It is easy for an investor to have home country bias: I live in Canada, I get paid in Canadian dollars, and I know and understand Canadian companies—as a result, my portfolio contains mostly Canadian assets. Even if you are stuck within Canadian borders until the Covid-19 pandemic slows down, it doesn’t mean your portfolio has to remain 100% Canadian. Over the past few years, we have increased our clients’ weighting toward U.S. companies significantly. Here is why that allocation to U.S. names will likely continue to increase.
For the most part, the best quality investments are in the U.S. The performance of U.S. stocks has beaten every one of those other countries going back thirty years. This is due to the earnings growth from asset-light technology companies like Apple, Google, Microsoft, Visa and Facebook. These are just a few of the U.S. stocks that our clients own today.
The most successful businesses in the world are companies that have asset-light business models. These are businesses that do not require significant ongoing capital expenditures to make a product or service. As you can see, asset-light businesses have outperformed their counterparts globally for a very long time.
As investors in high quality companies, we want to own businesses that are price makers. A price maker company has the ability to raise the price of the product or service it sells at any time. A price taker company has no control over the price of the product or service it sells; they tend to be not only cyclical but also capital intensive. An example of a price taker business is an oil and gas producer. The oil and gas producer can do everything right and find lots of oil while keeping its costs low, but ultimately it has no control over the price of the product it sells.
The TSX index is loaded with price taker, asset heavy companies, such as miners, oil explorers, lumber producers as well as an over concentration in utilities, banks, insurance and telecoms. In our opinion, there are not enough high-quality companies in Canada with experienced management, strong balance sheets and enormously profitable business models to create a properly diversified portfolio.
Many Canadian investors may be concerned about currency risk: What if I buy a U.S. stock and the Canadian dollar rises significantly against me hurting my return? This is a valid concern, but in our opinion, the Canadian dollar is more likely to drop moving forward (Please take a look at David Baskin’s recent blog on currency for a more detailed discussion here).
Let me walk you through our thinking on two high quality U.S. companies.
First, Moody’s. We started buying it for our clients in 2016. Moody’s is one of two major credit rating agents. Governments and companies are taking advantage of low rates to issue more bonds and to refinance older bonds at lower rates. Over the next few years, there will be over $6T of bonds that will need to be refinanced. All of these bonds will require a credit rating. Most institutional investors will not buy a bond without a credit rating seal of approval from Moody’s.
Next is Visa. We started buying shares of Visa for our clients in 2014. Visa and its counterpart, Mastercard, benefit from some of the strongest barriers to entry we have ever seen. As you know, Visa is essentially a toll road with an immense runway of growth and inflation protection. If you are a merchant, you must accept Visa, and you have to pay the toll. Chances are, going forward, any purchase that you make, anywhere in the world, will be done with either a Visa or a Mastercard.
Both Moody’s and Visa generate significant free cash flow with very low capital intensity. Both have long-term tailwinds for growth, and both have the ability to reinvest their cash flows at high rates. Thankfully, we shrugged off our home country bias to buy Moody’s and Visa. We believe the opportunity cost of owning great U.S. companies more than outweighs the risks. So shrug off your home country bias and start doing some cross-border stock shopping.