Canadian stocks are set to outperform U.S. peers in 2023, according to experts who see the finance and resource-heavy market besting American indices with larger weightings in growth sectors like technology.
High-valued tech stocks, a major contributor to strong North American equity markets in recent years, were a weight around the neck of both the S&P 500 (^GSPC) and Canada's S&P/TSX Composite index (^GSPTSE) last year.
In Canada, 2022 saw shares of Shopify (SHOP.TO)(SHOP) almost single-handedly drag the market into the red as its stock plunged. It was an about-face from earlier in the year, when the Ottawa-based e-commerce giant and pandemic-era investor darling dethroned Royal Bank of Canada (RY.TO)(RY) as the nation's most valuable public company. In the U.S., the tech-heavy NASDAQ Composite (^IXIC) collapsed 33 per cent last year.
Meanwhile, strong energy prices favoured the resource-rich Canadian market, where energy stocks represent more than 18 per cent of the main index, topped only by financials at over 30 per cent. Energy makes up about five per cent of the S&P 500, and about 3.5 per cent of the Dow Jones Industrial Average (^DJI).
Driven by rising oil prices, the fossil fuel energy sector had been a strong performer on both sides of the border last year. The iShares S&P/TSX Capped Energy Index ETF (XEG.TO), a basket of TSX-listed energy stocks, and its U.S. equivalent iShares U.S. Oil & Gas Exploration & Production ETF (IEO), gained 48 per cent and 52 per cent, respectively, in 2022.
"For a change, U.S. equities were not leaders in 2022," CIBC Capital Markets head of portfolio strategy Ian de Verteuil wrote in the bank's 2023 equity outlook report.
"Even with a robust greenback, the S&P 500 was middle of the pack in terms of returns. The leaders were commodity-oriented indices, with Australia and Canada populating two of the top three globally, largely due to robust prices for energy."
With a mild recession and moderate recovery in mind for this year, CIBC recommends overweight positions in Canada's energy sector in 2023 due to favourable supply/demand dynamics, calling shares in Canadian pipelines and oil and gas producers "relatively cheap."
Outside of energy, the report suggests the communications and utilities sectors as defensive positions amid weaker corporate profits and "sticky" inflation.
"The good news is Canadian equities should outperform in our view," CIBC wrote in the report, which calls for modest single-digit returns for equities in 2023. "The S&P/TSX Composite is already well below its longer-term average price–earnings ratio, with an attractive dividend (and buyback) yield."
We believe investors should remain overweight Canada heading into 2023Brian Belski, chief market strategist at BMO Capital Markets
Brian Belski, chief market strategist at BMO Capital Markets, says stocks on the Toronto Stock Exchange have thus far done a better job of repricing slowing earnings growth and fears of a recession in 2023.
"As such, Canada remains well-positioned for near-term outperformance which, in our opinion, will translate into mild outperformance versus the U.S. in 2023, as valuations begin to converge," he wrote in a note to clients. "Overall, we believe the Canadian stock market will attain mildly higher prices from current levels, with a 2023 year-end price target of 22,500."
With the fight between central banks and inflation expected to persist in 2023, Belski notes TSX stocks have outperformed the S&P 500 in seven of the last 10 rising interest rate cycles since 1979.
"Furthermore, in the last six rising rate periods, the TSX continued to outperform the S&P 500 six months after the peak, suggesting this outperformance could have some momentum through 2023," he wrote. "Overall, we believe investors should remain overweight Canada heading into 2023, but remain selective and tactically agile given the evolving inflationary and interest rate environment."
Vanguard Canada senior investment strategist Bilal Hasanjee says U.S. stocks benefited from a safe-haven status as COVID-19 and Russia's invasion of Ukraine rattled global markets. Those inflows, he says, led to overvaluation.
"U.S. equities are still on the higher side of the valuation spectrum compared to Canadian equities, especially in the growth sector of the market. Canadian equities, on the other hand, because of a tilt towards value due to banking and energy, we expect to be delivering good returns over the next decade or so."
Hasanjee, who prefers to issue longer-term forecasts, is calling for a 4.75 to 6.75 per cent median return on Canadian equities over the next 10 years, compared with four to six per cent in the U.S.
Jeff Lagerquist is a senior reporter at Yahoo Finance Canada. Follow him on Twitter @jefflagerquist.