globalization's reversal

A fascinating article and concept heading the Globe & Mail's GlobeInvestor website today features Jeff Rubin, former CIBC economist, who has written a book about a very interesting theory regarding oil. The basic premise is that skyrocketing oil will reverse globalization causing the current economy to be turned on it's ear. He predicts $200 oil by 2012 or earlier.

Why Your World Is About To Get A Whole Lot Smaller

"I think it will really restructure the economy in ways that people haven't even begun to imagine," he said. "But I think, ironically, it's going to be a return to the past ... in terms of the re-emergence of local economies."

http://beta.theglobeandmail.com/globe-investor/a-coming-world-thats-a-whole-lot-smaller/article1141752/

energy dividends going by the wayside

On December 17, 2008 I titled my DIV-Net post "Energy Dividends On The Chopping Block", as I made the case that the extreme drop on in oil prices could cause dividend paying energy stocks to cut their dividends.

Husky Energy (HSE) announced they will cut their dividend from $0.50/share to $0.30/share. The company actually put it a different way, they have 'set' their dividend to $0.30/share. That is a 40% cut. Husky is adapting to a much lower energy price environment. The stock now yields about 4% on yesterdays closing price.

The other stock I mentioned in the post BP, just announced earnings and left their dividend unchanged. The company announced their first quarterly loss in seven years but stated that they can have a break even 2009 with oil prices between $50-$60 per barrel The stock yields 7.8%.

Several other Canadian oil and gas trusts have slashed their distributions including widely held, Canadian Oil Sands Trust (COS.UN).

the loonie, a petro-currency

If you ever doubted the fact that the Canadian Dollar is a petro-currency; that is it's value is highly correlated to the value of petroleum, have a look at these two charts.

The chart on top is value of the Canadian Dollar versus the US Dollar. Note how the value stayed in the $0.96 USD to $1.02 USD range until August. Then in September the Loonie fell off a cliff as it plunged from $0.96 to a $0.77-$0.80 range. No more cross boarder shopping, and my US stock holdings essentially all increased their dividends and didn't fall as much as they truly did in the market.



Now look at the chart on the bottom showing the value of oil through the US Oil Fund ETF which tracks the price of the black stuff. The exact same pattern is evident, a July/August drop preceded a September plunge. One of my vehicles now costs $20 to fill up and the other costs $30.

Newalta, new dividend kid on the block

Canada's leading industrial waste management and environmental services company, Newalta currently (NAL.UN) has announced it is converting to a corporation. Newalta plans to eventually pay a quarterly dividend of $0.20/quarter (eligible dividends), this represents a yield of 8.9% on Tuesdays closing price.

Newalta also announced a 5% rise in earnings per share and that they are cutting their cap ex growth budget by 30% for 2009. Half of Newalta's growth as a company to date has been through about 50 successful acquisitions.

Here are some highlights of Newalta's distribution history
March 2003
Monthly distributions initially set at 9.0¢ per unit at conversion
Sept 2003
Distributions were increased to 10.5¢ per unit
March 2004
A further improvement was made to 12.5¢ per unit
March 2005
Distributions reached 15.0¢ per unit
Nov 2005
They were raised to 16.5¢ per unit
May 2006
Most recently, distributions were increased to 18.5¢ per unit

Newalta has shown some pretty impressive growth of the distribution since 2003, which should be noted was boom time for the oil and gas industry which Newalta relies on for a large part of their revenues (47% to be exact).

I like the Newalta story, as I believe this should be a stable and growing business and we move into a future of heightened environmentalism and attention toward the better management of waste and recycling programs. I actually had a close look at Newalta last year when I was selecting income trusts for my portfolio as part of our maternity leave strategy, where I ended up selecting IPL.UN and YLO.UN instead. At that time I ruled out Newalta because of it's heavy reliance on the cyclical oil and gas industry. This is certainly one to keep an eye on as we move into 2009.

