Small re-inspection of Bombardier

The on-again, off-again rumours regarding a billion-dollar injection with the Canadian government is purely negotiation strategies on both parts. The government wants to invest, but they also want to do it in a manner that allows them to save face. Conversely, the controlling shareholders of Bombardier want the money (it will indirectly end up in their pockets), but they also do not want to lose control over the gravy machine.

There will be a happy equilibrium where the taxpayers of Canada will transfer wealth to the owners of Bombardier, but the structure of the arrangement is up for debate. My suspicion is that some sort of arrangement will be made as long as they keep a certain number of jobs in Quebec, the Class A share owners will not be compelled to convert into Class B shares.

The credit market has been much more kinder to Bombardier, to the point where they can raise capital at a very reasonable rate:
2016-06-03-BBDYieldCurve

The Class B equity has been hovering at $2/share, with the control premium (Class A shares) being around 10% of late.

Floating rate preferred shares (TSX: BBD.PR.B) has been hovering around 8.4% yield, while fixed-rate with conversion risk (TSX: BBD.PR.C) has been hovering around 9.9% of late.

As I alluded to earlier, investors must make a distinction between revenues and profit, and Bombardier is focussed on revenues at the moment. They will continue to service their debt and preferred shareholders, but I do not believe equity holders will be receiving dividends anytime soon. There is also a significant overhang with the two Quebec deals, with a significant number of warrants outstanding at US$1.66 level – although these warrants are held by institutional owners (Quebec), this will be a valuation overhang which will serve to depress the maximum upside of the common shares. If it ever gets to the point where these warrants are exercised, it would buffer the serviceability of debt and preferred share dividends.

I am of the general belief that if Bombardier plods along and returns to a profitability at a level that is somewhat less than what they have touted in their 2020 vision, and that their C-series jet clearly has a “runway” of perpetual orders keeping the assembly lines busy, that BBD.PR.C would trade around the 8% level (or roughly $19.50/share). The credit markets are indeed pointing toward this direction.

Now the corporation just has to make money.

I am still long their preferred shares, but under the belief that a good quantity of upside has been realized by investors in relation to previous trading prices. I went long on preferred shares less than a year ago when there was a lot more gloom and doom, and having been called a “brave soul” by national media for doing so.

The very strange dawn of robotic marketing

This post is more of an experiment than anything from reading James Hymas’ May 25, 2016 post. A successful result will be me being sent a spam email by a robot. This is probably one of the most rarest times where receiving spam is a positive result!

On May 19, 2016, IGM Financial invested $50 million in Personal Capital, which is a robo-investing corporation.

Just so there is some information content in this post, there is clearly a scale where passive investing will deliver inferior absolute returns in relation to active managers. Although I have not done the detailed analysis (in terms of obtaining reasonable data in terms of capital flows and such), I would suspect we have already reached this point. Too much capital that is attracted to the main equities (TSX 60 and the like) will likely result in under-valuations in less liquid portions of the market – especially when there are market corrections and robotic investors decide to liquidate “roboticly” – i.e. without regard to price.

A very quiet May and some self-reflection

It has been a relatively calm month of May for me – I know the cliche of sell in May and go away has resonated in my mind, but my positioning is still quite defensive (very heavily weighted in preferred shares and corporate debt). One advantage of such a defensive portfolio structure is that it is relatively insulated to equity volatility.

The past three months have seen quite a significant performance gain and when there are gains this large I always ask myself whether it is sustainable. When I look at the fixed income components of my portfolio, I see higher room for appreciation from current levels as markets continue to normalize. For whatever reason, Canadian markets were heavily sold off in early February, especially in the fixed income space, and we are still continuing to see a normalization of these valuations.

There were a few missed opportunities on the way. I will throw out a bone for the audience and mention I was willing to pounce on Rogers Sugar (TSX: RSI) when it was going to trade below $3.75/share, but clearly that did not happen (sadly, its low point was $3.84/share) and it has rocketed upwards nearly 50% to $5.71 presently on the pretense that Canadians are going to have a sweeter tooth for sugar rather than corn sweeteners in the upcoming months (which is true – their last quarterly financial statements show an uptick in business and this should continue for another year or so and the market has priced this in completely).

My overall thesis at this point is that the aggregate markets will be choppy – there will not be crashes or mega-rallies, but there will be lots of smaller gyrations up and down to encourage the financial press that the world will be ending or the next boom is starting. When looking at general volatility, the markets usually find something to panic about twice a year and we had a large panic last February. The upcoming panic would likely deal with the fallout concerning the presidential election.

If net returns from equity are going to be muted, it would suggest that the best choices still continues to be in fixed income. The opportunities at present are not giving nearly as much of a bang for the buck in terms of risk/reward, but there are still reasonable selections available in the market. A good example of this would be Pengrowth Energy debentures (TSX: PGF.DB.B) which is trading between 94 to 95 cents of par value. Barring crude oil crashing down to US$30/barrel again, it is very likely to mature at par on March 31, 2017. You’ll pick up a 6% capital gain over 10 months and also pick up some interest at a 6.25% coupon rate. Worst case scenario is they elect a share conversion, but with Seymour Schulich picking up a good-sized minority stake in the company, I very much doubt it. (Disclosure: I bought a bunch of them a couple months ago at lower prices).

In the meantime, I am once again twiddling my thumbs in this market.

Reviewing one of my year-end predictions

For my December 31, 2015 new year’s predictions, I said the following:

* Next US President: Donald Trump will be elected as the next president of the United States, by a considerable margin. This prediction is not an endorsement of him, but it is a reflection of my political analysis and my take on what is happening in the United States at present.

I’ve been telling people since September 2015 that Donald Trump would not only win the nomination, but the presidency of the United States. The general election result is not even going to be close – Trump will get at least 350 electoral votes.

Best places to park short-term, nearly-risk free Canadian cash

As a result of the Bank of Canada’s decision to hold the overnight interest rate target at 0.5%, options for Canadian dollar cash balances are bleak.

Cash can always be held at zero yield and would be immediately available for deployment.

There are also financial institutions that will allow you to lock your money in for a 1-year GIC and earn around a 1.25% risk-free return. However, the sacrifice in liquidity in the event that you would want to deploy such capital is unacceptable from an investment perspective. One can also purchase a cashable GIC (typically redeemable within 30 days after purchase) that earns slightly less yield – my local BC credit union offers such a product with a 0.85% yield.

I was curious as to the best exchange-traded products that would offer some yield at the lowest risk.

There are basically two options. They are (TSX: XSB) and (TSX: VSB). Both are short-term government bond funds. VSB is significantly cheaper on management expenses (0.11% vs. 0.28% for XSB), and both portfolios offer similar durations (roughly 2.8 years), and VSB has slightly better credit quality (55% weight to AAA instead of 50% for XSB). VSB should eventually have a better net yield after expenses (roughly 1.1%) due to the smaller MER. While the 1.1% net return is small, it is better than zero and is nearly risk free – there is anti-correlation between general market movement and the likely price movement of this fund – the capital gain on VSB should rise if there was some sort of crisis due to the heavy government bond exposure of the fund.

Another alternative which is deceptively cash-like but will not serve any purpose if you wish to save money for some sort of financial crisis is the high-quality corporate bond fund also offered by Vanguard (TSX: VSC). Although VSC will offer you another 80 basis points of yield, it has the disadvantage of likely having a liquidity premium in the event there was some adverse financial event – i.e. your cash-out price will likely be materially less than NAV.

All three ETFs trade at modest premiums to NAV.