STOCKS FOR AVOIDING SEVEN DEADLY SINS FOR INCOME INVESTORS

 

PART 11B OF A SERIES OF ARTICLES: THE HIGH-DIVIDEND INVESTOR’S COLLAPSING DOLLAR SURVIVAL GUIDE- A MID-SERIES REVIEW

1. INTRODUCTION

Here in Part 11B, the second part of this mid-way review of the series: The High Dividend Investor’s Collapsing Dollar Survival Guide, we briefly review the stocks that help you avoid the Seven Deadly Sins for Income Investors.

2. WHAT MAKES A HIGH YIELD STOCK USD INFLATION RESISTANT?

In short, we’re seeking stocks of strong companies that have:

· Strong earnings (or in certain cases funds from operations) that can sustain the dividends

· High dividend yields

· Earn and distribute a high dividend in a non-USD currency and /or has a dominant position in a market for an essential product or service that allows it to pass on US dollar price increases to its customers

3. REVIEW OF THE BEST STOCKS COVERED THUS FAR

Perhaps the one distinct upside of a world-wide stock market collapse is that prices get so beaten down that the previously modest yields of many blue chip companies suddenly become high, as scared investors demand a higher risk premium. For the best of these, their price declines are not due to deteriorating fundamentals, but mostly due to hedge and mutual funds dumping shares to meet redemption and/or other requirements. The below list is not comprehensive, merely the stocks which I’ve found thus far. Suggestions for additional combination high dividend and U.S. dollar hedge stocks are welcomed.

ALL AMOUNTS QUOTED ARE IN U.S. DOLLARS (USD) UNLESS OTHERWISE NOTED. ALL STOCK SYMBOLS ARE NEW YORK STOCK EXCHANGE UNLESS OTHERWISE NOTED (OTC = OVER THE COUNTER, TSX = TORONTO EXCHANGE)

A. International

Because one of our criteria is that the stock price and distribution must be pegged to a non-USD currency, no surprise that most of the best USD hedge high yield stocks based outside of the U.S.

1. Energy

The return of high oil and gas prices is a matter of when, not if. Some of the best income plays are in energy, and the stock prices and dividends of many have been beaten down along with oil and gas prices.

Big Integrated Oil: Yes, definite risk of further price and even dividend cuts while oil prices remain low. At the below recommended buy prices, most of that risk is priced in, and far outweighed by the rewards when energy prices resume their long term uptrends.

· BP, plc (BP): Unique as the only big integrated oil with a large, reasonably safe (barring further deterioration of energy prices. Yield is among the highest of the big oils.

· CNOOC Ltd. (CEO): A subsidiary of China National Offshore Oil Company, CNOOC is a unique triple combination play on income, China and energy, so I’ll accept the lower dividend. The dividend is only around 5%, and even then only when price is around 87. Volatile price can move very fast either way along with oil prices, and its yield is lower than we normally accept, so don’t chase this one much above $85. However, likely fast appreciation when oil prices recover makes this stock worthwhile as a combined income / growth play.

· Eni SpA (E): This Italian integrated oil can profit on both production (upstream) and the refining, marketing, and distribution (downstream) side. Expects to grow output around 3% per year, debt manageable.

2. Communications

Cellcom Israel Ltd. (CEL): Operating income up, profits up, dividends up, free cash and domestic demand steady despite weakening Israeli economy. Benefiting from growing sales of more advanced phones, which offer more services and revenue opportunities.

France Telecom (FTE): Expanding into South American Internet market, payout ratio about 90%

Telefonica (TEF): Expanding into Czechoslovakia, still able to get credit as sign of financial strength

3. Utilities

Veolia Environmental SA (VE): It operates in four segments: Water, Environmental Services, Energy Services, and Transportation.

This French firm one is unique because it’s the only serious dividend in the high potential growth international water sector. A dominant player in a hot sector, price beaten down with the market transforms its formerly modest yield into a generous one. Struggling with earnings growth like many companies in this environment, it’s a good long term play.

