Dropping Company Coverage
We are dropping coverage on Fiera Capital Corp (FSZ). FSZ has a high sensitivity to interest rates and housing, and the weak capital markets over the past year have put downward pressure on its assets and earnings. The company’s balance sheet and cash flow have seen a material deterioration in the last year, and with most of its revenue growth stemming from acquisitions, its declining stock price will give it a higher cost of capital, making new acquisitions less attractive. We believe there are other attractive opportunities in the market, and due to its deterioration and highly leveraged balance sheet, we are dropping coverage.
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Report Updates
We have posted report updates on CCL Industries (CCL.B), Telus International (TIXT), AG Growth International (AFN), and Dye and Durham (DND). CCL Industries manufactures and sells packaging and packaging-related products, TIXT operates as a digital experience designer that builds and provides solutions for global and disruptive brands, AFN is a leading provider of equipment solutions that support the efficient storage, transportation, and processing of food, and DND operates as a cloud-based software provider targeting the legal and financial industries. One company has recently increased its dividend, another is actively involved in buying back its shares, another has seen a slowdown in organic growth, and the fourth company has seen strong sales growth but is focused on reducing its leverage ratio. We have downgraded one of the company's ratings. We feel that these reports are worth taking a look at.
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Investor Sentiment Survey
Thank you to all of those that have participated in our investor sentiment surveys thus far. We feel that these surveys have added value to our thought process on the current investment landscape, and we hope that you all have felt the same.
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Let us know how you are feeling about markets and the economy by following the link below! We will let you know the results in our next market update.
Investor Sentiment Survey
Market Update
The US markets have been moving higher over the past few weeks, while the Canadian market has stagnated. There has been a noticeable move in the US small-cap space, as these names attempt to catch up to the significant move in US large-cap equities. US headline inflation was released, with a 4.0% year-over-year increase, slightly below expectations, marking a long consecutive streak of disinflation. Investors are awaiting the Federal Reserve's interest rate decision tomorrow. The weakening of the US dollar has pushed gold prices higher, and oil prices have begun to see a slight rebound in recent days. In this market update, we aim to dissect the recent uptick in Canada's inflation and what the path of future inflation prints might look like.
Canada’s Inflation Prints and Interest Rate Hikes
There has been a lot of uncertainty and doubt surrounding Canada’s latest inflation print of 4.4% as well as the Bank of Canada’s recent decision to continue hiking interest rates, but let’s take a look under the hood at what is truly going on with Canada’s recent inflation print and where we can expect inflation to go from here.
Inflation is simply a year-over-year reading, and so if the prior year’s reading has a high 'base', then the year-over-year % is expected to be low. Whereas a low base implies that the reading could be high. This means that it is simply a division equation, where if the denominator (prior year’s ‘base’) is high, then the inflation reading should be low, and if the denominator is low, then the inflation reading should be high. Let’s look at an example of this using Canada’s CPI data. The 4.4% reading for April 2023 was a result of the April 2023 CPI value of $156.4 divided by the April 2022 value of $149.8.
A ’High’ or ‘Low’ Base
Now, how do we determine if the prior year ‘base’ is high or low? We can look at the month-over-month percentage changes in inflation to determine whether a base is ‘high’ or ‘low’. When the prior year’s CPI data showed a high month-over-month percentage change, this is considered as a ‘high’ base, vice versa for a low month-over-month percentage change.
Given this, we can see that the months of March and May of 2022 were periods with a high base, and therefore the CPI readings for March and May of 2023 will exhibit a relatively low headline inflation print. In this example, we forecast a 0.7% monthly change in CPI for May and June of 2023, which provides us with a forecasted headline CPI reading of 3.7% for each month.
Now that we know March and May of 2023 will exhibit relatively low inflation readings due to the prior year high base, this means that the periods adjacent to those months will have a relatively high reading because their bases are low. This partially explains the recent jump in inflation to 4.4% in April, since the prior year period had a low base (April 2022 was a relatively lower reading compared to the high reading from March 2022). This means that we can expect a relatively low reading for May 2023 given the high base in the prior year, and a relatively high CPI print for June 2023 given the low base of June 2022.
Breaking Down the Inflation Story
We feel that the inflation story of 2022 to 2023 can largely be broken down into two main components: the tough months from January to May of 2022, and the relatively easy months from June 2022 to the present. On average, the tough months saw month-over-month percentage changes of 1.1% - which are abnormally high stints of inflation. The easy months have seen an average month-over-month change of 0.3%, representing an annualized rate closer to ‘normal’.
Modeling Future Inflation Scenarios
We have used the average month-over-month change of 0.3% that has occurred over the past ~1 year and modeled future inflation scenarios around this. If we see an inflation print for May and June 2023 that resembles the past years’ average month-over-month change of 0.3%, we can expect a CPI reading of 3.3% and 2.9% for May and June, respectively.
If we see a month-over-month change that is higher than the past year’s average but in line with the most recent months, inflation can come in at 3.7% for both May and June.
A hot reading of a 1.0% month-over-month change for May and June will result in 4.0% and 4.3%, respectively, and a very cool print of 0.0% monthly changes for May and June will result in 3.0% and 2.3% for May and June, respectively.
To achieve the annual target inflation rate of 2.0%, a consistent 0.2% monthly change will be required. This signals that we are getting close, but there is still some work to do.
Overall, we expect the scenarios highlighted in red in the above graph to be the most likely for May and June, both resulting in inflation readings below 4.0%, a welcome drop from the recent reading. While we are getting close to the 2.0% target inflation reading, we feel that there is still some cooling required for the month-over-month percentage change average to reach 0.2%, and this is why we feel the Bank of Canada continued its rate hiking schedule. While not fully out of the woods, we feel that the ‘hot’ inflation reading of 4.4% for April was more a result of a high prior year base, and the low base of May should help to ease investors’ fears around the potential for accelerating inflation.
Best wishes for your investing!
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