The Canadian stock market has been volatile between April 2022 and April 2024, yet grew only 1.4%. Behind the tepid performance was the rising interest rates that limited growth. When the interest rate cuts began in late June 2024, the TSX Composite Index picked up momentum, rising 18.8% in seven months from June 21, 2024, to January 29, 2025.
One Canadian stock that beat the TSX time and again is Constellation Software (TSX:CSU). The stock price surged 64% between April 2022 and April 2024, significantly outperforming the market. When the stock market picked up momentum on June 21, 2024, Constellation stock surged 24%, again outperforming the market by a small margin.
What makes this Canadian stock continue to crush the market?
Constellation Software stock was beating the market even before the pandemic. It recovered after every major economic crisis, from the 2008 Financial Crisis to the 2022 tech bubble burst. The dip during the crises presented an opportunity to accumulate more shares of Constellation.
You may wonder how Constellation overcomes crises. The tech company harnesses the power of compounding to crush the market. We often look at hedge funds and investment companies like Brookfield Corporation and Fairfax Holdings to earn from their sound investment decisions and risk mitigation strategies. Constellation works on similar lines. It invests in businesses it sees opportunities in, and allows them to operate independently.
Some investments break records and offset the losses from other investments. The net returns are reinvested in new businesses and the procedure repeats. While compounding may not generate strong returns in the initial years, it attains a point where growth becomes a byproduct of the investment. The money keeps compounding and the diversity these investments bring makes the company strong enough to withstand an economic crisis.
Taking investing lessons from Constellation Software
Constellation Software has created a base model to shortlist the companies it wants to invest in. It selects the company that ticks the following boxes:
- Mission critical application – to make it immune to economic crises
- Regular cash flows – to ensure liquidity to compound returns
- Vertical-specific software companies – to group companies and benefit from any trends springing up in a specific sector
Lesson 1: Constellation keeps exploring and shortlisting the companies it wants to acquire. It then negotiates and makes an all-cash deal without taking any leverage. This helps reduce the cost and enhance returns. As an investor, you can add tech stocks to your watchlist and do your due diligence. When the stock falls, you can buy the stock in cash and take the delivery.
Lesson 2: Look for stocks that have mission-critical offerings as such stocks have strong business continuity. Even if the price of these stocks falls, the company’s strategic relevance makes the stock a buy.
Lesson 3: Consider investing in stocks that pay regular dividends and even grow them. You could take the dividend payments and reinvest them in the next good opportunity. If you don’t have time, you could consider investing in stocks that offer a dividend reinvestment plan (DRIP).
Lesson 4: Have a diversified portfolio of stocks spread across different verticals. Having an investment in a stock in every vertical with regular cash flows can help your portfolio tap sectoral trends early and reduce downside risk.
Stocks worth buying using Constellation’s model
Canada has some goods stocks that meet the above requirements.
Telus Corporation (TSX:T) has a mission-critical service offering of telecommunication services. It enjoys regular cash flow from subscription money, which it passes to shareholders as dividends. With an annual dividend growth rate of 7% and a DRIP option, it can give you cash to reinvest in other stocks or Telus itself. Accumulating Telus shares at its current dip can give your portfolio an edge in the telecom vertical, which could see secular growth with the rollout of 5G.
goeasy is another stock in the vertical of sub-prime lending that reinvests loan repayments to lend again. It earns through interest and processing fees and passes on the cash flow to shareholders as dividends. Since its customers are individuals from various walks of life and its lending is flexible, goeasy’s business is sustainable during a crisis.