One of the largest integrated water infrastructure companies in the world, with solid financials, is a prime beneficiary of the increasing investment in water world-wide, including the U.S. Based in France, it earns all over the world. VE provides solution to every water infrastructure issue, from supply to conservation to wastewater processing and recycling. Steadily rising but modest dividend, combined with a stock price that has fallen harder than the overall market, (from around 90 to about 20), has transformed this formerly modest yield into a generous one close to 10%, based on last May’s 1.89 dividend (it only distributes once a year) though Yahoo! Finance for some reason has it set at about 15%.

ENEL-SOCIETA PER AZI (ENLAY.PK): An Italian utility with interests in Spain as well, Enel Spa is the short name for Ente Nazionale per l’energia Elettrica - Societa Per Azioni. Price has dropped over 50% over the past year, due mostly to euro weakness, debt used to buy the huge Spanish utility Edsa (OTC: ELEZF), and a dividend heavily cut. Thinly traded on the OTC market. Profits for 2008 were up 45%, debt is declining, and the firm as stated it will maintain its dividend in 2009.

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B. Canada

Due to the abundance of stocks with solid fundamentals, low tax structures, and their CAD denominated prices and very high yields I give “my Canadians” their own category. The CAD is a prime commodity based currency backed by one of the healthier banking systems. In addition to their share prices being down with the overall market, these carry an extra discount due to the CAD’s recent decline against the USD. They have not expanded money supply as much as the US, and the ultimate recovery in energy will be very bullish for the CAD. Prices quoted are in USD.

1. Energy Income Trusts

All will continue to suffer price and dividend declines along with energy prices, but will soar when they recover, even with the higher taxes from 2011 onward. These are priced so low, (many at the assumption of oil at much lower prices) that the risk is worth the reward. Yields are so high that investors already appear to have priced in further substantial dividend cuts that will still leave us with yields over 9%. Take only partial positions until energy prices appear to have stabilized, but be ready to load up on these as the market begins to show interest.

Advantage Energy Income Fund(AAV, TSX:AVN.UN)

ARC Energy Trust (OTC: AETUF, TSX: AET-UN)

Claymore/SWM Canadian Energy Income Fund (ENY): For those that want to buy a basket that attempts to mimic this sector. Unfortunately, many good assets are not widely traded enough for this fund, which is why I prefer to cherry pick individual stocks.

Enerplus Resources Fund (ERF)

Peyto Energy Trust (OTC: PEYUF, TSX: PEY.UN)

Provident Energy Trust (PVX, TSX: PVE.UN)

Vermillion Energy Trust (OTC: VETMF, TSX: VET.UN

2. Clean Energy Income Trusts

Atlantic Power Corporation (OTC: ATPWF, TSX: ATP.UN),

Energy Savings Income Fund (OTC: ESIUF, TSX: SIF.UN)

Innergex Power Income Fund (OTC: INRGF, TSX: IEF.UN

Macquarie Power & Infrastructure (OTC:MCQPF, TSX: MPT.UN

Great Lakes Hydro Income Fund (OTC:GLHIF, TSX: GLH.UN

3. Energy Infrastructure Income Trusts

Altagas Income Trust (OTC:ATGFF, TSX: ALA.UN

InterPipeline (OTC: IPPLF, TSX: IPL.UN)

Keyera Facilities (OTC: KEYUF, TSX: KEY.UN)

Pembina Pipeline Fund (OTC:PMBIF, TSX: PIF.UN)

4. Review of Stocks Covered in Coming Articles

1. Utility Income Trusts:

Bell Aliant (OTC: BLIAF, TSX: BA.UN)

2. Healthcare

CML Healthcare Inc. Fund(OTC:CMHIF, TSX: CLC.UN)

