Equity-income roundtable: Part 3

Life insurers well positioned for growth, panelists say.

Sonita Horvitch 23 January, 2015 | 6:00PM
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Editor's note: The plunge in the price of crude oil has repercussions not only for the broader Canadian stock market, but also for income-oriented investors. The fate of oil-company dividends was among the topics discussed at our equity-income roundtable, convened and moderated by Morningstar columnist Sonita Horvitch.

The panellists:

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. He also manages AGF Canadian Stock, the firm's domestic-equity flagship.

Jason Gibbs, vice-president and portfolio manager at 1832 Asset Management LP. Gibbs is a senior member of the firm's equity-income team, which has a wide range of mandates including Scotia Canadian DividendScotia Income Advantage and Dynamic Global Infrastructure.

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

Part 1: Will more oil companies cut their dividends?  
Part 2: Defensive stocks look expensive 


Q: Let's talk about the Canadian financial sector, an important hunting ground for dividend stocks.

Robitaille: The Canadian bank stocks should do all right this year.

Gibbs: Their growth is going to come down this year and they have all been saying this publicly. Many things that worked well last year could be challenging for them this year. Loan losses are unlikely to come down any more. They may go up, given the headwinds in the energy industry. Capital markets could be tougher. Wealth management should be all right and loan growth should be fine. This probably adds up to 4% or 5% earnings growth this year, whereas it was 9% or 10% last year. The long-term case for bank stocks remains.

Jason Gibbs

Robitaille: We have almost 42% in financials in BMO Monthly High Income. There's about 15% in banks, just under 10% in the life companies and asset managers and 17% in real estate investment trusts (REITs). Our preference is for the life insurance companies over the banks. We think that the life companies' core earnings-growth profile will be stronger. We like the outlook for wealth management.

In this defensive investment environment, REITs will do well short-term. I've been adding a little to H&R Real Estate Investment Trust HR.UN and RioCan Real Estate Investment Trust REI.UN. They are attractive on a relative valuation basis. In general, REITs are not as cheap as they were a couple of months ago, but they still represent reasonable value. If the hike in interest rates is pushed back, REITs should perform quite well. Our long-term view is that they will face headwinds when interest rates rise at some point over the next couple of years.

Of the Canadian banks, the largest weightings in the fund are Toronto-Dominion Bank TD , Royal Bank of Canada RY , and Bank of Nova Scotia BNS .

Frost: I own all three.

Gibbs: I own all three.

Robitaille: Manulife Financial Corp. MFC is the biggest life company weighting in BMO Monthly High Income.

Frost: AGF Monthly High Income has 29% in financials versus its 36% weighting in the composite index. I like asset managers and one of my biggest holdings is Brookfield Asset Management Inc. BAM.A . I am looking at some U.S. asset managers. I also like Manulife and have continued to add to this stock. I also think that the insurance companies are better positioned than the banks. I have very little exposure to REITs, but do own Chartwell Retirement Residences CSH.UN  in Monthly High Income.

Gibbs: Scotia Canadian Dividend has 31% in financials versus 36% in the composite. The fund continues to be underweight the banks in the interest of diversification. I own TD, Royal and Scotia. I added to the fund's holdings in Scotia and Royal recently. You should see solid earnings growth from the insurers. I added to Manulife. The insurers have strong capital positions and they could produce good dividend growth. Other holdings in this sector include Brookfield Asset Management and RioCan.

Q: Time to talk about utilities.

Gibbs: They are 5% of Scotia Canadian Dividend. Names like Fortis Inc. FTS , the electric-utility holding company, did quite well last year, as did Brookfield Infrastructure Partners L.P. BIP.UN . The fund holds both. Investors need to take their shorter-term, total-return expectations on these stocks down. It's going to be hard to get a multiple expansion on the utilities stocks.

Frost: Especially if there was a rotation into the cyclical stocks.

Gibbs: Yes. Having said that, utilities represent only 2% of the S&P/TSX Composite Index and there continues to be strong demand for these companies both in the public and the private markets. If a utility gets too cheap in the public markets, it could be taken over by, say, a pension fund. In all, utilities represent a great long-term hold.

