FidelityConnects: Canada’s market frontier with Hugo Lavallée

[00:04:06] Glen Davidson: Hello, and welcome to Fidelity Connects. I'm Glen Davidson. This week U.S. markets have been fueled by AI-driven tech rallies and the increased hope for a December rate cut. But this will end a relatively flat month closer to home. The TSX is moderately up in November. Where's our next guest finding opportunities amongst it all? Today we welcome portfolio manager Hugo Lavellée who keeps tabs on U.S., Canadian, global equities all through his contrarian lens. He's here to share his market thoughts with 2025 soon coming to a close. Hugo manages Fidelity Greater Canada Fund, the Canadian Opportunities Fund, Climate Leadership, and he's also the underlying manager on Global Equity+. Welcome, Hugo. Great to see you.

[00:04:47] Hugo Lavallée: Great to see you again.

[00:04:50] Glen Davidson: I had the pleasure of speaking with you in Palm Beach last month, Scottsdale last week, and here we are today, but I should still ask because so much has changed in the market the last five days. You're a contrarian guy, what do the gyrations in the last five days in the market mean to you?

[00:05:09] Hugo Lavallée: It's already changed since last week, Glen. I think for me the biggest thing that's happening is rate cut expectations going back up,  expectation of a rate cut going back up from roughly 50% at coin flip last week or two weeks ago to 80% this morning. It's affecting the stock market. Cyclicals have been very tough. If you look at Greater Canada and other funds I run, the market's been very concentrated. Mag 7, the other 93 stocks roughly in the S& 500 and then the bottom 400 have been very difficult. Those are the companies that are underearning, they've had a cyclical problem, margins have been tough, they've been facing a recession from consumer to transport. We had one rate cut last year, we've had two up to now, there's expectations for more so that's affecting the stock market. We've seen since roughly last Thursday kind of a little bit of a change in leadership. We'll see if that sticks. I think it's related to ... there's cyclical and secular, and when the cyclical is not doing well people pile into the secular stocks and the only companies that can keep growing in a tough market. If the cyclical comes back a little bit I think my funds are kind of positioned for that. We'll see what happens.

[00:06:35] Glen Davidson: Well, I'm sure our viewers are very interested to hear what you have to say because it's been such an AI focused vibe for a long time and being contrarian is a refreshing change from all of that. What are you thinking from a positioning in your portfolios right now?

[00:06:51] Hugo Lavallée: I don't have a ton of Mag 7. I got less than 2% in Mag 7 of Greater Canada. I just think there's more interesting things to own at this point. I've owned these stocks before. I did own them in November of '22  and I've mostly kept them. At this point I think there's more interesting things happening. I think the markets are very concentrated. I think it's okay to go back to Canada. Glen, you and I talked about that in Arizona last week. That was kind of the big giveaway or takeaway I want to give to clients. I think it's okay to go back to Canada. I think commodities,  the walls are going back up, companies have underinvested over the last 10 years, markets are more fragile, there's less resiliency. At the same time we have financial repressions. What is financial repression? It's government policy to artificially depress their borrowing rights. Governments have a lot of debt, they want to keep stimulating the economy.

[00:07:53] All of these things I think are leading to maybe a more Canadian focused market. We also have a new prime minister that wants to maybe export more commodities to global markets. We have countries that need it, like Japan, for example. Maybe they want a little bit less Russian gas and Canada can be a provider for that. All of these things together, and the signalling also that EM and Canada's outperforming the S&P 500 this year, I think there's a lot of signal into that. If I would kind of two takeaways, it's commodities and back to Canada, and it's cyclicals. So less of that secular trend that's really dominated the market and more back to cyclicals, old economies. That's what I've been doing. We'll see where that leads us over next few months.

[00:08:38] Glen Davidson: When you say old economy it reminds me of the '90s when it was either your new economy or old economy, and you know what happened. Old economy turned out to be a very safe place for people to come back to so it's refreshing to hear you talk about that. You mentioned a new prime minister, new budget as well, investment in the country, infrastructure, thoughts on the budget that was tabled a couple of weeks ago.