3. Real Estate Income Trusts

Canadian Apartment Properties REIT(OTC: CDPYF, TSX: CAR.UN

Northern Property REIT (OTC:NPRUF, TSX: NPR.UN)

RIOCAN REIT: (OTC:RIOCF, TSX: REI.UN)

4. Business Trusts

Yellow Pages Income Fund (OTC:YLWPF, TSX: YLO.UN)

5. United States

The second tier consists of U.S. based companies that lack the USD hedge in currency but have strong enough businesses dominating vital commodities or services that should allow pricing power to insulate investors against a declining dollar. It’s also worth repeating that while the dollar is in trouble, it’s hardly assured that it will do worse than most others or that it will lose its primacy.

1. Communications

Yes, communications companies depend on credit markets for their substantial capital spending needed for growth, and thus are sensitive to tight credit. However, the dominant players provide critical services and will have the pricing power to prosper in the long run. Below are two pairs of telecoms that represent two valid ways to play this vital industry for income. Will discuss in detail in coming articles.

Two Giant Telecoms: The more conservative approach, with solid dividends rarely seen so high for such blue chip firms.

AT &T Inc (T)

Verizon (VZ)

Two Rural Telecoms: The higher dividend approach, with solid fundamentals to sustain and grow these dividends. Some of the safest 12% plus dividends, plus potential for substantial capital gains as the current fear and risk premium subsides and bids up the share prices.

Otelco (OTT)

Windstream Corp (WIN)

2. Energy Infrastructure MLPs

To be covered in greater detail in later articles.

All the below offer yields around 9%, which are backed by prospering businesses with reliable cash flows. Their unit prices fluctuate with the market and hence are bargains because while their stock prices have declined with the market, their revenues and yields have held steady.

Also, as noted in my earlier articles, Energy Infrastructure MLPs: Among the Very Best High Dividend Stocks and Top 10 Energy Stocks..., many investors have wrongly believed that revenues of these energy distribution and storage companies are directly tied to energy prices. In fact most revenues come from simple volume moved or stored. Thus shares have been unfairly dragged down both by market sentiment and declining energy prices.

Buckeye Partners (BPL): Raised dividend 6% over the past year.

Enterprise Products Partners (EPD): Raised dividend 6% over the past year.

Energy Transfer Partners (ETP)

Kinder Morgan Energy Partners (KMP): Raised dividend 14% over the past year.

Linn Energy Partners ( LINE): Linn posted an adjusted fourth-quarter loss from continuing operations of $435,000, or break-even per share, below the average analyst estimate of earnings of 32 cents a share, as it was hit by a wildfire in its Brea Olinda Field in California and weak production in the Mid-Continent.

However, the company said production is 100 percent hedged for 2009, 2010 and 2011, and its shares rose 10.7 percent. Linn halved its 2009 capital expenditure

budgets, joining a long list of exploration and production companies to do so as the sector has been hit hard by the drastic fall in oil and gas prices and the credit crunch.

Magellan Midstream Partners (MMP): Raised dividend 8% over the past year.

Nustar Energy (NS): Raised dividend 7.4% over the past year.

ONEOK Partners (OKS): Raised dividend 5.3% over the past year.For 2009, projecting lower net income between $3.15 and $3.75 for ONEOK Partners about 25 percent less than 2008. http://newsok.com/oklahoma-energy-briefs...

Sunoco Logistics Partners (SXL)

TEPPCO Partners (TPP)

Tortoise Energy Infrastructure Partners(TYG) Actually a fund of MLPs.

3. Coal MLPs

In addition to a depressed overall market and energy prices, coal is not an especially clean fuel source and President Obama specifically warned utilities not to build new coal fired plants. Nonetheless, coal demand is not fading anytime soon, and is more likely to grow due to lack of alternatives and improved environmental technologies, even under the current economic climate. Coal prices and the below stocks will soar as energy recovers, or if events in the Middle East or elsewhere make energy imports more problematic.

