Not finding a lot to invest in

Barring any investment discoveries in the next month, the cash balance I will be reporting in June is going to be a considerably high fraction of the portfolio.

While cash is great, it also earns zero yield.

Compounding this problem is the majority of it is in US currency.

Unfortunately I have done some exhaustive scans of the marketplace and there is little in the way of Canadian fixed income opportunities (specifically in the debenture space) that I have seen that warrants anything than a small single-digit allocation. I would consider these to be medium reward to low-medium risk type opportunities. Things that won’t be home runs, but reasonable base hit opportunities.

Rate-reset preferred shares have also piqued my interest strictly on the basis of discounts to par value and some embedded features of interest rate hike protection, but my radar on future interest rates is quite fuzzy at the moment (my suspicion is that Canadian yields will trade as a function of US treasuries and the US Fed is going to take a bit longer than most people expect to raise rates since they do not want to crash their stock market while Obama is still in the President’s seat).

I have yet to fully delve into the US bond space, but right now the most “yield-y” securities in the fixed income sector are revolving around oil and gas companies.

There are plenty of oil and gas companies in Canada that have insolvent entities with outstanding debt issues, so I am not too interested in the US oil and gas sector since the dynamics are mostly the same, just different geographies.

I’m expecting Albertan producers to feel the pain when the royalty regimes are altered once again by their new NDP government. There will be a point of maximum pessimism and chances are that will present a better opportunity than present.

Even a driller like Transocean (NYSE: RIG) that is basically tearing down its own rigs in storage have debt that matures in 2022 yielding about 7.9%. If I was an institutional fund manager I’d consider the debt as being a reasonable opportunity, but I think it would be an even bigger opportunity once the corporation has lost its investment grade credit rating.

Canadian REIT equity give off good yields relative to almost everything else, but my deep suspicion is that these generally present low reward and low-medium risk type opportunities. Residential REITs (e.g. TSX: CAR.UN) I believe have the most fundamental momentum, but the market is pricing them like it is a done deal which is not appealing to myself from a market opportunity.

The conclusion of this post is that a focus on zero-yield securities is likely to bear more fruit. While I am not going to be sticking 100% of the portfolio in Twitter and LinkedIn, the only space where there will probably be outsized risk-reward opportunities left is in stocks that do not give out dividends. It will also be likely that a lot of these cases will involve some sort of special or distressed situations that cannot easily be picked up on a robotic (computerized) screening.

I would not be saddened to see the stock markets crash this summer, albeit I do not think this will be occurring.

11 thoughts on “Not finding a lot to invest in”

  1. I’m currently looking at PHO (Photon Control) on the Venture.. it manufactures all kinds of sensors. Ever heard of it?

    Looks interesting at C$0.63, with 103M shares out, ~C$0.14 in cash, no debt, growing revenues (+22% yoy) and trading at P/E of ~12 (about ~16 if you correct for FX). It does not (yet?) pay a dividend.

    My due diligence is early stage but PHO already looks better than anything PNP ever had 🙂 The only disadvantage I can think of is that you can actually value PHO.. so no ‘3-rd party valuations’ of ‘over $1 billion’ (POET anyone?).

  2. @jules: Despite CFX being in my backyard I’m not interested in pulp at this stage of the industry cycle. Same thing applies to CFP at present (noting that lumber commodities have mysteriously gone south lately).

    @Baltasar: Thanks for the suggestion. Never heard of PHO (other than the noodle bowl!) before, but looking at the chart, you would have been sitting pretty if you picked it up a couple years ago before anybody knew about it. PNP would never invest in them because PHO makes money. 🙂

    But seriously, skimming through PHO’s financials, there’s some customer concentration risk, and I wonder how big the industry actually could be. Finally there’s this very strange arrangement with their R&D and Payroll/IT related party entities… but on the surface, yes, I’d rather have my money in them than PTK for sure.

    However, I doubt I’ll invest in either.

    I’ll toss another another “missed” opportunity that I’ve been watching for many years but lost patience: TPK.

  3. Have you looked at some of the Enbridge US pay rate resets like ENB.PF.U or ENB.PR.V? They seem to trade very cheap vs the Canadian equivalent with similar reset dates like ENB.PR.B but the “Canadian equivalents” have much lower resets and obviously a much lower 5 year bond rate to reset to as well (for now at least). The argument is of course that the curves should be different but they were originally issued with the same coupon because Canadian retail didn’t care.

