Jonathan Wellum: The Great Divide - U.S. Strength, Canadian Decline, and the AI Bubble & Gold Play

Key Concepts

• US Economic Strength: Characterized by attracting capital, lower taxes and regulations, and resurgent M&A/IPOs.
• AI Bubble: Concerns about extremely high valuations in the AI sector, potentially exceeding historical bubbles like the dot-com and subprime crises.
• Canadian Economic Weakness: Attributed to excessive regulation, high taxes, government policies throttling resource sectors, and unsustainable social welfare spending coupled with high immigration.
• Precious Metals Investment: A strategy to hedge against currency devaluation and global debt buildup.
• Portfolio Strategy: Focus on secular growth opportunities in technology (software), healthcare, and data centers, alongside precious metals.
• Valuation Concerns: High market valuations, particularly in the AI sector, suggest a need for caution and a focus on value investing.
• Government Policy Impact: Contrasting policies in the US (pro-growth) versus Canada and Western Europe (restrictive) are seen as key drivers of economic performance.

US Economy and Financials

The US economy is exhibiting remarkable strength, with major US banks reporting exceptional Q3 earnings, largely driven by a resurgence in M&A, IPOs, and advisory services. Banks like City are up 40% year-to-date, JP Morgan and Goldman Sachs are up 30%. Despite these strong numbers, underlying concerns remain regarding consumer debt, write-offs, and the mortgage market, which act as a drag. However, overall, the US economy is described as robust, with bank leaders expressing optimism and seeing few horizon problems, though some note a slightly weaker employment situation. Jamie Dimon, CEO of JPMorgan Chase, is noted for his tendency to "sandbag" numbers, with actual results consistently exceeding expectations.

Valuations and the AI Sector

There are significant concerns about current market valuations, particularly in the AI sector. A report from Macro Strategy Partnership suggests the AI bubble is 17 times larger than the dot-com bubble and four times larger than the subprime bubble. Valuations are described as being at the "high end," primarily driven by AI enthusiasm. This has led to a more conservative asset allocation strategy, including holding cash and significant positions in precious metals, which have performed well. The speaker cautions that while AI will transform society, securities cannot be priced infinitely and must justify a return on invested capital. Companies like Google, Amazon, and Nvidia are acknowledged as amazing and growing rapidly, but their current valuations are questioned. The S&P 500 trading at nearly 30 times earnings, compared to a healthier range of 18-20, indicates a potential 50% overvaluation. Value investors are advised to look for more appropriately valued areas.

US Economic Growth Drivers and Challenges

Howard Lutnick's observation of the US economy trading around 3% growth, with potential to reach 4% by 2026, is discussed. The speaker views this positively, highlighting the transition occurring in the US. Key drivers of this growth are attributed to policies attracting capital back into the country, including lower taxes, reduced regulations, and making it easier for companies to develop resources. This is described as a "recipe for growth." The influx of capital is estimated to be between $10 trillion and $20 trillion over the next few years, with over 50% of capital investments returning to the US. The speaker also notes the positive impact of bringing manufacturing back and employing domestic workers, even with rising wages.

However, significant challenges for the US include balancing its budget, with a $2 trillion deficit on revenues of $5-6 trillion. Unfunded liabilities are estimated at $100 trillion or more, and national debt stands at $37-38 trillion. Addressing these imbalances will likely require a lower currency and some form of inflation adjustment, which is why precious metals are favored. Despite these challenges, the US economy is projected to be the strongest globally.

Canadian Economic Weakness and Policy Failures

In stark contrast, the Canadian economy is described as struggling due to government policies. The speaker, a Canadian, expresses concern about the "unbelievably destructive" policies pursued by the federal government. Canada is characterized by too many regulations, excessive red tape, and high taxes, which stifle capital growth and increase the cost of money.