Alliance Resource Partners (ARLP

Northern Resource Partners (NRP)

Penn Virginia Resources Partners (PVR)

4. Other Sector MLP

Terra Nitrogen Company, L.P. (TNH): A rare income play on the long term growth in fertilizer demand. Because it only trades a bit over 100,000 shares per day, its price can be very volatile, so don’t chase it much over $100/share in this market. Like any low volume stock, it’s a good stock to leave a low priced order in that can get hit when a few big shareholders need to sell.

StoneMor Partners (STON): A rare income play on cemeteries.

5. Utilities

All of the below are classic cases of blue chip companies with formerly modest blue chip style dividends beaten down mostly due to wholesale selling across the markets. While they remain at 10 year lows, their dividends, while not huge, have become serious. While major economic downturns will slow down their growth rates, things need to get very bad before their dividends get cut. Buy only when market is down and yields are over 6%.

Dominion Resources Inc. (D)

Duke Energy Corp (DUK)

Progress Energy (PGN)

Southern Company (SO)

6. Conclusion, Disclosure & More Info

Here in Part 11B we concluded or mid-series review.

The coming articles will examine individual categories and stocks in greater detail.

Disclosure: I have positions in most of the above mentioned investments.

Interested in learning more about investing in stocks that provide reliable high dividends with better transparency, appreciation potential, and liquidity than bonds? Visit http://highdividendstocksguide.blogspot.com Watch for info on our quarterly newsletter.

THE MUST-AVOID SEVEN DEADLY SINS FOR INCOME INVESTORS

 

PART 11A OF A SERIES OF ARTICLES: THE HIGH-DIVIDEND INVESTOR’S COLLAPSING DOLLAR SURVIVAL GUIDE- A MID-SERIES REVIEW

 

Introduction

For my regular readers the below may seem a bit repetitive. However, the fundamentals of good teaching include constant repetition, summary, and drill.

Thus it's critical to occasionally review the key points of income stock investing.

So, dear readers, here's a review of the Must-Avoid 7 Deadly Sins for Income Investors.

Part 11B will briefly review the best of the specific recommendations covered thus far in this series.

1. Ignoring the Overall Market Trend

While you don't have to attempt to time market tops and bottoms, one should always be aware of the markets' overall trend. In particular:

A. If the market is in an established downtrend

Invest only funds you can let sit, and be very selective about what you do buy. Also, because down trending stock prices usually move in a downward channel, set your buy prices near the lower range of that declining channel if you want to try to get the lowest near term price.

Don't confuse this with picking an overall bottom. In an established downtrend, assume prices will ultimately head lower until there are clear signs of a reversal.

B. If the market is in an established uptrend

You can be more aggressive, accepting lesser yields for stocks that are appreciating with the idea that you'll take some profits when the trend fades. Again, however, stocks don't trend straight up or down. Usually up-trending they fluctuate within a rising channel, so try to set your buy prices near the lower end of the rising channel.

C. If the market is in a trading range

Set your buy orders at the low end of the range (support) and consider taking at least some profits at the upper end (resistance).

2. Ignoring Likely Support and Resistance Points – The Keys to Knowing When to Buy and Sell

Those familiar with technical analysis can skip this section.

While income investors are justifiably more inclined to be long term buy and hold investors, they should still be well versed in enough technical analysis and chart reading to identify support/resistance price levels for choosing buy prices (or selling puts for extra income) and resistance levels for selecting points to consider taking some profits (or selling some covered calls for extra income).

A. Definitions

What are these? In their simplest forms:

A support level is simply the lowest price that a stock has reached over a given period before stopping its decline and then reversing direction and rising. It’s like getting the stock on sale. The more times that level has been reached but not breached, the more tested and reliable it is.

A resistance level is the highest price a stock has reached over a given period before halting its rise and then declining. The more times this peak price has been reached but not penetrated, the more tested and reliable it is.

In short, support and resistance define the likely lower and upper range in which a stock price fluctuates over a given time.

