Re-visiting Canadian preferred shares

Back on June 24, 2019 I put a notification out that Canadian preferred shares were looking interesting, but really flubbed with the timing. At the time 5-year government bond yields were 20 basis points less than today.

Sadly my sense of market timing let me down and I was only able to procure a 1% position in a rock-solid issuer’s preferred shares. Too bad – was looking at deploying a significant amount of cash there but this one got away from me. Early June perhaps was the time to get in.

It’s pretty obvious a bunch of institutional money stampeded into the market and this gets bubbled into algorithmic purchases of these securities, which typically have quite large spreads.

In general, however, I do note that physical infrastructure preferred shares (e.g. energy, Brookfield, etc.) exhibited a much higher price increase than financials – the typical rise for a physical infrastructure preferred share trading at 2/3rds of par value has been around a dollar, while the financials have had about half of it. In most instances, securities trading with “minimum rate resets” have been ridiculously overpriced, but there was one that looked reasonably attractive for “boring capital”.

If 5 year yields drop again we could see prices on preferred shares drop again – I’d welcome it. In the meantime I’ll look elsewhere.

Canadian natural gas producers

I have taken a small equity position (roughly 2.5% each) in two Canadian natural gas producers. I’ve exhaustively looked at the (not obviously insolvent) producers that are at least 75% natural gas boe equivalent and chosen the two companies I’ve deemed ‘best’ in lieu of just making a home-brew index of all of them.

This is not a particular call on the natural gas industry in general – right now the economics are absolutely horrible for Canada. There have been some days where spot pricing has been such that you have to pay to give away your natural gas! The federal government is hell-bent on destroying the fossil fuel industry. The USA has shale gas coming out of their… well, you know. There’s no hope and only despair!

Sounds like a good time to invest.

However, run the thought experiment on every company you look at: “Let’s pretend you could acquire 100% of the company’s equity for ZERO, but had to take a personal guarantee on their outstanding debt. Would you take them over?”

Under the right conditions, a lot of these companies will double, triple or even quadruple their equity prices. The timing is unclear, but we will see. I remember getting into oil and gas for a short-lived foray in 2014 that exhibited a colossal amount of stupidity, but will this time be different?

More cash parking options

I’ve written a lot about some cash parking options – whether they are short-term bond ETFs, or short-duration target-maturity ETFs. Interactive Brokers currently gives out 111bps on Canadian cash, but there are higher yielding options with less risk.

I’ve discovered another vessel for cash parking: a high interest savings ETF (TSX: PSA), which simply invests in cash accounts held at credible financial institutions (National Bank, Scotia, Manulife, and some BC credit unions). They give out a net yield of about 2% (215bps minus 15bps expenses) with zero duration risk, and this is paid out monthly. There is a market maker which keeps transaction spreads to a penny at ample levels of liquidity.

Even VSB.TO (Vanguard’s short term bond ETF) has a YTM of 190bps and an MER of 10bps, plus you take the 2.6 year duration risk if interest rates change.

I’m surprised I haven’t encountered the zero-duration option (aside from cold hard cash) before.

I’ve recently sold out what used to be my largest position and I’ve once again found deployment of cash to be a pleasant, yet annoying problem. Future returns are likely to be muted by the levels of cash in the portfolio.

Tobacco vs. Marijuana

This headline passed by my radar: Japan Tobacco Wins Court Protection in Canada Over Smoking.

In both US and Canadian jurisdictions, governments have been engaging tobacco companies in civil litigation over the undisclosed risks of smoking. The majority of drama settled in the late 90’s in the USA, but things in Canada have taken longer.

According to the article:

The lawsuits were in favor of smokers seeking damages for addiction and smoking-related diseases, who argued they were never warned of the risks.

There are no longer any Canadian publicly traded companies that deal with the tobacco industry, although you can invest in Philip Morris (most associated with the Marlborough brand) in the USA.

However, this gets me thinking – 20 years down the line, when rampant consumption of marijuana is determined to be a cause of the breakdown of the brain’s normal functioning in older age, will governments decide to go after marijuana companies for not disclosing this hitherto undisclosed risk of consuming too much THC? What about second-hand smoke, which is more abundant than ever on the streets now that marijuana is legalized?

I try not to allow politics or morals interfere with objective investment analysis, but the double standard that is applied between tobacco and marijuana is amusing, to say the least. When marijuana is no longer in favour, watch out!

A minor tax note for Canadian investors

Canada Revenue Agency rules state that the settlement date, not the trade date, is the determinant of when you have disposed of a security.

Hence, if you wish to liquidate stocks on the public exchanges and have these transactions count for the 2018 tax year, you have until the close of trading on December 27, 2018 to do so for the trade to settle on December 31, 2018.

I would expect given that Q4-2018 has been one of the worst performing in quite some memory, that this would be a consideration for many investors to have the CRA share their losses in 4 months (when filing for taxes) than 16 months later.