Achi news desk-
It’s time to ask a rude question: Is Canada still worth investing in?
Before you rush to give an appropriate patriotic response, think about the matter for a moment.
A good place to start is the federal government’s announcement this week that it is forming a task force under former Bank of Canada governor Stephen Poloz. The task force will find ways to encourage Canadian pension funds to invest more of their assets in Canada.
Wooing pension funds has become a matter of high priority for Ottawa because, at the moment, these large institutional investors are not investing that much in Canada. The Canada Pension Plan Investment Board, for example, had just 14 percent of its massive $570-billion portfolio in Canadian assets at the end of its last fiscal year.
Canada’s other large pension plans have similar allocations, especially if you look beyond their holdings of government bonds and consider only their investments in stocks, infrastructure and real assets. When it comes to such risky assets, these big, sophisticated players often see more potential for good returns outside of Canada than at home.
This leads to a simple question: If the CPPIB and other sophisticated investors are not overwhelmed by Canada’s investment appeal, why should you and I be?
It’s not as if Canadian stocks have a record of exceptional success. Over the past decade, they have lagged well behind the juicy returns of the US S&P 500.
To be fair, other countries have also failed to achieve Wall Street’s glorious run. Even so, Canadian stocks have only had a mediocre record over the past 10 years even when measured against other non-US peers. They have trailed French and Japanese stocks and achieved much the same results as their Australian counterparts. There is no obvious Canadian edge.
There are also no obvious reasons to think that this middle-of-the-pack record will suddenly improve.
A generation of mismanagement by the two major political parties in Canada has resulted in a housing crisis and productivity growth at its knees. It has driven household debt burdens to alarming levels.
Policymakers seem unwilling to take bold action on many long-standing problems. Interprovincial trade barriers remain outrageously high, supply-driven agriculture continues to hide inefficient small producers, and tax policy still pushes people to invest in households rather than productive enterprises.
From an investor’s point of view, the situation is not that tasty. A handful of big banks, a cluster of energy producers and a pair of railways dominate the Canadian stock market. They are solid businesses, yes, but they are also mature industries, with less than exciting growth prospects.
What is largely missing from the Canadian stock scene are large companies with the potential to expand and innovate around the world. Shopify Inc. SHOP-T and Brookfield Corp. BN-T is eligible. After that, the injections become rare, especially in areas such as healthcare, technology and retail.
So why hold Canadian stocks at all? Four rationales come to mind:
- Canadian stocks have lower political risk than US stocks, especially in the run-up to this year’s US presidential election. They are also far away from the front line of any potential European or Asian conflict.
- They are cheaper than US stocks on many metrics, including price-to-earnings ratios, price-to-book ratios and dividend yields. Scored in terms of these standard market metrics, they are priced roughly in line with European and Japanese stocks, according to Citigroup calculations.
- There are some tax advantages to Canadian dividends and holding reliable Canadian dividend payers means you don’t have to worry about exchange rate fluctuations.
- Despite what you might think, Canada’s fiscal situation actually looks relatively benign. Many countries have seen an explosion of debt since the pandemic hit, but our projected deficits are not nearly as worrying as those in the United States, China, Italy or Britain, according to figures from the International Monetary Fund.
How compelling you find these reasons will depend on your personal circumstances. Based strictly on the numbers, Canadian stocks look like ho-hum investments – they’re reasonable enough places to put your money, but they fail to stand out compared to what’s out there globally.
However, Canadians have always shown an impressive fondness for home brewing. Canadian stocks make up only a small part of the global market — about 3 percent, to be exact — but Canadians typically pour more than half of their total stock market investments into Canadian stocks, according to the Monetary Fund International. It is difficult to justify this trend in the home market on any rational basis.
What is more reasonable? Vanguard Canada summarized the historical data in a report last year and concluded that Canadian investors could achieve the best balance between risk and reward by allocating only about 30 percent of their equity holdings to Canadian stocks.
This appears to be more or less in line with what many Canadian pension funds are currently doing. They have about half of their portfolio in equities, so allocating 30 per cent of that half to domestic stocks works out to hold about 15 per cent of their total portfolio in Canadian equities.
That modest allocation to Canadian stocks is a useful model for Canadian investors of all sizes. And if Ottawa doesn’t like it? Perhaps it could do more to make Canada an attractive investment destination.
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