Note: Once breached, support becomes resistance, and resistance becomes support. In other words, if a stock had never declined over the past 5 years below $10 and then falls below it and stays below for more than a brief period, the prior $10 support level is now consider a resistance level. That is, as the stock price approaches $10 it will be expected to retreat and thus this might make a good selling point. If, however, the stock rises above $10 and stays above it, that price again becomes a support level.

There is plenty of good, free information online about the different kinds of support and resistance price levels. Some, like trend lines and price support levels, will make intuitive sense. Others, like Fibonacci retracements and extensions, may not.

However the following list of types of support and resistance are widely followed and used, making their influence a self fulfilling prophecy by virtue of their sheer popularity.

So if you want a clearer idea of when to buy (or sell puts) or sell (or sell covered calls), study the following concepts.

B. Basic Types

Most Basic

Definition of price support and resistance

Trend lines

Channels

Moving Averages

Bollinger Bands

More Advanced

Fibonacci retracements and extensions

Parabolic SAR

Classic chart price patterns

Classic candlestick patterns

There are many more I could give here, but this section is obviously for those new to technical analysis.

C. Sources of Free Study Materials

1. Your own internet search

To search out free sources on basic technical analysis, use search terms like:

“Technical analysis” AND Introduction

“Technical analysis” AND (support OR resistance)

2. A few specific recommended sites include:

General Investing Education Sites

www.investopedia.com/university/technical/technicalanalsis4.asp

Foreign Exchange Trading Sites

Because technical analysis is so heavily used in forex trading, these sites often have good education resources on various aspects of technical analysis. Once you learn about it and want to test your ability to use it, they also provide free practice accounts for 30 days where you can try to paper trade and test yourself. There are many, but here are a couple I liked.

www.avafx.com It’s concise and clear, a good place to start for a quick overview. I also found their email and live chat support very responsive and helpful when questions arose. If you want to practice technical analysis with a free practice account, their trading platform was easy to use and had good yet easy charting tools. I’m involved with forex trading, and my experience with them thus far has been good.

To access their free technical analysis materials:

Click on the RESOURCES tab on the upper horizontal navigation bar, then

Click on Education Center at the top of the left margin

www.babypips.com/school A wide selection of often good but brief technical analysis topics. Choose from a variety of levels and subjects in the left margin

3. Assuming Lower Yield Is Necessarily Safer

Many intuitively equate lower yield with greater stock price or dividend stability. Yes, in theory, perfectly functioning markets should automatically and instantly assign safer companies lower yields and vice versa in relation to their perceived risk levels. In fact, perceived risk and reward usually are inversely related, especially in periods of relative market calm.

However, markets are often neither rational (especially during historically extreme bull or bear markets) nor fully informed, nor up to date with reality. In strong bear markets such as this one, even solid stocks sell off with the general market as investors indiscriminately sell stocks to raise cash and reduce risk of further loss. Thus their yields rise proportionally.

For example, if a stock cost $10, and pays $1 of annual dividends, it yields 10%. If that price drops to $7, yet net income or funds from operations (in the case of MLPs and certain income funds) remain stable, the dividend holds steady, and the stock now yields 14%. In this case, the yield does not reflect increased business risk. Of course, it may, if the stock is cyclical and performs along with the overall economy, as is the case with many non-essential consumer and luxury goods stocks, heavy manufacturers, real estate, etc).

Thus the high yield can simply reflect the overall market's weakness or misperception, not necessarily a problem with the company. This is especially true for dominant companies in recession resistant niches like utilities or other power generators, firms with largely fixed revenues via long term contracts with stable customers, dominant or near monopoly suppliers of critical services or products like energy infrastructure MLPs or income funds, certain communications service providers, etc.

Again, virtually all stock prices follow the market. Thus even the largest, theoretically more stable firms' stock prices drop in approximate proportion to the overall market along with medium and small cap stocks in more recession proof niches that may offer better yields and performance.

