Canadian Stocks May Soar As Profits Rise, Deficits Fall

The Toronto Stock exchange has a lot of catching up to do to match New York, but many analysts are saying it may soon start making up for lost time - 15 years of lost time.

In the coming year, Canadian stocks will outperform shares in the United States, some observers predict. "I've never been so bullish about Canada," says Maureen Farrow, economist and director of portfolio strategy at Lowen Ondatjee McCutcheon, a Toronto investment dealer. "Interest rates just dropped again this week and they could go lower. Corporate profits will rise and push stock prices higher."

The Toronto Stock Exchange 300 index is the Canadian equivalent of the Dow Jones industrial average. A chart by Toronto investment dealer Nesbitt Burns shows the TSE 300 was more than double the Dow index in 1980, with the TSE above 2000 and the Dow just below 1000. The Dow caught up with the TSE in 1992 and is still ahead. As of Oct. 28, the TSE was at 5553.36, versus 5972.73 for the Dow.

"There's a good chance that the TSE will be 500 points higher than the Dow Jones by this time next year," says a broker at RBC Dominion Securities, which won't allow him to be quoted by name. "Foreign investors will win two ways: first on the stocks then on the currency."

Canadian dollar undervalued

The Canadian dollar is one big reason cited for the potential of the Canadian stock market. It has risen sharply this year. On Feb. 19, the Canadian dollar was valued at 72.19 US cents. It is now about 74.40.

"We think the dollar is 15 percent undervalued," says Michael Manford, chief economist at Scotia McLeod Inc. in Toronto. "It will be at 77 cents by the end of this year and it could be at 80 cents by the end of 1997."

That kind of performance would give an American investor a positive return even if the Canadian stock market stood still.

But why is the Canadian dollar likely to appreciate further? Low inflation, falling government deficits, and the slowest-growing labor costs in the Group of Seven (G-7) rich industrialized countries, analysts say. Only Japan has lower inflation than Canada.

Paul Martin, Canada's finance minister, said in Montreal Oct. 28 that Canada is the envy of the industrial world, and popular with international investors. "We are on the brink ... of what is going to be one of the longest periods of sustained growth and progress this country has seen since the Second World War," he added.

"Canada is not the fat, overpaid, lazy country it was in 1989. It is now a lean, mean machine with the second lowest deficit-to-GDP ratio in the G-7, and it should surpass the United States sometime next year," Mr. Manford says. "Commodity prices are bottoming out now, but they should pick up over the winter. That will add to corporate profits."

A major metal producer

Canada is a major world producer of nickel, aluminum, copper, zinc, and other metals.

Canada is also a major producer of forest and agricultural products. But newsprint and lumber are a special case. They have already seen a run-up in the past few years and are now in a downturn. An economic slump in the US would hurt newsprint sales as newspaper advertising declined, and lumber when new construction trailed down.

Analysts and economists contacted for this article agree that interest-rate-sensitive shares have the most room to grow. Ms. Farrow points out that corporate restructuring in Canada has led to the success of export-related firms. But consumer spending has been soft. She says that is about to change.

"We're going to see retailing and banking surge ahead," Farrow says.

"Next year there will be an easing of corporate profits in the United States, but not in Canada, which is another reason Canadian stocks will outperform those in the US," says Farrow. She sees the Canadian dollar as the safety play for foreign investors.