[00:09:02] Hugo Lavallée: We did a lot of work sector wise. I wouldn't say there's a million takeaways. The one big underlying is back to infrastructure, exporting our energy molecules, exporting what we do best. Frankly, we've been preparing for that since the election. I think back into infrastructure, construction companies, companies that can help build from terminal to pipelines but more than that, like train projects and I think there's gonna be [indecipherable] Ontario stuff, forestry stuff, aluminum stuff. We need nation building projects. Hopefully, we get a little bit less fighting between provinces. We've got the will and the political will to do these and it's driving some stocks up because from the Arctic to, you know, again the walls are going up. Where are you getting your energy from? I think there's an opportunity there from a Canadian perspective. We've been getting ready for that since April. I think you're seeing it in the stock price reaction.

[00:10:15] Glen Davidson: You mentioned about Canada doing more business around the world, obviously, not being as focused on the United States, diversifying risk, if you will. How do you as a portfolio manager assess how that's going, what that could mean? Who can you tap into around Fidelity to help formulate the thesis for you?

[00:10:34] Hugo Lavallée: Well, within Fidelity it's sector by sector. Talking to the analysts, thumbs up, thumbs down, is the pucks going there or not. Outside of Fidelity, look, we don't talk to the Prime Minister nor the cabinet but we talk to people that do talk to them. The feedback's been overwhelmingly positive on the plan, at least. Can you understand the plan? You know, Glen, a lot of it's government policy nowadays. I like to find that little restaurant chain that's got 1000 units, it's gonna go to 10,000. In the world we're living in post-COVID government policies are so important. Deficits are large and they're driving, they're driving policy, they're driving the stock market. I think it used to be a little bit more about the monetary cycle, central banks, less about policy. I think since COVID the world's changed. The deficits are too large. They make or break markets. There's a bigger focus for me and us, reading a little bit differently. We're still bottoms up investors but understanding policy, a little bit more macro, understanding where the puck's going in the world, and then you do your stock picking. Before you do your stock picking,  kind of agnostic from trends and now it's like pick your trends  then do your stock picking. I think there's a little bit of focus and that changes at the margin a little bit what I focus on, what I read, a little bit more thought pieces, a little bit more macro pieces. That's how I do it.

[00:12:09] Glen Davidson: Let's talk about overall positioning as far as Canada to the U.S. because Greater Canada Fund is really a big chunk of Canada, chunk of U.S., very little internationally. What would your Canadian content be now?

[00:12:23] Hugo Lavallée: I spent the last 10 years basically running 50/50, more or less. Now I'm trying to push Canada closer to 60, maybe not quite there yet. A little bit more international, Glen. If you've got that commodity lens you're gonna think about equipment manufacturers, people that can help and providers of ... 'cause I think there's cash flow hitting the miners right now and I think they're gonna spend that cash flow. If you're going for equipment manufacturers, there's some in the U.S., there's some in Scandinavia, there's some in Japan, there's some in Australia. I would say I even have a little bit more international now. It's all through that commodity lens. So more Canada, the stuff I have in the U.S. it's mostly cyclicals.

[00:13:09] The US PMI has been basically in contraction for over three years. We're entering our fourth year, which is very unusual. We track the data since 1947, it's the longest contraction on record in terms of months. Not the deepest, but the longest. I definitely want to be exposed there. From a little bit of U.S. housing related names to industrials to transport to a little bit of consumer. We have an election in the United States in a year and I think they'll want people to be happy. Consumer has been tough right now. I think we have stimulus hitting fiscally and monetary next year and the things I have in the U.S., definitely a little bit more of a cyclical bent.

[00:13:57] Glen Davidson: Just picking up on housing and the consumer, I was reading this morning that people trying to sell houses in the States aren't seeming to get a bid. I see it in my neighbourhood in Toronto and I'm sure you do as well. That's a sign, isn't it, of a cautious consumer? I think people can look at the stock market and think everything's great but it's quite concentrated. Let's talk more about the consumer. What pressures are you seeing? Is there a leverage pressure as well for the consumer getting over their skis, if you will?

[00:14:28] Hugo Lavallée: Well, it's been this, you know, I hate to use the term but it's been this K-shaped economy. If you work at Nvidia things are great. There's a malaise from a lot of young people, am I gonna still have a job because of AI. Housing's been very unaffordable. Look, administration both sides of the border understand that. You're seeing affordability getting a little bit better. It's definitely a little bit better in Canada. I think people understand that. We need to have the will, the policies to kinda address that. We'll see. I just think from my perspective the turnover's been so bad, it's been very difficult for a while. I do think at some point things will get better.

