Market Call: Gordon Reid's outlook on U.S. Equities

Here's a comprehensive summary of the YouTube video transcript:

Key Concepts:

• Market Pullback: A temporary decline in stock prices after a period of significant gains.
• AI Trade: Investment in companies involved in Artificial Intelligence, particularly those in the "MAG SEVEN" group.
• Valuations: The assessment of a company's worth, often measured by metrics like Price-to-Earnings (P/E) ratios.
• Fundamentals: The underlying economic and financial factors that determine a company's value, such as revenue growth, cash flow, and earnings.
• Secular vs. Cyclical: Secular trends are long-term, while cyclical trends are short-term and tied to economic cycles.
• Dividend Investor: An investor who prioritizes stocks that pay regular dividends.
• Capital Expenditures (CapEx): Funds used by a company to acquire, upgrade, and maintain physical assets.
• Return on Invested Capital (ROIC): A profitability ratio that measures how effectively a company uses its capital to generate profits.
• Yield Curve: The graphical representation of interest rates on bonds of different maturities.
• Net Interest Margin (NIM): The difference between the interest income generated by a bank and the interest it pays out to its depositors.
• Benefit Ratio: In health insurance, the ratio of claims paid out to premiums earned.
• Ten Bagger: An investment that increases in value tenfold.

Market Rebound and the AI Trade

Gordon Reid discusses the recent market rebound after a period of losses, attributing last week's dip to a "natural pullback." He notes that the "MAG SEVEN" and the "AI trade" have been exceptionally strong, and such rapid gains often necessitate a pause. Reid emphasizes that painful market experiences can occur when prices detach from fundamentals, referencing the dot-com bubble as a historical example. He believes last week's pause was healthy and that the AI trade remains intact, cautioning against excessive exuberance.

Valuations and Fundamentals

Reid expresses less concern about current valuations than some commentators. He contrasts Cisco Systems trading at nearly 100 times earnings during the dot-com bubble with NVIDIA trading in the high 20s P/E, arguing that NVIDIA has stronger fundamentals. He acknowledges that many good companies are trading at a slight premium to historical valuations but asserts that this is supported by significant revenue, cash flow, and earnings growth.

Identifying Overvalued Stocks

Reid identifies companies trading on "hope" or those that have become excessively exuberant as stocks to avoid. Palantir is cited as an example, trading at 80-90 times revenues (not earnings), which he considers "in the stratosphere" and requiring an unsupportable leap of faith.

Portfolio Construction and Quality

When building a portfolio, Reid advocates for a mix of companies. He suggests that a portfolio of 20-25 companies can accommodate one or two "stretched" but promising valuations, provided they are balanced with well-grounded companies offering good dividends and coverage. The overarching profile of a portfolio must represent "quality." At Goodreid Investment Counsel, they analyze companies like subsidiaries within a conglomerate, aiming for companies growing faster than the market and trading at a lower price.

Abercrombie & Fitch Analysis

Regarding Abercrombie & Fitch, a retailer focused on teen fashion, Reid expresses caution due to concerns about the health of the consumer, particularly the lower economic demographic. He notes that while the stock trades at a "compelling valuation," the fashion industry is prone to missteps, leading to unsold inventory. Given the macro environment and the inherent risks, Goodreid would "pass" on Abercrombie.

Copper Thesis and Freeport-McMoRan

Chris from Delta, B.C., inquires about Freeport-McMoRan and the copper thesis. Reid outlines both cyclical and secular views on copper. Cyclically, it's tied to the current economy, with China being a major consumer, making it opaque. Secularly, copper demand is expected to double by the end of the decade due to data center development and electric vehicles (EVs), which use four times the copper of internal combustion engine vehicles. Copper is also crucial for energy transmission. Goodreid holds Freeport-McMoRan in their U.S. large-cap portfolio, focusing on the long-term secular trend.

Meta Platforms (Facebook) Analysis

Michael from Vancouver asks about Meta Platforms. Reid acknowledges Mark Zuckerberg's controversial management style and past spending on the metaverse. However, he highlights Meta's pivot to AI and the significant capital expenditures planned for next year ($72-75 billion). While the market reacted negatively to the spending fears, Reid points out that betting against Zuckerberg historically has been unwise, given his track record of driving stock prices. Meta is owned in their portfolios, and Reid considers it a good opportunity at a sub-market P/E multiple of 20-21 times earnings, especially for investors seeking companies hungry for capital to invest in their businesses.

Boston Scientific and Healthcare Sector

Brian from an email asks about Boston Scientific amidst rising medical costs. Reid notes that the healthcare complex, including Boston Scientific, has been gaining footing after a slow start to the year. Boston Scientific, a medical equipment and instrumentation company, is described as "fairly expensive" at just under 30 times earnings but is growing well in the mid-teens annually. With a competitor like Medtronic reporting positively, Reid considers Boston Scientific a good investment, provided investors understand what they are buying and expect it to perform.

Pfizer vs. Merck Analysis

Dennis from Beaver Valley, Ontario, inquires about Pfizer. Reid notes that healthcare companies are showing value and attracting interest. While Pfizer trades at a sub-10 P/E, it faces challenges in generating growth post-vaccine success. It relies on deals for growth, such as a recent $10 billion acquisition of Matsuura, where Reid suggests they might have "overpaid" out of necessity. Goodreid does not own Pfizer but holds Merck, which also trades at a low P/E (10 times earnings) but is believed to have more pipeline promise.

