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Energizing a dividend-growth portfolio

Why PH&N's Dale Harrison and Andrew Sweeney pumped up their oil holdings

Sonita Horvitch 27 May, 2010 | 1:40AM
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Dale Harrison and Andrew Sweeney, co-managers ofPH&N Dividend Income , have been increasing the economically sensitive tilt to the portfolio by, in the main, adding to energy holdings on recent weakness in these stocks.

"The emphasis is on oil producers," says Harrison. "The case for oil is predicated on the global economic recovery." On the supply side there is, says Sweeney, a need for higher commodity prices to encourage additional production. In general, global oil supply is constrained.

The two managers, whose investment style is growth at a reasonable price (or GARP), have been introducing new oil-producing names to the portfolio as well as increasing their investment in some existing holdings. Also, in keeping with their theme of global economic recovery, they have been adding to key industrial names.

In the financial-services sector, a specialty of Harrison's, the two managers have made only minor changes to their bank holdings in the past six months. Over this period, they have made some adjustments to their consumer-staples holdings, but have kept this sector, which is a defensive segment of the equity market, at a modest weighting.

Of the recent weakness in the equity market, Harrison says: "Investor expectations in the first quarter of 2010 got a little ahead of the fundamentals, but the global economy is decidedly on the path to recovery."

At Vancouver-based Phillips, Hager & North, part of RBC Global Asset Management, Harrison and Sweeney and their team are responsible for managing $10 billion in assets. Their mandates include PH&N Dividend Income, with assets of $2.5 billion, which currently has 53 names. The focus of the fund is on "mature, quality-growth names that are strong cash-flow generators and are good at capital allocation," says Harrison.

Dale Harrison

The average dividend yield on the fund is 3.3% versus 2.6% for the S&P/TSX Composite Index. "We look at potential total returns, not only at the dividend yield," he says.

The portfolio does have foreign content. "We use this as a means of diversification when we cannot find suitable names in Canada," says Sweeney. The fund currently has 10.7% in U.S. stocks. This percentage is lower than it has been for a couple of years. "It has been a good period to source Canadian names after a long, dry spell," says Harrison.

Energy, including pipelines, currently constitutes 16.3% of the fund. Two new names are the integrated North American oil producer, Cenovus Energy Inc. CVE, which was spun out of EnCana Inc. ECA, and the oil and gas royalty trust Baytex Energy Trust BTE.UN

Cenovus, says Sweeney, "has industry-leading heavy-oil assets, which we consider the stock market is not fully valuing, and the stock trades at a discount to the company's net asset value." The split of EnCana into two independent companies is a plus, says Harrison, as it will enable each entity to concentrate on making the capital expenditure necessary to develop its assets.

Baytex is involved in heavy-oil expenditure and has good prospects for production growth, says Sweeney. The trust is active in the Western Canadian Sedimentary Basin. It also has an emerging presence in the United States. The current yield on this trust is about 7%, says Harrison.

Two new energy holdings at PH&N
Baytex Energy Trust Cenovus Energy Inc.
May 24 close $31.01 $26.97
52-wk high/low $17.05-$36.80 $24.26-$30.63
Market cap $3.38 $19.68
Total % return 3Y* 19.0% -1.1%
Total % return 5Y* 23.1% N/A
Total % return 10Y* 9.5% N/A
*As of May 21, 2010
Source: Morningstar

An existing energy holding that they have added to is Canadian Oil Sands Trust COS.UN, which is a pure play on the oil sands with its 36.7% interest in the Syncrude Project.

Industrial stocks represent 8.1% of the portfolio. Two "high quality" names that they have added that have exposure to similar businesses are Toromont Industries Ltd. TIH and Finning International Inc. FTT. "The valuation on these stocks was reasonable," says Harrison.

Toromont holds a major Caterpillar dealership in Canada and is building its compression business with its principal customer, the energy sector. Finning has Caterpillar dealerships in Western Canada, South America and the United Kingdom. The Canadian and South American dealerships are geared to the natural-resource industry.

Andrew Sweeney

Financial-services stocks (currently 46% of the fund) continue to be the biggest weighting. Banks, including a small weighting in U.S. banks, constitute 24.5% of the fund.

The biggest holding in fund is Toronto-Dominion Bank TD at 7.4%. TD is trading at an average valuation relative to its Canadian bank peers, says Harrison. "Yet, the bank has one of the strongest Canadian retail franchises, better-quality commercial assets and a lower risk profile than its rivals, plus there is the potential earnings growth, mainly from its expanding U.S. operations. Investors are underestimating this potential."

A new financial-services name in the portfolio is Brookfield Asset Management Inc. BAM.A, which is a diversified investment and money-management firm that has interests in real estate, power generation and some infrastructure assets.

"Brookfield's assets held up well in the economic downturn," says Sweeney, "and should do well in the recovery." The two managers bought the stock, now 1.7% of the portfolio, at "slightly below" Brookfield's net asset value per share. "Our expectation is that the company will grow its NAV during the recovery," says Sweeney.

Consumer staples represent only 2.5% of the portfolio. Here the two managers swapped their holding in supermarket chain Metro Inc. MRU.A, which they considered to be fully valued, for rival Loblaw Cos. L. "We considered that Loblaw had a better risk/reward profile," says Sweeney.

Well ahead of investor concerns about the impact on pharmacies of possible Ontario regulatory changes to the sale of generic drugs, Sweeney and Harrison sold Shoppers Drug Mart Co. SC. "This sale turned out to be a good move," says Sweeney.

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Sonita Horvitch

Sonita Horvitch  

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