This document provides a market outlook and analysis by Timothy E. Burt. It discusses the following key points in 3 sentences: 1) Despite improving economic fundamentals, stock markets continue to be held back by ongoing issues like the European debt crisis and slowdown in China. Investor psychology remains pessimistic and money is flowing out of stocks and into bonds. 2) However, this negative environment has created opportunities to buy great companies at low prices, as P/E ratios and stock yields are historically attractive compared to low bond yields. 3) The outlook suggests markets may rise in the second half of the year as corporate earnings come in better than expected, but continued uncertainty around the US election and Europe means volatility will likely

1. Volume 17 Issue 3 July 2012
cardinal
quarterly
Market Outlook
by Timothy E. Burt, cfa
D espite improving economic fundamentals in Canada and the U.S.,
stock markets continue to be held back by the European banking
crisis and sovereign debt crisis, the economic slowdown in China, fears
of another recession in North America, and the uncertain U.S. Presidential
election. Market psychology remains pessimistic as investors continue
to shun equities for bonds and cash resulting in record low interest rates.
Money continues to flow out of stock funds and into bond funds. Investors
remain skeptical that the European financial crisis will be solved anytime
soon and won’t eventually harm our economies in Canada and the U.S.
The world’s major stock markets still trade below their 2011 highs and
well below their 2007 highs.
Strangely enough, this negative market environment has created one
of the best opportunities to buy stock in great companies at cheap prices.
P/E ratios are historically low and dividend yields are historically high.
Compared to bond yields, which are at record low levels, stock dividend
yields are extremely attractive. Most large capitalization stocks have dividend
yields that exceed 10-year government bond yields. This situation rarely Inside This Issue
happens and the few times that it has, have represented ideal times to
buy stocks. Unfortunately, most investors are fearful and would rather Cardinal Rules................ 2
earn next to nothing on bonds after adjusting for inflation than risk losing
principal in the near-term on stocks. Eventually, this will change as Investment Q&A.............. 3
investors realize that the world is not ending and normal market conditions
Cardinal Research........... 4
return. We know that the best time to invest in stocks is when no one
wants to. Market psychology has a way of changing over time from Cardinal News................ 4
positive to negative and back to positive again. Trying to time the peaks
and bottoms is impossible. We also know that in the long-run, the stock
market trends higher and stocks outperform bonds and cash.
Since the last major bear market bottom in March 2009, the stock
market has gradually moved higher with a series of corrections in 2010,
2011, and most recently this year. The latest correction lasted two months
continued on page 2...
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2. (April and May) and resulted in the S&P 500 falling 9.9%, Mitt Romney. It will all be decided on November 6, after which
the S&P/TSX dropping 11.5%, the FTSE-100 down 11.8%, we will get some clarity on future tax and spending initiatives
the DAX-30 declining 16.6%, the CAC-40 down 17.9%, and the coming out of Washington. We believe this high degree of political
ASX-200 dropping 10.9%. All of these markets have partially uncertainty has created an environment where corporations and
recovered from their early June lows. Recent efforts by the individuals are reluctant to spend money or invest. This is one
European and Chinese central banks to lower interest rates in reason why there is so much cash sitting on the sidelines, and
order to re-stimulate their economies have helped. Also, many business expansion plans and consequently job creation plans
European countries are now reconsidering their severe austerity are on hold. We believe that this log-jam will break soon after the
measures and planning to stimulate economic growth to end election. In the meantime, things continue to improve economically
their recessions. Ultimately, we believe that both the European in the U.S. There is now solid evidence that the U.S. housing
Union and the euro will survive in some form and that European market has bottomed, and house prices are rising again in most
leaders will find workable long-term solutions to resolving their markets. This has positive implications for personal net worth
fiscal problems. and consumers’ willingness to borrow and spend. Auto sales have
Fortunately, we live in Canada, which has a stable, fiscally also strengthened this year to near-normal levels. There is still a
conservative government, a sound banking system, and a resource lot of pent-up demand due to the aging fleet of cars on the road.
based economy with good growth prospects, In the long-run, we We think improving housing starts and auto sales will be a big
will be thankful that our largest trading partner is the U.S., and contributor to future job growth and economic activity.
not Europe or China. We are confident that the Americans will We believe that second quarter corporate profit comparisons
eventually get their dysfunctional government operating properly will continue to be positive and better than expected. As earnings
and once again get their economy back on track with strong results are reported over the next few weeks, the stock markets
economic growth. We are concerned that China may one day have will likely be pushed higher in July and August, unlike the
another major political upheaval similar to 1989 with an uncertain pattern we saw in 2010 and 2011. A new round of monetary
outcome. Eventually, China’s rapid economic growth will end and easing may also occur by the U.S. Federal Reserve Board if GDP
a severe recession will result, also with uncertain consequences. growth rates don’t improve soon. While interest rates are about
Centrally-controlled political and economic systems eventually as low as they can get, the U.S. Fed still has other tools at its
come to an end, and we are beginning to see a lot more protest disposal if needed. Overall, we think that the stock market will
movements in China. Hopefully, Canada will be careful about do better in the remaining two quarters of 2012. Historically,
increasing its economic exposure to China. U.S. Presidential election years are good stock market years,
Currently, the U.S. Presidential election race is too close to and we haven’t given up hope that this year will experience the
call with Barack Obama maintaining a slight lead in the polls over same results.