Try INO Free! - Get your favorite symbols' Trend Analysis TODAY! Click Here

doubled Husky position

Yesterday I doubled my original position in Canadian oil integrated oil and gas firm Husky Energy (HSE). I bought Husky at $33.85 where it was trading at a P/E ratio of 7.0 and a dividend yield of 5.9%. This purchase likely brought Husky up to about a 6-7% weighting in my non-registered portfolio. Buying oil when the U.S., and possibly the world is going into a recession has its risks, but I believe most of those risks are already priced into this stock. At a 5.9% yield I am not concerned about Husky's 1-2 year forward earnings outlook. With their low pay out ratio they should be able to maintain the dividend if oil stays at reasonable levels. If the worst case occurs and oil tanks down to sub $60 levels for a sustained period then all bets are off, but I see the odds of the 'sustained period' being measured in years very unlikely. The world is still running out of oil, OPEC is still in the business of making money, and emerging markets continue to strive for the Western life. The race to find alternatives will only be hampered by lower relative oil prices.

crude drop fueling gains

It seems like crude oil has fallen just as fast as it rose during the summer. The crude oil price has declined from as high as $147/barrel to where it currently sits under $102. Many news outlets are now reporting that much of the rise in price was due to pure speculative trading. It is always interesting to see what the crude oil price does to the share prices of several stocks of companies that have oil as a large expenditure. Particularly I like to pay attention to price fluctuations in the shares of really strong companies that have paid ever- increasing dividends over the years.

United Parcel Service (UPS) - The connection is obvious here. They move stuff around.
Performance since July 11 when oil traded above $147/barrel = +16%

The Clorox Company (CLX) - Resin (oil derivative) is used to make several of their consumer goods including Glad® bags.
Performance since July 11 when oil traded above $147/barrel = +21%

SYSCO Corporation (SYY) - Distribute food products all over North America.
Performance since July 11 when oil traded above $147/barrel = +21%

Performance of the S&P 500 Index during the same period = +0%

the market's view on oil

The general rule when buying and selling energy and commodity names is the reverse to other stocks; "buy when P/E ratios are high and sell when P/E ratios are low". This strategy would work like a charm right now, if and only if, the energy and commodity bull market is coming to a close. That is, the cycle is turning and these things will come crashing down without touching the sides. You want to be selling when earnings have grown so high that when they're compared with the stock price they produce a very low P/E ratio.

Keeping with the theme of 'is oil dropping to $60/barrel?' Here are some of the Price to Earnings (P/E) ratios and yields that the market is currently offering for these names:

Petro Canada (PCA) - P/E= 5.8, Yield = 1.7%
Conoco Phillips (COP) - P/E= 7.5, Yield = 2.4%
Exxon Mobil (XOM) - P/E= 9.5, Yield= 2.1%
Husky Energy (HSE) - P/E= 9.4, Yield = 4.4%
Canadian Oil Sands Trust (COS.UN) - P/E= 14.0, Yield = 10.3%
Chevron Corp. (CVX) - P/E= 9.2, Yield = 3.0%
BP PLC (BP) - P/E = 9.1, Yield = 5.7%
Devon Energy (DVN) - P/E= 9.9, Yield = 0.7%

These things are all trading as if their earnings growth is done. They are likely all pricing in earnings growth of less than 6% going forward (at most). In the face of production that is becoming more and more difficult to grow, their futures likely depend on the price of oil. Where is it headed?

Conoco Phillips chart below:

View the COP WikiChart on Wikinvest

is oil dropping to $60/barrel?

Looking at the shares Canadian integrated oil and gas firm Petro Canada (PCA) you would assume that oil is on the way down to where it was in the days where you could pay 20 bucks to fill up your car.

If we can forget about $60 oil and $0.60/L gas, then Petro Canada shares are looking cheaper than the samples at Costco. The stock is now trading at a Price to Earnings (P/E) ratio of a staggering 5.8x trailing earnings. This comes after a 77% profit gain and a 54% dividend raise in the most recent quarter. Is this type of earnings momentum sustainable? Likely not, as oil has touched $145 recently before dropping to the current $115 range; but it is difficult to see the current share price as reflecting anything other than sector rotation due to the current sentiment (right or wrong). Traders seem to be betting that oil is sinking down to at least $90/barrel the way the oil sector is trading, however Petro Canada traders must be betting on a much lower price for oil for a long time. Either that or some very negative, company specific results.

It is hard to imagine that there would be much downside on this stock while it trades at these levels. In order for this price to truly reflect the company's mid term future I would imagine that their production would have to decline in tandem with oil declining in a big way. With this stock you get exposure to conventional oil, oil sands, refining, marketing, and natural gas.