[00:15:14] I'm not the most exposed to U.S. housing but I do have, especially in Greater Canada, have two, three quality names, good box retailer, good plumbing company. It's been terrible for three years. I think at some point things will get better. It's driving the way people vote. People feel a little bit disenchanted, especially if you're a younger person. I mean, you can say, oh, you gotta work hard and everything, and affordability is really high it creates this social malaise and I think it needs to be addressed. I think it's lasted a long time. I'm not gonna bet the fund on that but I'm definitely gonna have some exposure there.

[00:15:54] Glen Davidson: As a contrarian investor do you see opportunity within EM and EAFE areas of the world?

[00:16:02] Hugo Lavallée: I leave that to other investors like Patrice and maybe a little bit Dan, and Connor and Chris do a really nice job. I don't know, I'm a North American investor. It's partly being contrarian. You need change. I think just change happens faster in North America. The other thing too is between my different mandates I have to be two-thirds minimum in Canada at all times. I think it's a little bit of everything we've discussed, they're kind of similar. Canada, I'm gonna express that it's been U.S. centric, right? Glen, you were there, in 2010 we're trying to tell clients, look, you gotta buy U.S. stocks. It was really tough to get — we're Fidelity, we have great U.S. products but it's really tough to get people to focus on that because it had underperformed for so long . The companion return of the SP in 2010 for 10 years was zero, and you had lost money as a Canadian on the currency.

[00:16:53] Now it's a little bit the opposite. Let's try to get people to focus outside of Nasdaq and S&P 500. That's that's the message I wanna give today to clients. Patrice is gonna express it differently than me. Connor and Chris are gonna express it differently than me. Dan's gonna express it differently than me. I'm gonna express it mostly through bring some capital back to Canada.

[00:17:14] Glen Davidson: Let's look at two very popular areas, gold and silver. Thoughts.

[00:17:21] Hugo Lavallée: Precious metals, look, in a world of financial repression it's not a bad world for them. I'm a little bit worried that it's not super contrarian because a lot of people talk about it. I'm going to a gold conference, actually, next week in Toronto, Tuesday, Wednesday. I'm excited about that. They're a big part of the Canadian economy. The stocks look cheap. I mean, that's one thing we haven't discussed today.

[00:18:02] If you refocus on commodities, from our energy producers at $70 oil, or copper at the current copper price, $5 copper, or gold at $4,000 copper, these stocks are generating a lot of cash in a world that we're really struggling to find companies generating a lot of cash. Free cash flow yields are small, they're skinny. If you look at the Mag 7 the free cash flow yield is going down because they're becoming more capex intensive. A lot of good companies in aerospace, free cash flow yields are small. P/E multiples are high. If you're trading at 40 times earnings you're not trading at a 10% free cash flow yield, you're trading at a 2, a 2 1/2% free cash flow, 1 1/2 depending on your capital intensity.

[00:18:48] On the commodity side it's been a little bit the opposite. We're finding tons of opportunities with double digit free cash flow yield. I'm a little bit excited about that. I think eventually the companies are gonna spend some of that capital, of that cash flow, so that's why I want to be with some of the equipment providers. I still think a big area of the market that we don't talk enough about is all these commodity providers and the free cash flow yield they're generating. That's a big area of focus of mine.

[00:19:15] Glen Davidson: As a contrarian investor have you found that stocks you've classified as, or sectors as contrarian are getting blurry? I mean that because, or what I'm trying to say is with AI and all the inputs that are related to data centres and so on it's gotten broader than just chip stocks, tech stocks and so on. Has it eliminated some opportunities for you? Are you saying, hey, this was a contrarian stock, now it's — like you were just saying about gold and silver, have become very topical. Are there names that you feel are overdone that would have normally been contrarian for you?

[00:19:53] Hugo Lavallée: No, I actually think it's been a little bit the opposite. If you go back to what I said earlier, cyclical versus secular, the cyclical's been tough. From restaurants to selling boats to snowmobiles to housing to plumbing to transport, it's been tough. It's been really tough. You see in the data, you see in the numbers, the companies have been underearning. I actually think that the concentration into AI data centres, electrification, nuclear, all of these thematic has meant that the rest of the market's been a little bit left for dead. I just don't think there's a lot of people playing in those waters. I think it's the opposite, Glen. I think the concentration of secular, in a world that's not growing or not doing very well  what's growing and what is doing well gets a really big high bid. I've seen that before.