Specifically, six major pieces of federal legislation between 2015 and 2024 are cited as throttling the oil and gas and resource sectors, which are central to Canada's economy. This has resulted in an estimated $670 billion in missed investments, with capital leaving the country. The speaker criticizes the implementation of a "socialist regime" and a "social welfare system" without sufficient wealth creation to fund it, exacerbated by an unprecedented rate of immigration (over a million people per year on a base of 40 million). This leads to very little GDP growth, and when adjusted for per capita and real inflation (estimated to be twice the government's figures), the country has experienced severe negative GDP growth per person for a decade. This is linked to increased hardship, including breadlines and homelessness.

The fault is placed on the Liberal and NDP parties, described as "left of center," for throttling the oil and gas sector and other resources. The speaker also highlights the impact of "green ideology" and "radical environmentalism," leading to carbon taxes on both industrial and retail consumers, increasing energy costs. While some carbon taxes were temporarily removed for political reasons, they remain embedded in the system, making Canadian businesses less competitive.

TSX Performance vs. Main Street Canada

The TSX Composite is up 20% year-to-date, with materials and financials performing well. However, this performance is not seen as indicative of the "main street" Canadian economy. Many businesses on the TSX are North American or global in scope, generating revenue outside of Canada, or are commodity-based and US dollar denominated. This creates a dichotomy where the stock market performs well while ordinary Canadians feel significant pain due to government policies.

Unemployment in Canada

Unemployment figures are rising, with the national rate at 7.1%, 8% in Ontario, 9.9% in Toronto, and 14.5% for youth. The speaker predicts the unemployment rate will go "substantially higher" due to a lack of capital inflow and capital and job outflow. The US is seen as more encouraging due to lower taxes and better treatment of capital. The recent decision by Stellantis to move manufacturing facilities to the US, resulting in the loss of 3,000 jobs in Ontario, is cited as a predictable consequence of Canada's uncompetitive cost structure and US pressures (tariffs). This will have significant spin-off effects on well-paying jobs and supporting businesses.

Portfolio Strategy and Investment Recommendations

The strategy at RockLink involves moving capital globally to find businesses in preferred sectors with underlying secular growth opportunities.

• Technology (Software): Identifying software businesses that have underperformed in the last year or two despite consistent growth (8-9% annually) and strong free cash flow. Rober Technologies is mentioned as an example of a well-valued company.
• Healthcare: This sector has also been weak, with opportunities in companies manufacturing medical equipment.
• Data Centers: With a projected significant increase in data centers globally by 2050, companies involved in their construction, such as Schneider Electric and Brookfield assets, offer exposure without directly owning high-valuation companies like Nvidia.
• Precious Metals: A significant allocation (around 28% of assets, potentially higher when considering cash) is dedicated to precious metals (gold and silver). This is a hedge against global debt buildup, which is seen as unsustainable even in the US, and the continued loss of purchasing power of fiat currencies. The speaker has been building these positions over 15 years, focusing on royalty companies and some mid-tier and smaller producers.
• Silver: While 75% of silver is produced as a byproduct, making pure producers rare, an ETF is used for broader exposure. The speaker notes potential physical shortages of silver due to increasing demand from digitization and data centers, which could lead to substantial price increases if paper markets are disrupted.

Government Leadership and Economic Philosophy

The discussion criticizes the lack of true leadership in Canada, both provincially and federally, advocating for a return to a "free market capitalist economy" to leverage the country's resources. The focus on redistribution without production is seen as leading to less wealth overall. The speaker also criticizes Ontario Premier Doug Ford as a "rhino" (Republican in name only) whose policies are left-of-center and detrimental to the business community. The need to shrink bureaucracy, which strangles the private sector, is emphasized, drawing parallels to the US under Donald Trump's efforts to reduce bureaucracy.

Conclusion and Portfolio Protection

The overall outlook for the Canadian economy is one of impending pain due to current policies. The recommended portfolio strategy focuses on global diversification, identifying undervalued companies in growth sectors, and maintaining a significant allocation to precious metals as a hedge against economic instability and currency devaluation. The firm RockLink offers free portfolio reviews to help investors fine-tune their strategies based on risk tolerance.