Frost: I own both Fortis and Brookfield Infrastructure Partners. Fortis is a more recent addition. The company went through a growth phase across Canada for a decade and its dividend growth started to slow. I had not owned it for several years. But it has done a couple of acquisitions in the United States and has good dividend-growth prospects. Brookfield Infrastructure owns assets all around the world. AGF Monthly High Income has 9% in utilities and AGF Traditional Income has 5%.

Robitaille: We have 5% in utilities, which is underweight relative to our benchmark. We own Brookfield Renewable Energy Partners L.P. BEP.UN , Emera Inc. EMA  and Northland Power Inc. NPI . We like the growth prospects for all these companies. We have been adding to them, especially to Northland Power. Its risk profile is a little higher, because it has gone into some offshore wind projects in Europe. But it is managing this risk prudently.

Q: Telecom-services stocks, which like utilities is another defensive dividend-paying sector?

Michele Robitaille

Robitaille: We've been underweight the telecoms for the last couple of years. They currently represent 5.7% of the fund. The growth in their market is slowing, as smartphone penetration peaks. Also, over the course of the last year the regulatory environment has become a lot less benign, with the federal government focused on improving customer pricing. This is either through bringing in a wireless entrant or through the review of aspects of the telecoms' contracts with consumers.

We think that telco stocks are priced for growth that the companies are not going to achieve. Valuations or expectations will have to come down. Out of the existing big players, we like Telus Corp. T , the most. It has the best growth profile. We own Shaw Communications Inc. SJR.B, because it doesn't have that wireless exposure. (It's in the consumer-discretionary sector.)

In the telecom sector, another holding is Manitoba Telecom Services Inc. MBT . Its dividend is sustainable and ultimately the company will be broken up and sold off.

Gibbs: Scotia Canadian Dividend has 9% in this sector including holdings in Telus, BCE Inc. BCE and Rogers Communications Inc. RCI.B . Short-term, the Canadian telecom names are expensive and I agree with Michele that their growth is slowing. But it has been hard for new telecom entrants to take on this oligopoly. At the end of the day, similar to the pipeline companies, it is difficult to replicate what these telecom companies have. I am mindful of the regulatory and political risk.

Frost: I have no Canadian telecom-services stocks. I'm of Michele's view about their growth and the regulatory risk. Similar to Michele, I do own Shaw. It has an attractive dividend and a good cable business.

Robitaille: The Canadian telecoms have been a place for investors to hide in this defensive environment. These stocks performed strongly in the last quarter of 2014.

Q: Finally, the industrials, starting with the rails.

Frost: I prefer U.S. rails to Canadian rails because the former are more reasonably valued. But I did add Canadian National Railway Co. CNR , when we had the big downdraft in the equity market in October. I do not own Canadian Pacific Ltd. CP . If the crude-by-rail volume slows, CP would be more vulnerable than CNR, to a valuation correction.

Gibbs: The rails are oligopolies, there are barriers to entry and they have pricing power. I own CN.

Robitaille: In BMO Monthly High Income, our industrial weight is quite small and includes a holding in Westshore Terminals Investment Corp. WTE . Once again it is that theme of the company's hard-to-replicate infrastructure asset. Its coal-export terminal is well positioned on the west coast. It has long-term contracts so its revenue stream is relatively stable and the value of its infrastructure is high.

Frost: I own Westshore Terminals in AGF Monthly High Income. It has a strategic asset.

Gibbs: I own it in Dynamic Global Infrastructure. It has a dominant asset, an excellent balance sheet and relatively stable cash flow.

Brookfield Infrastructure Partners L.P. H&R Real Estate Investment Trust RioCan Real Estate Investment Trust Westshore Terminals Investment Corp.
Jan. 21 close $52.00 $23.81 $28.90 $32.82
52-week high/low $53.58-$39.50 $24.48-$20.72 $29.91-$24.50 $38.02-$28.68
Market cap $8.1 billion $7.1 billion $9.2 billion $2.4 billion
Total % return 1Y* 31.7 19.3 22.5 -5.9
Total % return 3Y* 25.5 5.7 8.0 14.1
Total % return 5Y* 28.0 13.1 12.9 21.7
*As of Jan. 21, 2015
Source: Morningstar
Michele Robitaille, Jason Gibbs and Peter Frost

Photos: paullawrencephotography.com

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Sonita Horvitch

Sonita Horvitch  

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