
• Manufacturing: ATS, WSP, HPS.A, CCL.B

 3.     Materials

Not all the companies within the materials sector would be heavily impacted by tariffs. For example, gold, in particular, would not be affected that much by tariffs due to a main focus on the domestic market.

On the other hand, in some other industries where Canadian producers have a relative advantage compared to U.S. producers, such as lumber or steel. The fact that the U.S. imposes tariffs on those industries could make Canadian producers struggle to grow and maintain market share, as well as profitability.

Companies that are impacted: DRX, WEF, ADN.

 4.     Discretionary

Some of the consumer discretionary products/services are directly imported/exported to the U.S. market. In addition, some companies have been in the process of expanding their market presence in the U.S. market; tariffs could be a near-term headwind for such businesses, as it made Canadian products less competitive relative to U.S. brands.

In addition, Canadian manufacturers in some industries, like automobile components, rely heavily on U.S. customers (large automobile brands) as a key part of the supply chain. Going forward, tariffs could create incentives for the automobile industry to move production sites and jobs from Canada to the U.S.

Lastly, a lot of consumer products are imported from U.S. brands. Consumers are going to see either higher prices across the board or less choice. Higher costs for consumers could discourage consumers from spending less on certain categories in the near term.

Companies that are impacted: DOO, MG, LNR, CTC.A, ATZ, ATD, PBH.

 5.     Where can investors hide out 

Of course, not all companies would be affected by tariffs, and there are some niches in the market that are not affected that much because of this political noise. Those players are companies that focus on the domestic market and have less exposure to the U.S. as their key operating segment or suppliers; those companies could still do just fine in this environment including:

Financial names: X, IFC, BN, FFH

Gold exposure: FMV, WPM

Utilities: CPX, FTS, H

Technology: CSU, VHI

 6.     Conclusion

We do not mention all the names within the industries mentioned above given the scope of the blog. In addition, we tend to comment on companies that are either dominant players in that particular industry or we cover in our Model Portfolios and coverage lists.

Overall, these are classic political moves. Although anything could happen, we don’t think the 25% tariff policy would be the case, given the economic damage that would cause for the two nations. That being said, the possibility of a 10% tariff could be a possibility.

On the other hand, despite the importance of tariffs on the economic landscape, this is largely noise, and we don’t think investors should base their investment decisions solely on it. A few other key questions that are related to the companies’ fundamentals, including valuations, growth prospects, competitive position, balance sheet, etc., should be the key factors to consider. At the end of the day, stocks are real companies that have been and are expected to be in business for many years going forward. The near-term challenges for earnings growth do not affect companies’ value that much for businesses that could last decades.

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Disclosure: The analyst(s) responsible for this report do not have a financial or other interest in the securities mentioned.