After Air Canada (AC-T) settled a long-simmering labour dispute with its pilots’ union this week, averting a potential strike that could have begun as soon as Sept. 18, the stock rose 3.5 per cent.
But the bigger gains occurred over the previous six weeks. Despite uncertainty over how the dispute would end, the airline’s share price rallied more than 6 per cent from a low in early August.
Were these bets made by value-oriented investors who thought the stock was too cheap to pass up? Optimists who bet that level heads would prevail?
Perhaps. But the more compelling case is that some intrepid investors recognized that uncertainty was depressing Air Canada’s share price, which was down 27 per cent since the start of May. Just about any resolution to the labour dispute would prove to be a turning point for a rebound.
As anyone who buys a stock on a downturn knows, timing a recovery is tough to get right. But the longer-term payoff rests on a tantalizing pattern: A stock’s recovery tends to begin long before good news arrives.
Air Canada is just one recent example.
BCE Inc.’s (BCE-T) share price (full disclosure: I own the stock) was exploring 11-year lows in early July, when concerns about stiff competition for wireless customers, regulatory pressures, a heavy debt load, and an unclear future for its gargantuan dividend weighed on investor sentiment.
Since then, the share price has rebounded nearly 12 per cent – even though Moody’s Ratings downgraded the telecom’s credit rating in August and BCE announced this week the sale of its stake in Maple Leaf Sports & Entertainment in an effort to shore up its balance sheet.
Lower interest rates, which make dividend stocks look more attractive relative to bonds, is one factor helping the stock. But investors who pounced on BCE at its recent lows may have been betting that an old, bloated telecommunications company had plenty of financial levers at its disposal.
Toronto-Dominion Bank (TD-T) offers a third recent example of how buying into uncertainty can be profitable.
Concerns about the financial penalties TD will face in response to failures in the lender’s anti-money-laundering program in the United States have weighed on the stock for much of this year, making it a laggard within the banking sector.
However, by the time TD announced that it had set aside a whopping US$2.6-billion, in August, to cover potential penalties, the stock had already recovered 8 per cent from its low in June. It has gained another 9 per cent since then.
Though still well off its highs two years ago, the laggard has become a solid performer over the past three months.
In the case of Air Canada, investors were clearly rattled over the threat of a pilot strike as negotiations over pay dragged on through the summer.
Konark Gupta, an analyst at Bank of Nova Scotia, warned in a note that the last time Air Canada pilots went on strike, in 1998, flights were grounded for two weeks.
Yet, a settlement between Air Canada and its pilots raised another kind of risk: that the airline would end up caving in to union demands by offering large pay hikes.
Soaring compensation during a period when some North American airlines are contending with a glut of seats and weaker profits isn’t a great combination. In its latest quarterly financial results, released in early August, Air Canada said that its profits were down 51 per cent compared with the same period last year.
In the agreement struck last weekend, pilots will receive cumulative raises of 42 per cent over the four-year agreement, adding $1.9-billion in compensation costs over the life of the contract.
The increase was well above the 30-per-cent pay hike that Air Canada had offered. It also topped estimates from analysts, who had been anticipating slimmer raises of 30 per cent to 35 per cent.
But investors who drove the share price up on Monday didn’t see this as bad news.
The agreement averted a strike and removed “a key overhang that has weighed on the company’s share price,” Kevin Chiang, an analyst at CIBC World Capital Markets, said in a note.
Now investors can focus on the benefits of additional rate cuts by the Bank of Canada and the U.S. Federal Reserve, which could support economic activity and boost demand for air travel. Airline stocks, still well below their recent highs, could perform well in this environment.
But for those who seek rock-bottom prices, all the hand-wringing in the summer over contract talks marked the ideal time to buy Air Canada shares. For brave investors who like out-of-favour stocks, the uncertainty was a gift.