Five things you should fo­cus on dur­ing shift to slow­ing econ­omy

Op­por­tu­ni­ties can still be found ahead of po­ten­tial re­ces­sion, Peter Hod­son writes.

Windsor Star - - FINANCIAL POST -

One of the most im­por­tant things to watch for as an in­vestor is when there is a mar­ket or eco­nomic “shift.” A shift from growth to value, for ex­am­ple, can be dev­as­tat­ing to you if you are loaded up on high-tech growth stocks. Sim­i­larly, a shift in in­fla­tion can to­tally kill an in­vest­ment plan. We may be en­ter­ing a shift in the econ­omy right now. Firms are guid­ing to lower growth. Stocks have been weak. The mar­ket is in a slow train-wreck crash. The Fed even has in­di­cated the eco­nomic party may be wind­ing down. So, what to do? As al­ways, time frame is im­por­tant, and diver­si­fi­ca­tion will help you get through this. But there are also some spe­cific ar­eas to fo­cus on. Let’s look at five.

In­come stocks

Div­i­dend stocks re­ally got beaten up over the past year, as in­vestors an­tic­i­pated higher and higher in­ter­est rates. Even clas­sic “widows and or­phan” stocks such as BCE Inc. (BCE on TSX) and En­bridge (ENB on TSX) have fallen, down five per cent and nine per cent, re­spec­tively, this year. Sud­denly, though, in­vestors are now see­ing the end of rate hikes, with the Fed and the Bank of Canada con­cerned about slow­ing growth. Those in­come stocks ev­ery­one hated this year? They are likely to come back into vogue quickly. De­pend­ing on how the econ­omy plays out, div­i­dend stocks, REITs and roy­alty plays might do much bet­ter in 2019.

Don’t ig­nore growth

In a slow­down, growth will still be re­warded, but re­li­able growth is what in­vestors will be look­ing for. Heaven help those com­pa­nies who miss earn­ings ex­pec­ta­tions in this mar­ket. You can still be a growth in­vestor, but you need to be more care­ful. Look for com­pa­nies with strong bal­ance sheets, strong mar­ket share, and pric­ing power. Watch your val­u­a­tion mul­ti­ples. A growth stock at 75 times’ price-to-earn­ings is go­ing to be more vul­ner­a­ble in a weak mar­ket than a growth stock at 35 times’ price-to-earn­ings. Bet­ter still, look for a growth com­pany with a 20 times’ priceto-earn­ings val­u­a­tion.

Look for­ward

Re­ces­sions, even if one is about to start, are not usu­ally that bad. Right now, in­vestors are wor­ried about the in­verted yield curve, which has pre­dated al­most all re­ces­sions of the past 50 years, with only one false pos­i­tive. But what in­vestors don’t re­al­ize is that mar­kets, on av­er­age, have done very well dur­ing the pe­riod af­ter the first yield in­ver­sion to an “of­fi­cial” re­ces­sion. Look­ing at five re­ces­sions back to 1978, there was an av­er­age of 21 months from in­verted yield curve to a re­ces­sion, and the S&P 500 rose an av­er­age of 12.7 per cent dur­ing that av­er­age pe­riod. In 1988 to 1990 the mar­ket rose a solid 28 per cent even as the U.S. econ­omy lurched to­wards re­ces­sion. What does this mean to you? First off, don’t panic. If you want to change your port­fo­lio to be more de­fen­sive, you have lots of time. Sec­ond, maybe you don’t even need to do any­thing. Most re­ces­sions are very short any­way. Third, don’t ig­nore the mar­kets: There will still be lots of op­por­tu­ni­ties to make money, even in a lead up to a pos­si­ble re­ces­sion.

Sec­tors

In a de­fen­sive mar­ket, con­sumer sta­ples (think Loblaw, Pre­mium Brands, Sa­puto), util­i­ties (Al­go­nquin Power, Brook­field Re­new­ables) and tele­com (think the afore­men­tioned BCE, Telus and Rogers Com­mu­ni­ca­tions) tend to do much bet­ter. In a ner­vous econ­omy, in­vestors want the re­li­a­bil­ity of consistent cash flows and they want busi­nesses who may be re­ces­sion-proof. Af­ter all, who is go­ing to give up their cell­phone in a bad econ­omy? Even those per­haps soon-tobe un­em­ployed work­ers need a phone to se­cure a new job.

Qual­ity

As can be seen, painfully, from the cannabis sec­tor these days, now is not the time for in­vestors to gam­ble. When rates and/or the econ­omy changes, un­cer­tainty abounds. It is not the time to take a flyer on an overly val­ued, money-los­ing com­pany. Cannabis, blockchain, spec­u­la­tive min­ers, and so on, are not go­ing to per­form well in a weak mar­ket en­vi­ron­ment. When in­vestors are scared, smaller com­pa­nies get sold first. If you plan on raising cash, sell your spec­u­la­tive and small com­pa­nies first. These can get very ugly in a mar­ket de­clin­ing on eco­nomic wor­ries. This all sounds neg­a­tive, of course. There is al­ways a chance the econ­omy keeps grow­ing, and a “soft land­ing ” keeps the mar­ket on course for more long-term gains. Time will tell.

Fi­nan­cial Post

Peter Hod­son, CFA, is founder and head of re­search of 5i Re­search Inc., an in­de­pen­dent re­search net­work pro­vid­ing con­flict-free ad­vice to in­di­vid­ual in­vestors.

RICHARD DREW/THE AS­SO­CI­ATED PRESS

With the un­cer­tainty that comes along when rates and/or the econ­omy changes, it is not the time to take a flyer on an overly val­ued, money-los­ing com­pany, says Peter Hod­son.

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