A. Defining Acceptably High Yields

While what constitutes an acceptably high yield for income is debatable, it's clear that the typical sub-5% yields seen in blue chips or "dividend aristocrats" companies will leave you with virtually nothing after real inflation and taxes.

Yes, over time they do grow their dividends, but rarely is that annual growth dramatic enough to make a significant difference. For example, if the annual yield is 3%, and the company raises the dividend 10% (an unusually high rate of dividend growth) you're still only getting 3.3% per year. Real inflation (i.e. the actual cost of living for those of us who eat, use energy, education, medical services etc) is usually well above that level. You need a large principal invested at that rate to have anything left after real inflation and taxes.

One of the few upsides of strongly bearish markets such as this one is that it’s possible to find very solid companies with reliable yields above 8%, because:

Even prosperous companies see their stock price pummeled and thus their dividend yields rise in proportion to the price declines as panicky institutions (who hold most of the shares) and individuals sell indiscriminately

Even when panic selling subsides, the residual heightened fear in bear market raises risk premiums as investors wait buy only the most tempting (i.e. lowest price, highest yielding) bargains.

Thus under these conditions, I try to find quality companies yielding at least 8%. Yes, high inflation and taxes could wipe this out too, as could selling at a loss greater than your income. That's true for every stock.

B. Low Yield Dividend Stock Investing Is not the Same Thing as Income Investing

However, your odds of profiting are obviously better with steady high yields than with steady low yields.

With low dividends, your only chance to really profit is with price appreciation, which will be hard to get until the market enters a sustained uptrend, which is currently not expected. The most optimistic speculation is for a flattening market remaining in a trading range for the coming years. That means short lived rallies. Try to catch them early if you can, but that's attempting to time the market. Few are consistently successful at that.

Remember, stock prices follow the overall market, and the shares of larger, more established firms have been hit just as badly as those of smaller firms.

4. Neglecting to Check If the Yield Is Sustainable

On the other hand, the underlying business must be able to sustain and ideally grow the dividend. Whether you do the research yourself or use a newsletter like mine, it's critical to check the sustainability of the dividend. As mentioned in prior articles, you need to focus on overall business health, and especially on payout ratios and how income, funds from operations, and cash levels compare to current and future debt obligations.

5. Failing to Calculate Minimum Needed Yield

If you need $80,000/ year, and you have $500,000 to invest, what overall yield do you aim for? Divide income be principal: 80,000/500,000 = 16%.

Ok, 16% is not realistic under current conditions unless one accepts higher risk levels or we get further periods of panic and new lows that produce opportunities for such yields. That may yet happen, though it will take courage to take substantial positions at that point.

But this illustration does show that the investor needs to be pushing for the highest reliable yields possible. Those with larger portfolios can be afford to diversify more into lower yielding stocks, those with smaller ones will need to choose between a narrower focus on higher yielding albeit quality stocks, and a somewhat lower yield with a more diversified mix and theoretically lower risk.

6. Failure to Diversify Currency

In the not so distant past this was almost irrelevant for US investors, who for generations had held the world’s safest currency backed by the world’s most stable economy. No longer.

Now currency diversification has become critical, and failure to do so will probably be the biggest single mistake most U.S. income investors will make in the coming years.

With the US government committed (thus far) to printing about $13 Trillion in new dollars, (about a year’s worth of US Gross National Product) a steep devaluation in the USD's purchasing power seems inevitable at some point, and major overseas buyers of US dollars are very unhappy about that. Understandably, the major buyers of US Treasury bonds like China and Japan would like to further diversify out of the US dollar. Admittedly, though, it’s unclear how they’ll do this without hurting their own reserves or exports. Assuming they ultimately do reduce their demand for US Treasury bonds, this means declining overseas demand for dollars and thus further pressure on the USD likely at some point in the coming years.

This is a massive problem for income investors based in US dollars.

