Expert opinions on unfamiliar small-cap Canadian stocks should make investors want to take notice.
Given that smaller companies tend to be followed by fewer analysts and professional money managers, perhaps investors can benefit from knowledgeable insight.
RBC Dominion Securities suggests investors can indeed benefit and it has an impressive track record to back up the claim.
In a quarterly update to its Small Cap Conviction List, consisting of 20 stocks with a market capitalization of less than $2-billion each, RBC reviewed its track record.
In its list published in the previous quarter, its stock picks rallied 9.3 per cent in the second quarter of 2018, versus a 6.8-per-cent return for the S&P/TSX SmallCap Index Total Return and a 6.5-per-cent return for the S&P/TSX Composite Index.
Longer-term performance is more impressive. Since RBC began publishing its list in July, 2013, their picks have delivered a gain of 125 per cent, including dividends. That’s significantly better than the 44-per-cent total return for the small-cap index over the same period, and it’s more than double the 58-per-cent total return for the composite index.
Intrigued? RBC highlighted four stocks that should benefit from key catalysts in the third quarter. Target prices are for the next 12 months, but analysts expect particularly strong results within three to six months.
Enercare Inc., which was called the Consumers’ Waterheater Income Fund before 2011, has been expanding its water heater and HVAC rental services in the United States, following its 2016 acquisition of Service Experts. The expansion should provide greater earnings visibility for Enercare and raise the earnings multiple on the stock. Analysts expect the shares can rally 45 per cent.
Héroux-Devtek Inc., which manufactures aerospace parts (it specializes in landing gear), has been expanding through acquisitions and organic growth. In February, it agreed to buy Beaver Aerospace & Defense Inc. for US$23.5-million, enlarging its North American footprint. Analysts believe Héroux-Devtek can increase sales by more than 55 per cent over the next three years, while expanding margins as well. They expect the shares can rise 32 per cent from current levels.
Neo Performance Materials Inc. produces rare-earth and rare-metal-based engineered materials used in emerging technology. Since its initial public offering in December, 2017, the shares haven’t done much, but analysts are optimistic: Neo is in the right place amid an industry focus on electric vehicles and automation. Analysts expect the shares can rally 50 per cent.
Osisko Gold Royalties Ltd. is improving its free cash flow and has about $500-million in available liquidity, which suggests the precious-metals royalty company can make additional acquisitions (last month, it added a silver streaming interest from Falco Resources Ltd.). Analysts expect the shares can rise 46 per cent.
But before you rush out to buy these stocks, or any others on RBC’s list, a couple of caveats are in order.
First, RBC’s success with its list in the previous quarter was largely due to several standouts among its picks. Among them, Great Canadian Gaming Corp. surged 42 per cent in the second quarter, Arizona Mining Inc. rose 52 per cent and Dalradian Resources Inc. rose 50 per cent − which raised the overall average.
If you had invested in these picks or the entire list of companies, you would have done well during the quarter. But picking just one or two stocks brings the risk of a misfire: Seven stocks in the list actually declined during the quarter.
Second, evidence the small-cap market is easy to beat is mixed, at best. The SPIVA Canada Scorecard, a report on active mutual funds published semi-annually by Standard & Poor’s, pointed out that in 2017 just over 6 per cent of small- or mid-cap equity funds outperformed their benchmark during the year, which is dismal.
The five-year performance is better: 40 per cent of funds outperformed, which tops most other fund categories. For example, just 18 per cent of Canadian equity funds outperformed the S&P/TSX Composite Index over five years, and 2 per cent of U.S. equity funds outperformed the S&P 500.
Nonetheless, 40-per-cent success is only so-so. Small-cap stock picking, even among the pros, is hardly a sure thing.
The complete RBC Canadian Small Cap Conviction List and 12-month target prices are:
Cargojet Inc. (CJT-T), $73.00.
Crius Energy Trust (KWH.UN-T), $10.00.
Enercare Inc. (ECI-T), $25.00.
Evertz Technologies Ltd. (ET-T), $20.00.
Great Canadian Gaming Corp. (GC-T), $61.00.
Héroux-Devtek Inc. (HRX-T), $20.00.
Kinaxis Inc. (KXS-T), $95.00.
Martinrea International Inc. (MRE-T), $22.00.
NEO Performance Materials Inc. (NEO-T), $24.00.
Tricon Capital Group Inc. (TCN-T), $13.00.
Westshore Terminals Investment Corp. (WTE-T), $30.00.
BlackPearl Resources Inc. (PXX-T), $2.00.
Cascades Inc. (CAS-T), $18.00.
Conifex Timber Inc. (CFF-T), $9.00.
Continental Gold Ltd. (CNL-T), $5.00.
Freehold Royalties Ltd. (FRU-T), $17.00.
Marathon Gold Corp. (MOZ-T), Restricted price target.
Osisko Gold Royalties Ltd. (OR-T), $18.00.
Parex Resources Inc. (PXT-T), $24.00.
Roxgold Inc. (ROXG-T), $1.50.
David Berman