    Anyway, I find it a good place for USD yield with Canadian tax treatment and potential for capital appreciation because unlike most Canadian rate resets, these will have a dividend bump on reset (most likely).

  4. Not sure if you liked the ENB preferred idea but some other preferreds you might want to check out are DRM.PR.A and DC.PR.C

    They were created from DC.PR.C from when Dundee Corp (DC.A) spun off DREAM Unlimited (DRM). Both are retractable (DC.PR.C in 6/30/16 and DRM.PR.A immediately) and there just aren’t many of those left in the market. I think the only reason they trade at or below their retraction prices is because they are not rated and preferred funds can’t or won’t own them.

    Both are redeemable too but in my discussions with management, I come away thinking they will be outstanding indefinitely which gives them both YTM’s above 7% (based on the bid) which isn’t bad for effectively short term debt because of the retraction feature.

  5. ENB is a complex entity that would warrant a book, but I’m generally not interested in their preferred shares. Their leverage also makes you wonder what will happen in 30 years if the oil stops flowing… I simply don’t have enough wisdom to figure out whether yields will stay at the 4.5-5% indefinitely or whether you’ll take a capital hit and see higher yields in the future on this one.

    Dream I found a little more interesting (I knew of the spinoff but never gave it much research), but their preferreds are trading awfully close to their redemption/retraction rate ($7.16) and one would think management would like to swap a 7% after-tax cost with a BA+2.5% tax-deductible loan… so while this doesn’t seem like a bad bet to park cash it doesn’t appear it will last too long. This is also completely ignoring business risks regarding other real-estate related aspects of their business.

    But I do like what you’re thinking about that one. DC also looks like a reasonable place to park cash for a year, collect your 5% coupon, then redeem and move on to the next best thing. Not huge value, but better than nothing.

  6. Thanks for replying.

    I see where you are coming from on the ENB prefs. The thing that caught my eye was the relative valuation between the C$ prefs and the US$ prefs. But you can only truly appreciate that if you set up a pair trade.

    On the DRM.PR.A, they are actually retractable higher than the current price until June 30, 2015. So you can buy it at $7.20, pick up 12.5 cents in a three weeks and retract for $7.23. That deal ends soon though, then it goes down to $7.16 as you noted. I spoke to the CFO at the AGM earlier in the month and
    because of the relative size of the issue and some other priorities I came away fairly confident they have no intention of redeeming the preferreds. I’m also not to worried on the real estate angle in the short term because of all of their real estate management contracts with various REITs. That cash flow is pretty stable and satisfies near term liquidity needs.

  7. Safety:

    I’ve taken the time to review them more formally. There are worse places to park cash than their retractable/redeemable preferred shares (both DC/DRM), but there is potential (improbable) exposure on the company’s optional equity redemption feature of the preferred in the event the common shares trade below $2/share.

    I can see how these can be considered as a short-term loan to the corporations in question at 5% and 7% respectively, assuming one gets a price that is very close to the redemption/retraction price.

    While 5% and 7% may seem relatively cheap it is after-tax, so pre-tax equivalent on debt is roughly 6.75% / 9.5% (assuming 26% blended federal/provincial rate) and I would not immediately take management’s word that these will be outstanding for an extended period of time. Most likely at the point they do a debt financing they’ll pull the plug after the last date where the redemption/retraction is cheapest.

    Liquidity on the issues is also garbage (at least on the buy side, if you want to sell, you can also dump it back to the company!). So for small portfolios one may be in luck here. Investors are reasonably compensated for risk compared to a typical 1.3% 1-year GIC rate.

    Thank you for an interesting study.

  8. I think mood media debenture mature at the end of October maybe a place to “park” some US$ cash temporarily. Obviously, there’s no retraction feature but a few hundred k on the bid at 99.75 and looks like management is redeeming them.

  9. I looked at them before they announced their recent US$50M debenture financing but it was an easy “no” from my perspective. Now that their financing is done, yes, it seems one can skim 5 months’ of coupons from them with only the risk that management may do a last-minute redemption for shares at 95% of market than cash if things go south with the company. Probably not.

Comments are closed.