Essay

FOLLOW THE LOONIE

Surprise! Canada’s stock market is a global star.

DONALD COXE August 16 2004
Essay

FOLLOW THE LOONIE

Surprise! Canada’s stock market is a global star.

DONALD COXE August 16 2004

FOLLOW THE LOONIE

Surprise! Canada’s stock market is a global star.

Essay

DONALD COXE

AFTER TWO YEARS of weekly communications with you, I’ve moved to a different format. This is an agreeable arrangement for me and, I hope, for you. The column is meant to give a Canadian expat’s view of events that drive prices of investments on Wall Street as well as on Bay Street. Although I’m a Canadian, I’ve been making my living in the U.S. market for 17 years, so it makes sense to leave week-by-week discussions of the people and

companies in the Canadian business community to someone who lives there.

In my experience, one of the most widespread delusions in the financial community is that one can be, on a sustained basis, a real expert in a foreign market without living and working there. When I was in Waterloo, Ont., managing the U.S. equity component of Canadian pension fund portfolios, I told myself I really understood the American market—and I did manage to achieve satisfactory results. But after I moved to Wall Street, where I was surrounded by people who lived and breathed U.S. stocks, I found out how superficial my knowledge really was.

What someone who reads very widely can do is get a sense of the comparative values of the major stock markets of the world. Although markets tend to move up and down together, they move at differing paces in response to local situations and the movements of capital in and out of those markets. Most importantly, by reading earnings and economic statements from around the world, one can see trends in the global economy, and then look at the impact of those trends on national markets. If technology is hot, for example, everyone knows that Nasdaq will be on the boil. But so will South Korea’s Kospi index, which includes Samsung, the hottest consumer electronics stock in the world, and Singapore’s exchange, which includes other leading technology manufacturers. When commodities are strong, as they have been for most of the past two

years, the Australian, Canadian and South African markets draw global attention.

Extraordinary investment opportunities often come when the locals are in a funk about their stock market and currency. This usually happens when a stock market and/or currency have long been underachievers, and the locals get stuck in a “grass is always greener on the other side of the fence” attitude, thereby missing the improved relative value of their own market against their neighbours’—and the rest of the world’s.

I vividly remember how discouraged Canadians became about the loonie and domestic stocks during the late 1990s. Many prominent Canadians were calling for Canada to abandon the loon and beg Americans to let us adopt their dollar. That was the time when the whole world wanted to invest in the greenback, the currency of the magic money machines called “The New Economy.”

At the time, Canada had a strong economy, plus budget and trade surpluses, along with high flyers such as Nortel and JDS Uniphase, but Canadians-particularly Canadian pension fund managers—were

INVESTMENT opportunities often come when the locals are in a funk about their stock market and currency

eager to move as much money as possible into the U.S. The pension fund industry pleaded with Ottawa to raise the foreign content limit on pension funds (and RRSPs) above 30 per cent. Its spokespeople, backed by some think tanks and media, had slick presentations showing how much more money was made by investing abroad, particularly south of the border.

Canadians should thank then finance minister Paul Martin for standing firm. Since then, the Canadian stock market has been the strongest in the industrial world, delivering average annual returns of 4.56 per cent for the five years since June 30, 1999. Australia was second at 3.16 per cent, and the U.S. was in the middle of the pack at a negative 4.41 per cent, the same as Singapore.

There’s more: the numbers are in local currencies, so for an American investor, the annual returns from Canada are around 6.5 per cent, because the loonie rose roughly 10 per cent against the greenback in that

period. An American who sold out of the U.S. market and moved all her money to Canada would have increased her wealth by about 55 per cent over five years, instead of losing nearly one-quarter of her wealth by staying in U.S. stocks. A Canadian who succumbed to all the propaganda about “The New Economy” and moved her wealth into the S&P 500 would have lost almost 20 per cent of her stake.

When people ask for a quick statement of a personal goal in wealth-building, I offer: “This year and every year I shall increase my share of the total wealth of the world.” That means being in a strong currency is almost a prerequisite for meeting the goal, because the distribution of the world’s wealth changes in response to changing currency values. Americans are collectively poorer than they were in the year 2000, mostly

because of Nasdaq’s collapse and the resultant bear market for equities that triggered a recession, but also because the U.S. dollar has fallen in value against such important currencies as the euro, the pound, the Swiss franc and, of course, the currency of its biggest trading partner.

First question: are you surprised by these statistics, or have they been trumpeted in the Canadian media?

Second question: have the pro-greenback elites publicly recanted?

That Australia had an even stronger currency in the past five years is a clue to what pulled the loon from her dive. The world’s economic growth, which had for years been fuelled by cheap oil and cheap food, ran out of its cheap supplies. The recovery from the U.S. recession of 2001 has faced the headwind of commodity inflation, most importantly in the price of oil. Canada and Australia are exporters of oil, gas, metals and agricultural products, so they are winners from this new kind of global economy, in which the voracious demands of China, and, to a surprising extent, India, have sent prices of raw materials to immensely profitable levels for producers who were struggling to survive during the 1990s.

To understand why the S&P/TSX composite has been a global star, look at the weightings of the commodity groups on Bay Street, compared with their weightings in the S&P 500: oil and gas 14.3 per cent as opposed to 6.9 per cent; base metals 5.9 per cent vs. 0.38 per cent; gold 5.7 per cent vs. 0.17 per cent; paper and forest 1.9 per cent vs. 0.51 per cent. Canada has wealth that’s been under the ground for millions of years, plus the forests that came after the last Ice Age. The most extreme contrast is Singapore, whose wealth is in the form of disciplined, educated, hard-working people. Canada is reaping its natural treasures, and if it can acquire more of the work habits, incentives and discipline of the Singaporeans, then it will be even richer after the treasures are gone.

In the meantime, that imbedded wealth will keep global investors buying the loonie and Canadian stocks. Enjoy. lifl

Chicago-based Donald Coxe is Global Portfolio Strategist, BMO Financial Group. dcoxe@macleans.ca