UPS Analysis

Greg from Edmonton asks about UPS, which is down 4% with a 7% yield. Reid states that Goodreid does not own UPS and would not buy it, considering it a "trap stock." He explains that a high dividend yield can signal either strong performance or a falling stock price. In UPS's case, the latter is true, raising concerns about a potential dividend cut. Fundamentally, Reid sees contracting world trade and the end of globalization as headwinds, leading to more domestic business and less cross-border parcel volume.

Past Picks Review

• RTX (Raytheon Technologies): Recommended at $118.96, now trading at $178, representing a 50% upside and 51% total return. Reid highlights the combination of commercial aerospace (Pratt & Whitney, Collins Aerospace) and defense, with defense offering stability. The need for fuel-efficient aircraft for airlines and geopolitical tensions driving defense spending are key drivers.
• Blue Bird: Recommended at $37.66, now at $49.82, a 35% upside and total return. The focus is on electrified and propane-fueled school buses. Reid emphasizes the bipartisan support for cleaner school bus engines and advises investors not to be overly swayed by daily headlines.
• Toll Brothers: Recommended at $151.70, now at $133.52, a 12% drop and 11% total return drop. This is attributed to high interest rates impacting homebuilders, labor costs, and tariffs on lumber. Reid believes these issues are "transitory" and expects the stock to perform well in the future, as they are owners of Toll Brothers and other homebuilders.

Taiwan Semiconductor Manufacturing Company (TSMC) Analysis

Josh from Vancouver asks about TSMC for a long-term hold. Reid describes TSMC as the leader in semiconductor foundries, producing 38% of semis globally, compared to Intel's 8%. However, he cautions that semiconductors are highly cyclical. Demand can be insatiable, leading to over-ordering, followed by a sharp downturn with excess inventory. He advises being "nimble" with semiconductors and not to believe the narrative that "this time is different" regarding data center development. Goodreid does not own TSMC.

MercadoLibre Analysis

Joseph from Montreal inquires about MercadoLibre, described as South America's answer to Amazon. While a dynamic company with strong revenue and earnings growth, Goodreid does not own it. Reid is hesitant due to potential foreign exchange translation issues with volatile currencies in countries like Argentina and Chile, and political instability in their markets. He is watching these factors closely.

Amazon vs. Google (Alphabet) Comparison

William from London, Ontario, asks whether to buy more Amazon or Google. Reid states he cannot answer without knowing William's portfolio and risk profile. He comments on both companies as exciting and involved in AI. Amazon is a hybrid with e-commerce, cloud (AWS controlling 30% of the cloud market), and AI. Google is also involved in AI, with YouTube being the largest streaming service globally (over 2 billion monthly active users) and Waymo for autonomous vehicles. Both are trading at reasonable multiples (Amazon in the low 30s P/E, Google in the mid-20s P/E), which Reid considers not "bubble type multiples" given their growth metrics.

Bank of America Analysis

Joe from Montreal, a retired senior, asks about Bank of America, where his average cost is over $20. He notes Warren Buffett and other institutional investors selling. Reid states that Goodreid "very much likes" money center banks and owns Bank of America in their U.S. large-cap portfolio. He agrees that the Federal Reserve's potential interest rate cuts are likely to steepen the yield curve, which is beneficial for banks' net interest margins. He also points to a more robust capital markets year in the U.S. as a positive factor.

Elevance Health Analysis

JP from Edmonton asks about Elevance Health, a health insurer. Reid explains that the health insurance industry suffered post-COVID as people deferred medical procedures, leading to good margins. However, when procedures resumed, margins dropped. He believes Elevance and others are creating a bottom and trading at "very, very cheap multiples." Compared to UnitedHealth, which trades at nearly twice the P/E, Reid considers Elevance a better stock choice, despite its cyclical nature. Goodreid owns Elevance.

New Top Picks

• EMCOR Group (EMC): Primarily a construction company with significant involvement in data centers. Goodreid has owned EMCOR for many years, with it becoming a "ten bagger" (10x return). The infrastructure theme, driven by government initiatives to improve U.S. infrastructure, is a key driver. EMCOR's latest earnings showed 17% revenue growth, and it trades at about 23 times earnings. They have outperformed consensus 18 of the last 19 quarters.
• Alphabet (GOOGL): Reid reiterates his positive view on Alphabet, noting they lost a lawsuit but the penalties were not as severe as feared. He emphasizes the "bigger pie story" for search, where even a loss of percentage share still results in significant revenue growth. Alphabet is a major participant in AI and Gen AI, with other ventures like YouTube and Waymo. It trades at about 25 times earnings, which is not considered an excessive valuation.
• Uber (UBER): Trading at about 25 times earnings and growing well. Reid encourages listeners to visit Goodreid.com for a detailed blog post. He notes that the stock traded off on the last earnings report due to a "soft" fourth-quarter guide, which still projected 17% gross bookings growth and 31% EBITDA growth year-over-year. He advises taking the opportunity to buy at these levels.

Conclusion

Gordon Reid's commentary emphasizes a disciplined approach to investing, focusing on strong fundamentals, quality companies, and reasonable valuations. While acknowledging the excitement around AI and growth sectors, he consistently advises caution against exuberance and highlights the importance of understanding a company's underlying business and long-term prospects. He advocates for a diversified portfolio that balances growth potential with stability and quality.