I focused on some of the worst-performing Canadian Foundational Stocks in last week’s newsletter. It was eye-opening how well this list has performed over the last while. Despite being the 5 worst performing Foundational Stocks, 3 outperformed the S&P 500 Index.
The Toronto Stock Exchange has gone on a rock-solid run over the last while here after numerous years of underperformance. Canadian equities remain relatively cheap compared to their US counterparts. Despite a struggling economy, the best corporations in Canada continue to post outstanding results.
In this week’s newsletter, I will focus primarily on some of the best-performing Canadian Foundational Stocks and whether or not they still present opportunities despite relatively high share prices.
I didn’t make any portfolio moves this week, so I won’t spend much time discussing my portfolio. Let’s dig right into the stocks.
Loblaw (TSE:L)
Loblaw has been truly remarkable over the last 3-4 years. One could argue that no stock is more “boring” than this one. A company that has a dominant market share when it comes to one of the most critical elements of human survival, that being food.
The company’s 5-year returns of more than 260% are fueled by cost of living tailwinds. While many Canadians enjoyed the luxury of shopping at expensive grocery stores pre-pandemic, rapid inflation back in 2022 changed everything as more and more consumers looked to pinch pennies. Loblaw was in a perfect situation to benefit from that, having the largest “discount” presence in the country, as well as the widest reach.
Now, the main question from many investors is whether or not this run can continue. It is my belief that the shift in consumer spending habits, at least from a grocery standpoint, is permanent. I’ve even had a few friends who routinely shopped at places like Co-Op and Sobeys shift to No Frills and have a bit of a lightbulb moment. Something along the lines of:
“I didn’t realize how much money I could save shopping here. They even have some of my favourite stuff.”
There is little doubt that Loblaw has absorbed a significant portion of this shift in consumer habits. We can look below to a chart of their same-store sales growth to see this.
However, the company is generating a significant amount of free cash flow at this point in time, and it is investing heavily in its overall network. Not only will this broaden the dominant reach it already has, but it will allow it to invest in its current stores to make them more efficient, boost margins, and ultimately improve profitability.
You are not getting as good of a price as you would have got buying Loblaw at $70 a few years ago. However, I think the company’s ability to deploy capital at high rates of return (look to its history of share buybacks in the chart below) and cash flow generation should allow it to grow earnings at a double-digit pace for the foreseeable future. Not bad for a defensive grocer.
Constellation Software (TSE:CSU)
Constellation is an interesting one. One of the main bear cases against this company would be that it could run out of vertical market software acquisitions and have to expand into new markets. Over the last couple of annual general meetings, the company has spoken about this being an issue in the future.
If companies stray from what they’ve been good at for decades, the market tends to get spooked. However, Constellation has been remarkably resilient. Sure, the days of the 20%+ compound annual growth rates this company has put up over the last 15 years are likely over. However, that doesn’t mean it’s a bad investment moving forward. It is simply entering a business cycle of being more mature.
When we look to a chart of the company’s organic growth below, we can clearly see a decline from pandemic levels. This is simply due to the fact that the company has deployed an extensive amount of capital over the course of those years via acquisitions and is now having to deploy even more amounts of capital because of the increase in free cash flow.
This is one of the best management teams in the country in my opinion, and I believe they will be able to adapt and continually find ways to deploy free cash flow into new acquisitions. However, it is likely that returns moving forward are lower.
Don’t confuse “lower” returns with “poor” returns.
After all, even if this company can grow at half of the rate it has been used to over the last decade, it is likely to still outperform the S&P 500.
I am still a buyer of Constellation at these levels as a blue-chip technology holding with an outstanding management team. However, if you’re looking for outsized returns, I believe the spinoffs might present a little more upside potential, but they also come with added risk.
Intact Financial (TSE:IFC)
Although we’re only talking about the first 6 months of the year, the decision to replace Royal Bank, which I thought was a bit too pricey as of the end of 2024, with Intact Financial on the Foundational Stock List, looks to have been a solid decision.
In my opinion, Intact Financial is one of the best property and casualty insurers in North America. With a market share in the mid-teens, the industry is highly fragmented, allowing for a long runway in terms of overall growth.
Over the last 3 years, the company has nearly doubled in overall share price. One meaningful tailwind for the company was rising interest rates. Insurers have large portfolios in fixed-income investments that are heavily dependent on rates. This is because they need to invest capital collected from premiums in assets where the principal is guaranteed.
Ultimately, the higher interest rates are, the more profits the company generates from those investments, in turn boosting earnings. It is likely we see a slowdown in this as rates continue to decline. However, what the company does best, selling insurance, is the best part about this company.