[00:20:52] I saw it in '07 when it was all about potash and energy. Couche-Tard was 12 times earnings because nobody cared, and they were having issues with volume and margins. History's never the same, it rhymes a little bit, and I think when you get these really narrow markets you've got some style that do really well, some other style that struggle, like being contrarian. Eventually when it switches you catch up really, really fast. We'll see what the future brings but that's how I've been thinking about it.

[00:21:22] Glen Davidson: It sounds like the left for dead category is still quite vast and big for you, which all of us listening today are happy about.

[00:21:32] Hugo Lavallée: It's not narrow at all.

[00:21:32] Glen Davidson: Okay, good.

[00:21:34] Hugo Lavallée: Super vast, super vast. Well, good and bad, it's been bad for me. Super vast, ton of ideas. Greater Canada's fully invested. It's not like we're running out of ideas here.

[00:21:43] Glen Davidson: Fully invested, you're not running a big cash position, if at all. With the volatility in the market you see opportunities that present themselves, you wake up in the morning, you're excited about, do you have to sell a name in order to acquire it? Have you got enough cash sitting there? How are you dealing with opportunistic opportunities?

[00:22:01] Hugo Lavallée: Actually, Glen, I almost wake up every day in the middle of the night, and then I try to fall back asleep. But yes. Look, I mean, the fund's big. There's always things you can do and there's liquidity and I tend to own pretty liquid stocks. But I am fully invested. I was looking at it yesterday, the fund was doing pretty well. I'm like, do I wanna push this cyclical bet? If I want to do it I'm gonna have to sell something. So you're staring at the funds thinking, okay, what's my least favourite idea and I can trim a little bit. But it's okay, it's very manageable. It's not unmanageable.

[00:22:37] Glen Davidson: I see TD and Royal Bank in your top ten for Greater Canada. Thoughts on financials in Canada.

[00:22:46] Hugo Lavallée: On the banks, I think we had a strong thesis a year ago. We saw Canada having a tough time and we didn't want too much cyclical exposure, i.e. to the consumer to housing. Frankly, I think I and maybe others had to pivot in August. I think it was a good thesis. Canadian housing is down 17, 18% since the peak in February of '22. It's worse than 1990, it's worse than 2008. There's losses being taken somewhere but it looks like the bank oligopoly has worked. Their non-performing loan's gone up but it hasn't really created a credit cycle. I had to pivot and buy a little bit more Canadian banks. I own, I think, four of them right now in Greater Canada. I'm still on the way. I don't do a ton of financials but I think we had a solid thesis. It hasn't worked out. We had to pivot a little bit. With the Prime Minister we have focused on the economy, central bank having cut interest rates, I don't want to get too negative. There's definitely losses. We've seen it in a few public companies but, I mean, maybe famous last words but it looks like the bank oligopoly's worked. Some other people are taking losses. I need to be there a little bit more and that's what I've done. That's what I've corrected the last three months.

[00:24:21] Glen Davidson: Shopify and Dollar Tree I see in the top ten as well. Back to the consumer, just thoughts there.

[00:24:28] Hugo Lavallée: Yeah, I mean, it's a little bit different. Shopify quickly, that's one thing I did well during Liberation Day. I think Dollar Tree's gonna try really hard to do that. That's what I'm excited about. That's the positive thesis.

[00:27:36] Glen Davidson: Morningstar has you as a — and I know you hate when I tell you this because you're very humble — but they have you as a very highly rated equity manager because over time you really pay off. Your patience pays off and it's worth investing with Hugo Lavallée, according to Morningstar, according to so many investors. What contributes to your patience? How did you learn your patience? Because it's not easy in a volatile market like this, is it?