Cardinal modern financial world crumbled to dust. Banks suspended their
long history of dividend increases and rumors were that they
Rules would have to follow U.S. banks and drastically cut dividends.
On the other hand, company fundamentals told a different story.
Be Patient – By and large, the data indicated that our dividends were safe. The
The Sale Ends Soon! banks were worth far more than their market price. So why would
we sell them at far less than their real value? Because the market
By Henry Hudek, cfa
said we were wrong? When driven by fear, the market seems
W ith the stock market as highly charged and emotional as
this one has proven to be since the crisis of 2008, there
has often been a huge gap between what the fundamentals of a
blind to the facts. We believe that the only thing that determines
the real value of a company is its earnings and earnings growth.
Dividends, as you’ve heard from us before, are the strongest and
company say a stock is worth, and what that stock actually trades most reliable indicator of real earnings potential. Despite the
at. Situations like that try the patience of all investors. From common opinion, we were patient.
mid-2007 to early 2009, bank stock prices plummeted by half.
If you look at the Canadian market, the TSX is still down
By early 2009 Bank of Montreal’s share price had fallen so much
13.23% at the end of June 2012 from its peak on June 18, 2008.
the dividend yield reached 11%. For our Canadian Equity clients,
Those banks that were such a disaster? They did not cut their
about 25% of their portfolios were in bank stocks, yet headlines
dividends and have actually resumed dividend increases. The
predicted that bank stocks were going to disintegrate as the
continued on page 3...
2 cardinal quarterly

3. bank sector as a whole is up 33.4% over that same time period to believe this will continue. Cardinal takes opportunities like this
and that is in spite of the European situation still weighing heavily one to buy more shares of our oil companies as their prices have
on market sentiment. By continuing to own the banks our patience fallen. Could the markets be wrong again on this sector just as
has paid off. they were with the banks? We sure think so.
It appears that patience will once again be a necessity with Patience is the key to profiting from negative investor
our energy holdings. We see tremendous growth in production psychology but there is a possibility that the market may come to
from most of our oil companies, and even at current oil prices its senses soon. From June 28th to July 4th, our energy company
this growth will result in increased profits and increased dividends prices were up 7 – 10%...just because of a glimmer of sanity from
going into the future. There have also been huge increases in cash Europe! If the market fears start to diminish and logic prevails,
flows and material increases in dividends. We have every reason then this bargain sale on stocks might not last much longer!
Investment Q&A fundamentals. Eventually the stock prices of our energy companies
will reflect the real value that we see in the business, which is
Why did Cardinal sell Canadian Pacific Railway? substantially higher than today’s stock prices.
Beginning last October, Bill Ackman’s Pershing Square Capital David Atkins, cfa
Management pushed for changes in executive management at
CP Rail, including for the removal of the CEO Fred Green. Why has the market become more volatile again?
Ackman’s plan included the appointment of the railroading The market fell 11% from February 28th to May 18th, causing a
turnaround expert Hunter Harrison who was CN Rail’s previous small number of clients to consider fleeing the stock market
and very successful CEO. CP Rail adamantly defended their once again. The stock market is the only market where customers
existing management team. The drama between both parties will buy when prices are rising and run when things go on sale.
resulted in CP Rail’s stock price rallying over 60% from its At Cardinal, we would prefer investing more during a sale or at
September lows. This stock price appreciation occurred despite least safeguard clients’ investments so they are not sold at sale
the recent issues at CP rail, including weaker operating results prices. This ensures that clients will benefit once the sale comes
and balance sheet concerns, remaining the same. to an end.
We met personally with both parties to hear both sides of Many of our clients have been remarking on the extreme
the story and concluded that CP Rail had a lot of work to do to volatility of the markets these days and asking us if things are
make the changes necessary, but the stock price was already different this time because of the European sovereign debt
pricing in much of the hoped for improvements. We elected to crisis. Volatility is typical whenever there is uncertainty in the
sell CP Rail rather than endure the turnaround that CP Rail will world, which is more often than people think. The markets have
be implementing over the next couple of years, which may cause survived two world wars and a Cuban missile crisis that makes
the share price to languish at these values for some time. today’s issues look miniscule. The Cardinal investment approach
David Atkins, cfa survived the Asian currency crisis that led Russia to default, the
tech bubble, and the financial crisis of 2007-08. There will always
Why have energy stocks been performing so poorly? be something investors can fear monger about whether it be the
Stock prices within the energy sector have performed poorly next recession, next crisis, or next bubble. While clients feel better
despite the very positive fundamentals of the companies in which when their portfolio values reach new highs, it is the market’s fears
we invest. One might assume that purchasing almost any stock that create low valuations and therefore great opportunities for
on March 9, 2009 (the market low during the financial crisis) creating long term value for investors.