View the PCZ WikiChart on Wikinvest

oil purely for yield

When a company's prospects for earnings success are tied to the price of a commodity, some funny things tend to happen to it's share price. Throw in a rising dividend and a higher yield and things get even more interesting.

Case in point are oil stocks right now. Most oil stocks in Canada are fairly low yielding but Husky Energy (HSE) stands out in offering a higher dividend yield to investors. Recently as oil climbed from under $100 to around $147 oil stocks soared with sentiment all around claiming high oil was here to stay and that we could hit $200/barrel quickly. Since then oil has begun to come off as it is now flirting with $125/barrel. Evidence exists that high oil is curbing demand, and that the U.S. economy is slowing. These factors along with the usual speculative trading dynamics seem to have turned the bus around.

Anticipating this move, the stocks of the oil companies themselves have been falling. So much so that Husky Energy (HSE) has actually come off about 23% since May 21. The energy ETF (XEG) has come off about 18% during the same time frame. What makes the move down by Husky so intriguing to me is that the stock pays a nice, rising dividend. Husky is now yielding almost 4% and sports a dividend pay out ratio of earnings of about 35%. If you expect the world's insatiable appetite for oil to continue, and expect per barrel prices to leave double digits as a distant memory, take note. Remember, oil is still well above it's average price over the last few years.

For every $1,000 invested, Husky is paying you $40/year currently and this will likely rise as their fortunes rise with oil and oil demand. As the sentiment mounts and oil trades lower it is no fun to have the value of your oil stock fall. However, a nice yield certainly cushions that fall and allows you to pick up more yield or at least get paid while you wait for your holding to appreciate with the global demand for energy. In my opinion this is a very low risk yield with minimal downside and major upside potential. If your investment strategy focuses on dividends and dividend growth, as mine does, then a 4% yield on a non-financial stock that adds diversity to a portfolio is interesting to say the least.

canadian investment styles diverge

An interesting trend has emerged in the Canadian market this year to date. The Toronto Stock Exchange Index is near a record high, while investors in Canadian dividend paying stocks are in negative territory year to date. To illustrate this point let's look at some year to date returns:

XIC (Barclays ETF that tracks the largest most liquid names in Canada)
Year To Date = +5.8%
Some Highlights = Encana (ECA) +35%, Research in Motion (RIM) +25%, Potash Corp. of Saskatchewan (POT) +38%

XDV (Barclays ETF that tracks the 30 highest yielding dividend growing Canadian firms)
Year To Date = -2.7%
Some Lowlights = Bank of Montreal (BMO) -12.5%, Manitoba Telecom (MBT) -10.8%, National Bank of Canada (NA) -0.3%

It's no wonder the Canadian index is soaring while dividend paying stocks flounder. Commodities have been on fire lately, while banks remain under the dark clouds of the credit crunch. Financial services firms make up a much larger portion of the dividend paying universe in Canada than they comprise the total index.

One might assume that these two ETFs would perform quite similarly but this year to date is really showing that this would be a false assumption. Does this mean now is a great time to buy some of the growthy companies that make up the Canadian index? Who really knows, but as a dividend growth investor it is much easier to find value in some of the beaten down constituents of the boring old XDV. When most investors are ignoring these dividend paying firms, is usually the best time to get involved. The Canadian XDV will have its days in the sun in future years and that is perhaps when you want to be accumulating cash or diversifying into other areas. The nice thing about many of the Canadian financial service industry stocks is that at the end of the day they should benefit from any successes that the commodity economy in Canada garners through increased economic activity.

bought Husky with petro dollars

Today, in an uncharacteristic move, I sold all my shares of Petro Canada (PCA) for a profit and used the capital and proceeds to initiate a position in Husky Energy (HSE).

Why was this move uncharacteristic?

• According to my investment philosophy I rarely sell stocks
• I bought Husky near its 52 week high (I usually buy stocks that are well off of their highs due to valuation reasons)
• I am buying an energy company while oil is trading north of $118/barrel, this probably represents some downside risk
• I sold Petro Canada within 2 years of buying it; I fashion myself as a holder of stocks for the long term

So, why did I make the trade?