[00:28:01] Hugo Lavallée: I take my job seriously. I don't take myself too seriously. You and I spoke in Arizona. I don't have articles of me or prizes or definitely not pictures. I have one thing in my cubicle here in Montreal, my rejection letter from Fidelity. When I applied the first time they rejected me. It's dated November 2nd, 2000. I think it reads something like, every year it gets tougher, blah, blah, blah, blah, blah. We're impressed by your resumé but we can't make you an offer. We wish you good luck in the financial industry and think it will be successful. And now here I am. I keep that on my desk to keep me humble. Patient is maybe my best virtue as an investor, it's also my worst. It's a balance. That's why this job is intellectually stimulating. It's a thin line between being patient on a security and being stubborn. I'm still learning that skill 23 years in. For me, contrarian works over time because a lot of people can't do it, but it doesn't work all the time, and it hasn't worked the last eighteen months. I'm optimistic and hopeful that it will work in the future again.

[00:29:19] I think I've lived through markets like these where the market's really concentrated into secular ideas so the cyclical is really bad. I've definitely been more focused on the cyclical part of it and looking forward to things picking up. All my money's in my funds. I haven't bought a PA stock in 15 years. I'm all about fund holders. My money is in my three products. All my investment money is in my three products, 99% of it. I'm excited about doing well and keep adding capital over time. Every time I see that rejection letter on my desk it's a reminding to grind and and work hard, and that's what I'm doing. I'm very far away from retirement and I want to keep doing super well and that's what I'm focused on.

[00:30:10] Glen Davidson: Well, I hope in the least that you have your acceptance letter stuck on your fridge at home.

[00:30:15] Hugo Lavallée: I don't have that. I don't keep good stuff. Keep the bad stuff, keeps you humble.

[00:30:20] Glen Davidson: Hugo, you are also accessible through Global Equity+, you, Dan and Mark. Can you talk about the merits of Global Equity+?

[00:30:29] Hugo Lavallée: Glen, you came up with it, Neapolitan ice cream. It's a party pleaser, right? There's something for everybody in there. What I like about us being compared to Neapolitan ice cream is it keeps clients in the game. Right now I've had a tough 18 months but hopefully clients of Global Equity+, they're still pleased because Mark's done a really nice job, Dan's had a good year with Canadian Large Cap. Like I told you in Arizona, Glen, I can't wait for a client to come up to me, I'm so happy you're part of Global Equity+, you're doing so well, you're pushing the fund up. I can't wait for that day. I think in this world of financial repression where governments are using policies to all make us a little bit poorer over time it's super important to keep compounding your capital, really important.

[00:31:22] We're our worst enemies as human beings. We get shaken out. Oh my God, market's down 20%, or I own this value fund or this contrarian fund, it hasn't done well and I should switch and I should go to cash or whatever. We need to keep our clients in the game to do better over time. I think it's a reality and a sadness that people get in their own ways of not staying invested. Why I'm super excited to be part of Global Equity+, and we're selling millions of dollars every day, is to keep clients in the game. It's never gonna be on top of the sheet, it's never gonna be at the bottom of the sheet. We're gonna keep clients in the game and I'm very blessed and happy to be part of that product and I wanna keep promoting it. Look, we're not saving lives here. My wife's an ex-nurse practitioner. I literally saw her save a life once in a restaurant on a woman choking on food. That's not us here. We're not making the world a play a better place, we're not saving lives.

[00:32:36] Glen Davidson: Well, we'll stick with your ice cream analogy. I know our viewers are thinking vanilla is just fine. Hugo, your patience is appreciated and it's gonna definitely pay off and it has in the past. Thank you very much for your time today, Hugo Lavallée.

[00:32:50] Hugo Lavallée: Thanks, Glen. Thanks for having me everybody. Take care.

[00:32:53] Glen Davidson: Coming up on Fidelity Connects, tomorrow, join us for our monthly regulatory webcast. Andrea Rigobon sits down with Alexandra Williams, CIRO Senior Vice President of Strategy, Innovation and Stakeholder Protection. She'll highlight CIRO's top priorities and provide an update on its planned initiatives for 2026. This webcast will feature live French interpretation.

[00:33:13] On Friday Fidelity equity research analyst Jin Hwang will explain how Canada's energy sector is faring in Q4. Plus he'll discuss fossil fuels, renewable energies, nuclear, and uranium, as well as developments in pipelines and trade.

[00:33:26] On Monday we'll kick off the week with Jurrien Timmer, Director of Global Macro, complete with his always engaging charts and market views. Thanks for watching. I'm Glen Davidson. Take care.