Why? Because income investors are by definition usually in liquid currency denominated assets, their fate is tied to the currency in which that security is denominated.

The solution is to own stocks and bonds denominated in different currencies (some more based on exports (Yen, CAD, AUD) some more on capital flows (GBP).

Caution: All other currency groups are also expanding money supply, and few are successful at predicting foreign exchange trends. Thus some diversification into high dividend investments that are based in other currencies is essential.

Just some of the great examples mentioned in Part 11B include ARLP,ATGFF, ATPWF, BP, BPL, CEL, ERF, ESIUF, EPD, FTE, GLHIF, INRGF, KMP, LINE, MMP, NRP, PMBIF, TNH, TPP,VE, VETMF, WIN.

7. Failure to Invest in Inflation Resistant Stocks

Unfortunately, protecting your purchasing power will be more complicated than merely buying income stocks tied to other currencies. All currency blocks are expanding their money supplies, and that will at some point lead to erosion in their purchasing power, aka inflation.

What makes a stock inflation resistant? The ability to pass on rising costs to its customers, aka pricing power. This comes from businesses based in some kind of vital tangible asset or vital commodity, the price of which rises in proportion to the dollar’s decline. Energy, precious metal, agricultural and other key commodity businesses fit this category. Pricing power can also come from being a dominant or monopolistic provider of a critical service that allows the firm to pass along increased costs to customers. For all the bad press about them, certain large and rural telecommunications companies are good examples of this, as are certain energy infrastructure MLPs in the US and Canadian clean energy and energy infrastructure firms.

8. High Dividend Stocks To Consider

Our newsletter discusses these in more detail, but see Part 11B for a brief review of the best stocks covered thus far and of stocks to be examined in future articles in this series on The High Dividend Investor’s Collapsing Dollar Survival Guide.

9. Conclusion, Disclosure & More Info

Here in Part 11A of this series on the High Dividend Investor’s Collapsing Dollar Survival Guide, we reviewed key mistakes that income investors must avoid in order for their portfolios to survive and prosper.

In Part 11B we’ll briefly review the best of stocks covered thus far and still to be covered.

Disclosure: I have positions in most of the above mentioned investments.

Interested in learning more about investing in stocks that provide reliable high dividends with better transparency, appreciation potential, and liquidity than bonds? Visit http://highdividendstocksguide.blogspot.com Also, watch for coming notice of our quarterly newsletter, the High Dividend Stocks Guide Newsletter.

SKF Ultra-shorts: Must-Have Protection Against the Banking Sector Madness

 

Is the banking sector rapidly disintegrating into some real-life version of The Mad Hatter’s tea party from Alice in Wonderland?

Forget the volumes of technical debate on the current moves to save the banks. Let’s just step back and use common sense. Consider just a few recent events.

Suspension of Mark to Market Accounting

Using this method, mortgaged backed securities were valued just like any other asset for which there is an active market - as of the latest sale prices for similar assets on the open market, just like you would determine a fair price for a house, car, business, or toaster. Prices of various kinds of debt have been reasonably discounted severely because there is now increased risk of default, just like used car prices drop with age and mileage because of the increased risk of loss from repair costs.

With the suspension of “M2M”, the banks and government are attempting to inflate the value of banking assets based solely on current cash flow. By this logic, because GM bonds are current on interest payments, they should be valued at 100% of par rather than the 10% or less that reflects the risk of future default.

It’s like saying that critically ill patients on life support are as healthy as anyone else as long as they continue to breath.

The Fed Accepting Lower Quality Collateral

Instead of just top-rated sovereign debt (admittedly no longer risk free), the Fed now accepts in certain cases investment grade corporate bonds and commercial paper, residential and even commercial real estate loans.

• Residential Real Estate loans: Increasing joblessness (even at a declining rate of growth) means more mortgage defaults. Also, remember that employment is a lagging indicator, and thus will not improve until later in still unseen recovery.

