Canadian stocks have been one of the world's greatest investments in recent years, offering stellar returns that have handily beaten equities in the U.S. and many other countries.
But is the party over? Recent performance suggests investors in Canadian shares may have something to worry about.
It's not that domestic stocks are about to collapse. They're still rising. It's just that their returns are starting to be outclassed by just about everyone.
So far this year, Canadian stocks have been one of the worst performers among 21 major bourses tracked by Bloomberg. When returns are adjusted into U.S. dollars, to make results comparable, Canadian stocks rank second-last in the international sweepstakes. Only investors in Spain, one of Europe's sicker countries, are doing worse.
It's a shocking performance for those who believe Canada boasts one of the world's best-managed economies, and the investment community is beginning to take note. BMO Nesbitt Burns, in a missive to clients this past week, was one of the first firms to point out the poor relative performance, calling it a case of "Whoa, Canada: TSX Continues to Lag."
A year ago, Toronto's S&P TSX composite index was about 2,000 points ahead of the Dow Jones industrial average. Now the Dow has left Canadian stocks in the dust and has risen so strongly it's overtaken the TSX and is ahead about 800 points.
The underperformance in Canada "is getting a bit extreme," observes Douglas Porter, deputy chief economist at BMO Nesbitt Burns. He says U.S. equities are enjoying their strongest edge compared to Toronto shares since the height of the tech boom in 1999.
Some other international comparisons are even more dismaying. So far this year, Brazilian and German stocks have led the pack, both with gains in U.S. dollar terms of about 23 per cent, followed by the Nasdaq at 17 per cent. Stacked up against those double-digit gains, Canada's 7-per-cent advance looks modest. (Last-place Spain has seen its market rise 0.7 per cent.) "There is no single factor that explains the underperformance," explains Mr. Porter, who says Canadian stocks have been hit on multiple fronts.
One problem is that Canada lacks a success story like Apple Inc., which is surging and leading the entire U.S. tech sector higher. "Apple's hitting new highs. The same can't be said for Research In Motion," says Cynthia Caskey, Canadian equity portfolio manager at TD Waterhouse.
Energy stocks, a big factor in the Toronto market, have been little changed so far this year, even though the price of oil has risen above $100 (U.S.) a barrel. The issue is that many Canadian energy producers also have a large exposure to natural gas, which is languishing at its lowest price in more than a decade.
Canada's financial stocks have been strong, rallying about 9 per cent so far this year. But they've been trounced by the recovery in some of the depressed banks in the U.S., like Bank of America, which has nearly doubled from its low in late December.
Gold has been a long-time bright spot in Canada, but the TSX's materials subindex has been weak, reflecting the declining price for precious metals. Meanwhile, China's growth rate is slowing, harming countries such as Canada that rely heavily on the export of natural resources.
Adding to the woe, earnings growth in Canada has also turned negative, never a good thing for stocks. Profits among S&P 500 companies in the U.S. rose 9.6 per cent at the end of last year's fourth quarter compared to year-earlier figures. Canadian profits, by contrast, slumped 3 per cent. "Our earnings in Canada haven't been as strong as U.S. earnings," Ms. Caskey says.
For investors, the relatively poor showing of Canadian equities highlights the benefits of stock diversification. Ms. Caskey suggests investors should venture beyond the nation's borders to gain exposures to sectors, such as health care and technology, where the domestic market lacks strong representation.
A worry when a market starts to underperform is that the trend will persist. But while Canadian stocks may continue to lag in the short term, market watchers are optimistic that the country's positive fundamentals will eventually restore the spring to the TSX's stride.
"Canada has a number of tremendous advantages over the medium term that suggest the underperformance won't last," Mr. Porter predicts.