Equity-income roundtable: Part 3

Peter Frost, senior-vice-president and portfolio manager at AGF Investments Inc. His responsibilities include two income-oriented balanced funds: AGF Monthly High Income and AGF Traditional Income.

Michele Robitaille, managing director and equity-income specialist at Guardian Capital L.P., a sub-advisor to the BMO family of funds. The Guardian equity team's mandates include BMO Monthly High Income II.

The roundtable, which began on Monday and continued on Wednesday, was convened and moderated by Sonita Horvitch.

Q: What is your strategy for tackling the Canadian energy sector?

Arpin: Beutel Goodman Canadian Dividend has a relatively small weight in the Canadian energy sector. Our two positions are  Canadian Natural Resources Ltd. (CNQ) and  Cenovus Energy Inc. (CVE). Pipelines are not compelling, given their valuations. We sold our holding in  Suncor Energy Inc. (SU), based on valuation. If oil prices rise and the oil-price differential narrows, then Canadian Natural Resources and Cenovus will be significant beneficiaries of this. Cenovus overpaid for the purchase of assets in Western Canada from ConocoPhillips last year. All the issues that we talked about with respect to heavy oil are an issue for Cenovus.

Frost: I have a substantial weighting in energy. There will likely be better commodity pricing for energy producers, while rising interest rates are a headwind for the pipeline stocks. We do not own  Enbridge Inc. (ENB) or  TransCanada Corp. (TRP). I have a significant weight in energy producer  Vermilion Energy Inc. (VET). I own it across all the portfolios. It has a good long-term production-growth profile and a larger exposure, because of its international assets, to advantaged international pricing for both oil and natural gas. It is one of the few energy producers that did not adjust its dividend in the downturn. Its dividend will grow over time. I have owned Pason Systems Inc. (PSI) for years. It provides data-management services for drilling rigs. It has had a high return on invested capital over a cycle. The stock is in both portfolios. We recently added Prairie Sky Royalty Ltd. (PSK). I also own Canadian Natural Resources.

	Canadian Natural Resources Ltd.	Cenovus Energy Inc.	Vermilion Energy Inc.
Jan. 31 close	$41.99	$11.73	$46.50
52-week high/low	$47.00/$35.90	$18.85/$8.89	$54.47/$38.33
Market cap	$51.7 billion	$14.2 billion	$5.7 billion
Total % return 1Y*	9.5	-32.8	-8.6
Total % return 3Y*	6.9	-18.6	-1.0
Total % return 5Y*	9.1	-14.6	3.0
*As of Jan. 31, 2018 Source: Morningstar

Robitaille: Energy is also a substantial sector for BMO Monthly High Income II, though we are underweight relative to our benchmark, the S&P/TSX Composite High Dividend Index. We are underweight energy-infrastructure companies, because their weight in the benchmark is so large. In the pipelines, we own Enbridge and TransCanada. Enbridge is more attractive from a valuation standpoint. Rising interest rates will be a headwind for energy-infrastructure companies, but their good visible growth, in both earnings and dividends for the next two to three years, should help to offset some of this. Among the producers, we own both Canadian Natural Resources and Vermilion.

Q: In the Canadian materials sector, all three of you own  Nutrien Ltd. (NTR), which is the result of the merger between Potash Corp. of Saskatchewan Inc. and Agrium Inc. Why Nutrien?

Stephen Arpin

Arpin: We owned both Potash Corp. and Agrium in Beutel Goodman Canadian Dividend. We like the merger. It will generate significant cost savings. Nutrien is in a dominant position in this industry and in a strong free-cash-flow-generating position. We like the Agrium management, which will be in charge of the combined company.

Frost: In materials, I do own Nutrien. My predominant holding was in Agrium and I had a small position in Potash Corp. I also have positions in chemical producer, Methanex Corp. (MX), which we trimmed recently, Labrador Iron Ore Royalty Corp. (LIF) and base-metals mining company First Quantum Minerals Ltd. (FM). These names have done well because of the rebound in the commodity prices. Methanex has been a prolific dividend grower and has bought back a large percentage of its stock outstanding.

Robitaille: Within materials, the portfolio has two holdings, including Nutrien. We had traditionally owned Agrium and not Potash Corp. We like the Agrium management team. The other holding is Chemtrade Logistics Income Fund (CHE.UN), which is a new name. A specialty chemical producer, it is a market leader in each of its products and the yield on the security is high.

Q: The Canadian consumer staples and consumer-discretionary sectors?

Arpin: We own a position in grocery chain  Metro Inc. (MRU). There are concerns about disruption in the grocery industry and this has put pressure on these companies. We think that Metro's valuation is attractive. On the discretionary side, our holdings include  Magna International Inc. (MG). We have owned the stock for a long time. The uncertainty surrounding the North American Free Trade Agreement creates a risk for the company. We like the valuation on the stock.

Frost: Among the staples, I own dairy producer  Saputo Inc. (SAP) in AGF Traditional Income. It is a well-run company. The leadership transition in the company went smoothly. Saputo has a strong track record of making good acquisitions. Last year, for example, it bought a major dairy producer in Australia. It has been a big dividend grower over time. In the consumer-discretionary sector, I own  Shaw Communications Inc. (SJR.B). We like its wireless operation. It will be a source of growth for the company over the next several years.

	Peter Frost

Robitaille: We own the stock. Shaw's acquisition of wireless helps to support its core markets in Alberta and British Columbia. It has an advantage in the upcoming wireless-spectrum auction, as it is still considered a new entrant. The only consumer-staple stock in the portfolio is grocery and retail company Northwest Co. (NWC). We have held the stock for some time. It has been a good company for us.

Q: Telecommunications-services stocks?

Arpin: We like this sector. These are stable, dividend-paying businesses. We have  Rogers Communications Inc. (RCI.B).

Robitaille: We also own Rogers.

Arpin: We prefer wireless to wire-line, and like Rogers' wireless, cable and sports assets. Its valuation has continued to be attractive.

Frost: I own  TELUS Corp. (T).

Robitaille: I also own Telus. The concern about Telus for a number of years was the then weak economy in Western Canada and that the company was spending a lot of money on fibre into the home in this weak environment. Telus is getting to the end of this massive capital expenditure. Its cash-flow metrics should start to improve significantly as we move into 2019. This should continue to support strong dividend growth.

Q: A quick look at real estate?

Frost: I have nothing in real estate.

Arpin: I am the same.

	Michele Robitaille

Robitaille: Real estate has been a core allocation in BMO Monthly High Income II, primarily for the sector's income-generation ability. Yields are still available in the 5% to 5.5% range. We have been gradually bringing down our real-estate exposure. Currently, investors have to be very selective among the REITs. The dispersion of returns across the group has widened over the course of one year. Valuations are fair, not compelling and we do see some headwinds from rising interest rates. We tend to like companies with tier-one assets located in tier-one markets. An example of a REIT that we own is Allied Properties Real Estate Investment Trust (AP.UN), a developer of urban office projects.

Q: Time to summarize this roundtable discussion.

Frost: I am optimistic that high-dividend Canadian equities will do better in 2018, but this is predicated on a rebound in energy. The valuations on dividend stocks are fine. They are not at extremes. Rising interest rates are going to be a headwind for those areas that have low growth, such as regulated utilities.

Arpin: We think that equities are still attractive versus bonds, despite the rising interest-rate environment.

Robitaille: Rising rates are a headwind for Canadian dividend-paying stocks and there could be downward pressure in the early part of this year. In all, it is important to focus on those dividend-paying companies that can grow at a faster pace than the increase in interest rates.

Photos: Paul Lawrence Photography