• I purchased Petro Canada before I developed my current dividend growth strategy. Husky is a better fit for a dividend growth investor as they prioritize returning growing earnings as cash to shareholders.
• Petro Canada has failed to execute, and has underperformed the entire universe of energy stocks by a wide margin for the entire time I've owned it. I even trimmed my position when the stock hit $60 in July of 2007 because I felt the company was overvalued, and in hindsight I turned out to be correct on that call, as today it trades around $50.
• Husky's dividend growth record speaks for itself, and it currently yields 3.5%, whereas Petro Canada yields 1.1%.
• Husky's regular and special dividends allow me to directly profit from high worldwide energy prices today, hedging me against my personal energy expenditures. This is not including the potential for captial gains long term. This may come in handy when gasoline reaches $2.25/liter in the year 2012.
• Husky is well managed, and really emphasizes shareholder returns as their company aim.
• Husky has higher returns on equity than Petro Canada does.
• The only advantage that PCA holds over HSE that I can see is their stock is cheaper, I am tired of owning PCA for their valuation, besides I am not getting paid to wait.
• I was in a profit position in Petro Canada anyway, so owning the laggard actually did yield modest gains in the end.
• Buying Husky Energy (HSE) allows me to keep the same exposure in my portfolio that I had with Petro Canada (PCA). Husky, explores, refines, and markets just like PCA.

I'm sure now that I have sold out of Petro Canada the company will report fabulous earnings and the stock will shoot past $60/share. I'll find comfort in the fact that today I have increased my income from investments without having to add a dime of new money to my portfolio.

a 'low energy' approach

Our Canadian market, and thus the TSX (Toronto Stock Exchange) is very heavily weighted in energy stocks, (such as oil and natural gas producers), and material stocks (such as Aluminum or Uranium miners). As far as selecting stocks goes I feel less confidence roaming and researching in the energy space vs. the financial sector or consumer products areas.

My confidence in predicting future earnings is significantly lower with energy companies than it is with a consumer products firm. The reason for this is due to the fact that a barrel of oil or a unit of natural gas is worth varying amounts of money of different days. If I don't know what direction and at what rate the price of a barrel of oil will go, then I have a hard time predicting where the earnings of a company will go, that pulls this oil out of the ground and sells it. This makes it difficult for me to determine when an energy stock is cheap, fairly valued, or expensive going forward. Energy stocks need to be valued according to different metrics, because the traditional price/earnings ratio will give a skewed impression due to fluctuations in commodity price. These metrics vary depending on the school of thought that you subscribe to or which analyst you listen to. Whether it's price / cash flow, price/ book or net asset value...etc..............why bother......

All this being said, I believe energy is a good place to be invested in the medium and long term. With the continuing strong, energy dependant growth of many developing countries (ie China and India) as well as the ongoing energy apathy in North America, I believe the demand for oil, natural gas, and uranium will only grow. In my opinion this is a perfect sector to just take the guess work and homework out of it and buy the ETF (Exchange Traded Fund). Barclays iShares offers a product that I believe is perfect for exposure to the energy sector in Canada: iShares Canadian Energy Sector Index Fund (XEG).

The iShares™ CDN Energy Sector Index Fund seeks to provide long-term capital growth by replicating, to the extent possible, the performance of the S&P®/TSX® Capped Energy Index through investments in the constituent issuers of such index, net of expenses. The Index is comprised of securities of Canadian energy sector issuers listed on the TSX, selected by S&P using its industrial classifications and guidelines for evaluating issuer capitalization, liquidity and fundamentals.

This exposure does not come without a cost as the MER (management expense ratio) is 0.55%, and the ETF will cost you your usual brokerage commissions to buy and sell. The benefits of this type of product are fairly clear though, as you receive immediate exposure to the largest energy names in Canada including trusts, for a reasonable price. Due to this exposure to income trusts XEG yields 2.50% in distributions (not strictly dividends), so you will pay relatively more tax on this income.

The top 3 holdings of this ETF (as of writing this) are:
Encana (ECA) 14.4%
Suncor (SU) 12.8%
Canadian Natural Resources (CNQ) 11.5%

Personally I will give strong consideration to XEG next time I feel the time may be right to buy some more energy exposure. For the time to be right sentiment on oil price should be low, and my portfolio should require some more commodity exposure to maintain proper diversification. This is one sector that I might want to take the low cost / low maintenance approach and just try to ride the tide of the sector long term.