would have provided investors with a positive return on their Despite attractive valuations, growing corporate profits, and
investment today. Suncor Energy, however, traded at $29.86 on attractive dividend yields, most stocks remain out of favour in
that day and just closed at $29.44 at the end of the most recent anticipation of another summer swoon. We know that as long as
quarter. Suncor’s languishing stock price is perplexing knowing we continue to focus on company fundamentals the stock prices
that the price of crude has doubled, the company’s cash flow per will take care of themselves over time. In the meantime we will
share has tripled, and the dividend has increased 160% during continue to do what we do best: be patient, research, and invest
the period. Although the stock price has not rewarded investors in the best available opportunities to create long term wealth and
for the company’s strong performance, we will continue to income for clients.
focus on what truly matters over the long-term: the company’s
David Atkins, cfa
Volume 17 • Issue 3 • July 2012 3

4. Cardinal Research DIVIDEND INCREASES
Canada % Increase
Medtronic Canadian Real Estate 3.5%
by Sheila Wilson, cfa H&R Real Estate 4.4%
M edtronic is a leading maker of medical devices that are both lifesaving and can greatly increase
quality of life. These include pace makers, internal defibrillators, heart valves and insulin
pumps. We like Medtronic for its market leadership, attractive valuation and potential to benefit
National Bank of Canada
Suncor Energy Inc.
5.3%
18.2%
from upcoming demographic changes. On June 1, we attended Medtronic’s (MDT) Investor Day in
U.S.A. % Increase
New York City and were briefed by senior management and held discussions with other analysts.
Exxon Mobil Corp. 21.3%
Two important demographic shifts are expected to increase demand for healthcare products.
First, the aging population in developed markets and second, the expanding middle to upper class General Mills 8.2%
in emerging markets that can now afford to buy medical devices. Heart disease and diabetes are HJ Heinz Company 7.3%
becoming more prevalent as people age and obesity has become the number one health issue
International Business
worldwide. Developing countries are stamping out the devastation of infectious diseases, so people
Machines 13.3%
are living longer and are therefore more likely to develop age onset diseases.
Intel Corp. 7.1%
Because of the tailwind of these demographic changes, Medtronic’s product depth, reputation
for quality products, and large international presence, we expect Medtronic’s sales to grow over Kellogg Co. 2.0%
the long-run. Market share in the medical device market also tends to be stable. Since medical Medtronic Inc. 7.2%
device companies’ products evolve with new technologies over time, we believe Medtronic can
Pnc Financial
confidently increase dividends without fear of economic downturns.
Services Group 14.3%
Medtronic invests significantly in R&D to keep ahead of competitors and develop new products. Source: Bloomberg
But even after R&D investments, they still have plenty of free cash flow left for investors – almost Reported in domestic currency
$4 billion in the fiscal year ended April 2012, for a free cash flow yield of 9%. Only about half of
those cash flows are currently used to buy back shares and pay dividends. Medtronic has been
paying a dividend since 1979 and has increased the dividend annually and yields 2.7%. We believe
Medtronic’s price is also attractive with shares trading at a 15% discount relative to its peers and
a 25% discount to its 5-year historical price/earnings average. Add in peer leading margins, an
excellent return on capital and reasonable debt levels, and we see a company that can deliver steady
shareholder returns along with lifesaving medical technology.
Cardinal News
Cardinal is celebrating our 20th anniversary on August 19th, and we officially opened our doors in Calgary, just in time for
the Centennial Calgary Stampede. Our new office is located in the Springborough Professional Centre in the Southwest end
of town at 30 Springborough Blvd. SW, Unit 250.
We welcome Corren Piercey back from maternity leave who returned to our Administration team in April. Also, two new
members have joined the Business Development team. Angela Wheatley, CFP recently joined us in May as Gerald Butler and
Ron Malech’s new assistant. Michael Douglas has started with Cardinal as an assistant to Brian Coughlin for the summer.
Michael expects to be completing his law degree later this year.
Our newest co-op student to Cardinal is Allie Zyla, a student from the Asper School of Business at the University of Manitoba.
Allie will be with us for the summer working as a Research Assistant with our Investment Team.
Notice to Readers: Unless otherwise noted herein, the sources of all performance data in the Cardinal Quarterly is Bloomberg and Cardinal research. The Cardinal Quarterly is prepared for general informational
purposes only, without reference to the investment objectives, financial profile, or risk tolerance of any specific person or entity who may receive it. Investors should seek professional financial advice regarding
the appropriateness of investing in any investment strategy or security and no financial decisions should be made on the basis of the information provided in this newsletter. Statements regarding future
performance may not be realized and past performance is not a guarantee of future performance. This newsletter and its contents do not constitute a recommendation or solicitation to buy or sell securities of
any kind. Investors should note that income, if any, from any investment strategy or security may fluctuate and that portfolio values may rise or fall. Cardinal Capital Management, Inc. does not guarantee the
accuracy or completeness of the information contained herein, nor does Cardinal assume any liability for any loss that may result from the reliance by any person upon any such information or opinions. The
information and opinions contained herein are subject to change without notice.
© 2012, Cardinal Capital Management, Inc. ALL RIGHTS RESERVED. NO USE OR REPRODUCTION WITHOUT PERMISSION.
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