It continues to post industry-leading combined ratios (premiums collected relative to claims paid out), and ultimately, an insurer’s success all boils down to its underwriting. Fortunately for investors, Intact Financial is best in class.
Is the company still a buy after a successful runup over the last 3 years? I would argue yes. Although the company is trading at a slight premium to its historical averages in terms of price-to-earnings and price-to-free cash flow, I believe operational results warrant this premium.
If we look to the expectations of double-digit growth continuing throughout 2027, the company trades at a PEG ratio of 0.88. Optimally, we want a ratio of under 1, with the lower ratio expressing deeper value.
At 0.88, I don’t think you’re getting a slam dunk deal here on Intact Financial, certainly not the deal you were getting back in late 2021 when the company was trading at $150 a share. However, good companies rarely ever offer “bargain” type pricing, and in my opinion, this is simply one you buy, hold, and forget about.
At least, that’s what I plan to do for the foreseeable future.
Franco Nevada (TSE:FNV)
After a relatively rough year or so due to the Cobre Panama mine issues, Franco Nevada has finally rebounded in a big way. This comes from improved operations and the skyrocketing price of gold.
If you’ve been following my portfolio, you’d know that I recently took a position in Franco Nevada. The general commentary I got from members was that I was a little late to the party. However, there are plenty of reasons to still like Franco today despite a large runup in price over the last while.
I prefer Franco Nevada over a gold miner primarily because of the lower dependence on the price of gold and the lack of exposure to the operating costs of owning/operating a mine. Although gold producers have larger upside if the price of gold were to continue to rise, Franco Nevada is likely not going to witness the same drawdowns if the price of gold falls.
In addition to this, the company’s pristine balance sheet (no debt and over $1B+ in cash) should allow it to continually make attractive deals at all-time high gold prices and lock in lucrative streaming/royalty agreements.
There is also the outside chance that the Cobre Panama situation does get resolved. The company has put this asset on the back burner and is under the assumption it will never come back. However, there is still a chance, and that development would have a material impact to the company if its operations do start up again.
If you remember, Cobre Panama made up 20%~ of Franco Nevada’s overall EBITDA.
This situation is more speculative in nature for me as a position. I’m buying Franco Nevada because of the current underlying business. If Cobre comes back online, it will be the cherry on top that will likely send shares much higher than they are today. However, I’m really not banking on it.
I plan to continue to accumulate Franco shares over the next 6~ months or so and build out a core position to hold indefinitely.
Fortis (TSE:FTS)
Fortis is one of the lesser-talked about companies here at Premium. This is mainly because the company doesn’t give investors much to talk about. With 99%~ of its earnings coming from regulated utilities, the company almost never surprises investors, and the movement of its stock price largely falls on the fluctuations in bond yields and interest rates.
The company is up nearly 10% year-to-date and, throughout the last year, has returns in excess of 28%. I had expressed patience when it comes to Fortis for a long time, especially during the higher rate environment throughout 2022/2023, and those who accumulated at the lows are being rewarded now.
The value gap for Fortis has mostly closed. In early 2024, this company traded as low as 16x earnings, a 16% discount to its 10-year historical average. It has reverted back to historical averages, around 19.5x expected earnings.
How Fortis performs moving forward will largely depend on the state of the economy and the attractiveness of fixed-income investments. It is a company that will see outflows when the cost of debt is high, and inflows when rates start to trend downward and investors gravitate toward a slower-growing utility with an attractive dividend yield.
The company should be owned as a defensive buffer in a portfolio to reduce overall volatility, not with the objective of outperforming the market. Although it has done so over the last year or so due to declining rates, I don’t expect it to put up 25%+ years at this point in time. I more so expect it to grow in line with earnings, which should be in the 4-5% range, all while offering a relatively attractive 4%~ dividend yield.
Overall, it’s been a strong start to the year for the Canadian Foundationals
This list has been the cornerstone of many member’s portfolios, and over the last 5 years, it has provided rock-solid returns. My own portfolio contains 7 of the 11 Foundational Stocks, and if it wasn’t for my need for more US exposure as a percentage of my total portfolio, I’d have no problem owning all of them.
Outside of maybe Canadian Natural Resources, which is a company that is likely a tad too cyclical for a simple set-and-forget hold, most of these companies offer the flexibility of simply buying them and forgetting about them, continuing to add at routine intervals.
Yes, there will be ebbs and flows, much like any other stock on the market. However, simply taking a long-term approach to our portfolios helps us reduce the emotional mistakes we are prone to make.
Plenty of investors could have been frustrated with the multi-year flatline Fortis went through in 2023/2024 as a result of rising rates, for example. If one were to have overreacted and sold the company, they would have missed out on the subsequent 25%+ runup it has gone through in the last year.
Know what you own, why you own it, and simply hold for the long term.
