Welcome to Soundbites, weekly insights on market trends and investment strategies, brought to you by Investment Executive and powered by Canada Life. For today’s Soundbites, we’re talking about equity investing in the current moment, with Ken O’Kennedy, chief investment officer with Dixon Mitchell. We talked about where he’s finding opportunities, his fixed income allocation, and we started by asking how he balances conviction and consensus.
Ken O’Kennedy (KO): I think there is value in the wisdom of the crowd but you have to really understand what you own and why you’re owning it. And especially the why you’re owning it part. And it has to be more than a valuation. There has to be other reasons why you own a particular business. From a fundamental perspective, the value of any investment is simply the present value of its future cash flows. And the key to the future part is really understanding the DNA of the business, and then aligning with businesses with the strongest DNA, which gives us a higher probability that those cash flows can compound. That strength allows the business to be able to compound and drive their value creation algorithm into the future. This philosophy has had a lot of stress over the last 12 to 15 months, as Canadian indices have really rewarded commodity leverage and, to a lesser degree, defensive yield while there’s been a massive shift towards AI south of the border. So those two things have been a fairly big disruption.
Where he’s finding opportunity.
KO: We still believe the hierarchy is 1) international, 2) Canadian, and 3) U.S., broadly speaking. We see international essentially as the best combination of valuation — which is also a function of growth and the business quality. We’re finding high-quality franchises at more reasonable valuations than U.S. peers in similar industries. In Canada, we see a concentrated set of opportunities: select financials, some industrials, and infrastructure-like businesses, and where you can understand how the management teams are allocating capital and growing value over time. And the U.S., lastly, the businesses here are definitely the best of the best. They’re excellent. We’ve had a decade of multiple expansion, and the recent AI-driven momentum has really compressed the forward return versus other regions.
How he views the AI buildout
KO: There’s a lot of AI beneficiaries, and we are spending a huge amount of capital. Close to 2% to GDP is going into AI right now. And where those bottlenecks are, you’re pushing a tremendous amount of revenue and earnings into what I would call the AI beneficiaries. So, think about this as AI infrastructure — everything from chips to connectors to HVAC, power supply, all kinds of different areas, some construction companies, some electrical contractors. They’re earning significant excess return today. That’s also attracted a huge amount of capital and that’s left some other areas overlooked. And there’s a lot of very high-quality names with low volatility that are trading at or near their long-term lows in terms of relative valuation. If you just go to the AI beneficiaries — the kind of semi-conductor area — there is obviously a tremendous demand backdrop right now. It’s incredible. All the free cash flow from the hyperscalers is going here. Plus, they’re raising money in bond markets. There’s tons of money being raised through special-purpose vehicles. And this is all flowing into those AI beneficiaries right now. But we don’t see that as sustainable over the long haul. Chances are we’re not going to sustain this level of spending for the next three years. So that’s one area we definitely want to avoid, and the area we want to focus on is just things that have been overlooked.
Names he likes
KO: Let’s start with Canada. Our Canadian banks are very high quality, and they will always be part of our portfolio. We like TD and Royal, National, Brookfield and particularly Brookfield Infrastructure. We like Element Fleet, we like Boyd Group. And some of these companies are facing some kind of temporary cyclical or sentiment headwinds, but are showing resilient unit economics, and also have good growth runways ahead of them. In terms of the U.S., Berkshire Hathaway. Long term, we’ve owned Visa for a long time. Really like that business. The growth there is actually accelerating. We’ve also added, recently, Heiko. Interesting company. They make parts for airplanes. And they have a very good reputation. This is a more recent company we’ve owned over the last couple of years. And also, Domino’s Pizza, which I think is probably one of the best franchise restaurant operators out there. Internationally, we added Spotify earlier this year. They’re introducing new AI-enabled products that we think is going to drive growth going forward.
Fixed income allocation
KO: I’m always going to love equities because we think of ourselves as owners of businesses. And we’re owning businesses that we think can grow. So, we really think about our fixed income as a ballast in the portfolio — a place that can provide some volatility dampening, and a place that we can pull capital from in a market dislocation. But, having said all that, I think we’re all feeling a lot of risk. So recently, over the last two months, we’ve increased our bond allocation. We’ve increased it from about 20% to 24%, which is the first time in quite a few years. And we’re not in there necessarily chasing yield. We are buying some corporates, but we’ve mostly allocated capital to highly liquid, highly rated government bonds. What we’re doing there is we’re just preparing ourselves so if we get a large beta event, we’re going to be able to tap liquidity to deploy money into equities.
And finally, what’s the bottom line on investing in equities in the current moment?
KO: Just really understand where your exposures are and where your risks are. You can think about this in a couple of different ways. Be very wary of the AI momentum. We don’t know if this is going to go for another six days, six months, 18 months. Who knows. You have a tremendous amount of speculation that is driving a lot of innovation, and it’s attracting a huge amount of capital. Eventually this will moderate, and there will be a reset, and that’s historically when we’ve been able to deploy capital post speculative bubble. Number two, make sure your portfolio doesn’t have the 2026 version of newspapers or televisions in it — an area that is going to be disrupted by AI and will be put into secular decline. You’ve really got to think about your businesses in terms of what you think you’re going to get for them in the future.
Well, those are today’s Soundbites, brought to you by Investment Executive and powered by Canada Life. Our thanks again to Ken O’Kennedy of Dixon Mitchell. Visit us at investmentexecutive.com, where you can sign up for our a.m. newsletter and never miss another Soundbite. Thanks for listening.
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