Build a Superior Portfolio Instead of Buying the TSX Index

Forget about the TSX index and buy Vermilion Energy Inc. (TSX:VET)(NYSE:VET) for a +7% yield today and another tech stock for double-digit growth today!

Kay Ng

Kay began investing in dividend stocks around 2008 via the concept of value investing. Since then, she has expanded into growth investing, including in small caps. Her passion for investing has only grown over the years! After graduating from UBC with a BSc in Computer Science, she took university courses in financial markets, finance, and financial accounting. She has contributed her works to Motley Fool, Sure Dividend, and Seeking Alpha.

Published October 26, 2018 9:51 am EDT

The S&P/TSX Composite Index (TSX:^OSTPX), or the TSX index for short, covers about 95% of the Canadian equities market. So, the TSX index serves as a good gauge for the Canadian stock market. However, it’s a horrible long-term investment.

It had a five-year upside of 15% and a 10-year upside of 33%. You can get much better returns from a well-crafted portfolio.

The TSX index is not diversified

Despite having 248 stocks, the TSX index is not as diversified as you might think. The index is heavily weighted in financials and energy.

As of the end of September, its sector breakdown was 34% financials; 19% energy; industrials 11%; materials 10%; communication services 5.3%; consumer discretionary 44%; information technology 4.1%; utilities 3.7%; consumer staples 3.4%; real estate 3.1%, and health care 2%.

Create your own customized portfolio

When you build your own portfolio, it can be as conservative as you make it, generate as much income as you need, and target the total returns you want.

For example, if you need income, Vermilion Energy (TSX: VET)(NYSE: VET) is a steal with a nearly 7.3% yield as of writing. The stock also looks cheap from a price-to-cash-flow ratio perspective, as it trades at 2009 valuation levels!

Its global portfolio is also the most diversified as ever, especially after Vermilion gobbled up Spartan Energy’s quality assets at an excellent price this year.

Businessman using calculator next to laptop — Image source: Getty Images.

The TSX index has poor exposure to the communication services, consumer discretionary, information technology, utilities, consumer staples, real estate, and health care sectors.

I’m not saying you necessarily need to have exposure to all sectors. However, you might wish to gain stability for your portfolio via consumer staples, boost income via utilities and real estate, and spur growth via information technology. When you tailor make your own portfolio, you can do all that.

One particular tech stock that I like for stable growth is OpenText (TSX: OTEX)(NASDAQ: OTEX). It serves a growing global market, as companies need to handle more and more information.

Management has done a superb job in making acquisitions that have widened the company’s moat and grown the company’s profitability over a long period.

The split-adjusted price of OpenText was US$1 per share in mid-2001. Now it sits at US$34 and change. It would still have been a four-bagger for a new investment in late 2007 — right before the last market crash.

At the helm is Mark J. Barrenechea, who serves as vice chairman, CEO, and CTO and is still relatively young at age 53. He has been CEO since January 2012. Since then, the stock has compounded at an annual growth rate of about 17% with earnings and cash flow growth that fully supported the climb.

I expect the company to continue growing 10-15% per year. The recent dip is an appetizing opportunity to pick up some shares at a reasonable price. In fact, some analysts think the stock is undervalued with about 30% upside potential in the near term.

Investor takeaway

By carefully building a customized portfolio, investors can easily beat the income generation and total returns of the TSX index. Right now, investors should seriously consider Vermilion and OpenText for outsized gains.