What to do with RRSP and TFSA contributions

I notice Larry Macdonald is tackling the age-old question of where to put cash into work. This would be cash that is earmarked for an RRSP and/or TFSA contribution.

The sensible answer is that you don’t have to contribute and instead concentrate on debt reduction. Many people have a mortgage accruing interest at 4%, and assuming your marginal tax rate is 30%, it would amount to an equivalent pre-tax investment at 5.7%, not bad on what amounts to a risk-free return.

If you are fortunate enough to have no debts to pay off, then the question becomes more difficult to answer.

I would agree with the sentiment that the marketplace feels “frothy”, albeit equities are likely poised for further gains early this year.

The worst decision somebody can make is to contribute cash and put it immediately to work in an investment without regard to the valuation of the investment. For example, dumping the money into an ETF (which is what most casual investors will do) is unlikely to produce a market-beating return unless you can explicitly justify why the ETF components are undervalued.

This question is amplified for myself, mainly because I have been on a liquidation spree at the beginning of this year. It hurts to see cash earning 2%, but it would hurt even more to see that cash earn -10% on a snap decision investment. All I can do at present is pile stocks up in my research queue, and be patient for valuations to correct themselves or to wait for a volatility shock in the marketplace.

It is for this reason, high levels of cash, that I am not terribly optimistic about my 2011 performance.

Davis and Henderson fooling all sorts of investors

The award for the “most botched up trust conversion of the year” would have to go to none other than Davis + Henderson. This is ironic since they are a business service company that would presumably include assistance with such things as income trust conversions.

Previously their ticker symbol was DHF.UN (on Toronto), but they changed their ticker to “DH.TO” upon conversion.

An additional mixup is that DHF.TO traded 104,000 shares on January 4, 2011 under the wrong ticker symbol.

It is most likely that somebody botched up the paperwork because most electronic systems still have a listing for “DHF.TO”, which is not the proper symbol and is not trading. The correct symbol, “DH.TO“, is listed on the TSX but has had negligible volume because almost everybody’s electronic systems (including Interactive Brokers!) have the improper DHF.TO ticker.

Disclosure: I currently have a position in Davis + Henderson.

Contrarian indications – Energy

I noticed the following was the headline on the Drudge Report, who is amazingly good at fueling public sentiment on various issues on his simple, yet amazingly addictive page of links:

Although a single headline does not make markets move, it is something to be cautious about. The price of gasoline has not reached the mania level that it did back in 2008; however, it may reach that again in 2011.

I noticed while reading the latest financial pornography, mainly the five or so Canadian-related websites that attempt to sell advertising that they are having a “top four” stock contest. While these are purely for fun and have no bearing on reality unless if people invest real money in their convictions, I do notice that oil-related companies are starting to become about as prevalent as investing than gold-related companies.

Although in the long run I believe that the easy oil is gone, oil is still a cyclical market and is still bound by the economic constraints of how the marketplace works – with high capital costs, there are times where each individual company would see it rational to produce product above marginal cost but below fully burdened costs, leading to a situation where you have the underlying commodity trading below the fully burdened cost.

You see this happening today in the North American natural gas marketplace.

The contrarian pick would be to long natural gas and short oil, but this seems too obvious and too soon. One of the most dangerous aspects of investing is knowing when to exit the party, and an early departure to the party at this point will likely lead to plenty of gains being abandoned in the name of safety. When everybody runs for the exits, it will not be pretty.

However, if you’ve survived with your capital, you will be sitting pretty to pick up the capital-hungry entities that will be left standing and will receive a good risk/reward ratio for your patience.

Corporate Debenture Screen for TFSA

Since a good deal of investors put their federally mandated $5,000 into the Tax Free Savings Account at the beginning of the year, the next logical question is what to invest it in.

A 1-year GIC, at best, can yield you about 1.75%. Other banks give you teaser rates, roughly around 2% for a floating rate. So naturally the eyes waver to more riskier options, mainly the corporate debt market.

The following is an exhaustive list of TSX-traded debentures that are scheduled to mature by December 31, 2011:

Maturity Ticker Coupon Price Conv. Price Share Price ITM
1-Jan-2011 NPF.DB.A 7.00% 75 6.9 0.39 5.7%
30-Apr-2011 PVE.DB.D 6.50% 101.01 14.75 8 54.2%
31-May-2011 PWT.DB.E 7.20% 101.8 75 24.5 32.7%
30-Jun-2011 KEY.DB 6.75% 302 12 34.96 291.3%
30-Jun-2011 NPI.DB 6.50% 126.04 12.5 15.79 126.3%
31-Jul-2011 AG.DB 6.50% 84.5 12.6 1.12 8.9%
15-Aug-2011 WEQ.DB 9.00% 105 4.2 4.5 107.1%
16-Aug-2011 WEQ.DB.B 8.50% 101 5.25 4.5 85.7%
30-Sep-2011 PRQ.DB.A 6.25% 102.01 24 12.5 52.1%
1-Dec-2011 AAV.DB.D 7.75% 102 21 6.81 32.4%
31-Dec-2011 GCL.DB 7.00% 121.6 10.25 12.06 117.7%
31-Dec-2011 EQU.DB 8.00% 102.5 27.75 6 21.6%
31-Dec-2011 FEL.DB 6.50% 102.5 13.5 4.34 32.1%
31-Dec-2011 FBK.DB 7.00% 100.2 4.32 1.15 26.6%
31-Dec-2011 IRG.DB 7.75% 100.1 10 2.4 24.0%
31-Dec-2011 LRT.DB.G 7.50% 77 7 0.4 5.7%
31-Dec-2011 PWT.DB.F 6.50% 102.75 51.55 24.5 47.5%
31-Dec-2011 UUU.DB 4.25% 98.75 15.76 4.77 30.3%
31-Dec-2011 WRK.DB.E 6.30% 102 20.63 20.17 97.8%

The last column gives you an indication of how much the embedded call option is a factor in the underlying bond pricing – KEY.DB is well within the money, while NPI.DB, WEQ.DB, WEQ.B.DB, GCL.DB and WRK.E.DB are roughly at the money.  For all of these issues, the debenture then becomes a strong exercise in equity valuation rather than debt valuation, which involves a whole different type of analysis to properly perform.

The rest of the candidates leave a lot to be desired; the high yielding candidates appear to be Fibrek (FBK.DB) and Imvescor (IRG.DB) but both of these companies appear to have issues that would not exactly make them low risk candidates.  Fibrek used to be known as SFK Pulp, and people that remember SFK should know about their chronic debt problems – although they have made good strides since the beginning of the year in reducing their debt, there is still $85 million of first-order debt that is in front of the $50M convertible debentures.  It is likely they will be able to roll-over the debt, but not a slam dunk by any measure.

It should be pointed out that the pulp and paper industry has had a major cyclical turnaround and Fibrek appears to be greatly benefiting from it at present.  Contrarian investors made a killing if they invested in the middle of 2009; the equity is up from roughly 20 cents to $1.15 presently, but it should also be noted that in the middle of 2009, a bankruptcy liquidation was a very real possibility.

Imvescor is a restaurant and franchising company that can only be described as a mess – they also have $45M in other debt that ranks ahead of the $22M of convertible debentures.  I have not spent much time analyzing this company other than to briefly gloss over its financials.

If you split your money between both of them and were able to cash out at maturity, you’d be looking at around 7.2% yield to maturity, which doesn’t seem like a lot of compensation for a year’s worth of risk in these less than ideal investment candidates.  One has to dig deeper into the markets to find acceptable risk/reward in both the tax sheltered and non-registered accounts.

Maturity Ticker Coupon Price Conv. Price Share Price ITM
January 1, 2011 NPF.DB.A 7.00% 75 6.9 0.39 5.7%
April 30, 2011 PVE.DB.D 6.50% 101.01 14.75 8 54.2%
May 31, 2011 PWT.DB.E 7.20% 101.8 75 24.5 32.7%
June 30, 2011 KEY.DB 6.75% 302 12 34.96 291.3%
June 30, 2011 NPI.DB 6.50% 126.04 12.5 15.79 126.3%
July 31, 2011 AG.DB 6.50% 84.5 12.6 1.12 8.9%
August 15, 2011 WEQ.DB 9.00% 105 4.2 4.5 107.1%
August 16, 2011 WEQ.DB.B 8.50% 101 5.25 4.5 85.7%
September 30, 2011 PRQ.DB.A 6.25% 102.01 24 12.5 52.1%
December 1, 2011 AAV.DB.D 7.75% 102 21 6.81 32.4%
December 31, 2011 GCL.DB 7.00% 121.6 10.25 12.06 117.7%
December 31, 2011 EQU.DB 8.00% 102.5 27.75 6 21.6%
December 31, 2011 FEL.DB 6.50% 102.5 13.5 4.34 32.1%
December 31, 2011 FBK.DB 7.00% 100.2 4.32 1.15 26.6%
December 31, 2011 IRG.DB 7.75% 100.1 10 2.4 24.0%
December 31, 2011 LRT.DB.G 7.50% 77 7 0.4 5.7%
December 31, 2011 PWT.DB.F 6.50% 102.75 51.55 24.5 47.5%
December 31, 2011 UUU.DB 4.25% 98.75 15.76 4.77 30.3%
December 31, 2011 WRK.DB.E 6.30% 102 20.63 20.17 97.8%

A Questrade failure

Questrade is still not ready for “prime time” for serious investors – I notice that with the slew of income trust conversions today that most of them are trading with new ticker symbols.

In one of my portfolios held with Questrade, I own some previous trust units that have converted into a corporation. I notice the market is moving in a favourable position and I wish to liquidate some shares. I enter in the new ticker symbol, and the following information comes up:

Date of Order: 01/04/2011
Time of Order: XX:XX:XX EDT
Status of order: Rejected
Order Id: XXXXXXXXXXX
Notes: The client does not have any positions in this stock

I note that Interactive Brokers does not have the same problem. Their system handled the transition perfectly.

Although this system issue is unlikely to cost me money, what if there had been a market event that I wanted to swiftly liquidate my positions into?

Their customer service mentioned the following:

Once we receive the new symbols from your clearinghouse, we will update your position. This process generally takes about 5-7 business days to update. If your intention is to trade this stock before that time, please contact our trade desk at 1-888-783-7866.

Although Questrade continues to be a good low cost alternative, it has lingering issues like these that cause me to be very wary of sole-sourcing them for my investments.

(Update, January 6, 2011): I actually called the 1-888 line and reached their trading desk. They said I could not sell the units/shares until the symbol change is recognized by the system. Not thrilled about this at all.