• Commercial real estate loans: As I’ve noted earlier, the bankruptcy of GGP, the largest mall REIT, casts genuine doubt about the stability of retail property valuations for the foreseeable future.

• I haven’t even begun to discuss the manipulations needed to achieve the illusion of earnings improvements. Too technical for now.

What Investors Can Do

Because I believe critique without a practical remedy is of limited value for my readers, I leave you all with one simple strategy to protect your portfolios for the day when the façade falls away.

Short the Financial Sector

In short, by one means or another, short the financials.

One simple idea: The Ultrashort Financials (SKF). As the below chart shows, these are at multiyear lows that are not justified the above noted facts in the banking sector. Given that these are at multi-year lows, you’ll know quickly if this support won’t hold, so you can set sell stops within 10% below these levels to keep your risk low. Given the recent highs, the possible risk / reward makes this a worthwhile trade.

Obviously there are other means, like shorting individual banks.

Risks

Given the manipulations already seen, it is not far-fetched to assume other “extra-market” manipulations means might be used to artificially prop up the banks or other assets. Government imposition of “bank holidays,” currency controls, extraordinary “emergency” legislation have all been used in the past and could be used again. We may be right in our analysis, but still not profit.

Conclusion

Based on the evidence we have, the optimism for the financials is overdone, and the SKFs are a good way to play that, at least for a short term hedge. Of course, if the financials swoon again, so will the rest of the market, so other ultrashorts like SDS, SRS, and TWM are ideas to consider as well.

My readers know I’m more of a buy and hold investor for income, not a short term trader. However, a good investor must be flexible and be willing to look at the facts, draw conclusions, and take appropriate action, even if it goes against one’s nature.

Disclosure

I have positions in most or all of the above mentioned securities.

CANADIAN ENERGY INFRASTRUCTURE INCOME TRUSTS: HIGH DIVIDEND USD HEDGE UTOPIA-Part 10B of a Series

Like U.S. Master Limited Partnerships on Steroids: Higher Yields, USD Hedge

Part 10B of a Series

The High Dividend Investor’s Collapsing Dollar Survival Guide

1. EXECUTIVE SUMMARY FOR THIS SERIES

HIGH YIELD STOCKS ARE A FORM OF CASH. THUS INFLATION EATS AWAY AT BOTH YIELD AND PRINCIPLE. AS GOVERNMENTS INFLATE THEIR MONEY SUPPLY TO EASE CREDIT, MOST OBSERVERS BELIEVE INFLATION IS INEVITABLE.

THUS FAR IN THIS SERIES WE EXPLORED:

THE CURRENT STATE OF THE MARKET

THE CASE FOR AND AGAINST THE DOLLAR’S DEMISE

RECOMMENDED CRITERIA FOR SELECTING HIGH DIVIDEND STOCKS THAT ALSO GIVE A HEDGE AGAINST THE U.S. DOLLAR’S LIKELY IMPENDING DEPRECIATION.

SPECIFIC STOCK MARKET HEDGES AND HIGH DIVIDEND STOCKS THAT ARE INFLATION RESISTANT MENTIONED BELOW INCLUDE:

GENERAL MARKET HEDGES

UltraShort S & P 500 Proshares (SDS), UltraShort Financials ProShares (SKF), UltraShort QQQ ProShares (QID), UltraShort Real Estate ProShares (SRS), UltraShort Russell2000 ProShares (TWM)

INTERNATIONAL

Big Oil

BP, plc (BP), CNOOC Ltd. (CEO), Enid SpA (E), Total Fina Elf (TOT)

Utilities

Veolia Environmental SA (VE), ENEL-SOCIETA PER AZI (ESOCF.PK or ENLAY.PK)

Communications

Cellcom Israel Ltd. (CEL), France Telecom (FTE) Telefonica (TEF)

Shipping

Diana Shipping (DSX), Nordic American Tanker (NAT), Paragon Shipping (PRGN), Seaspan Corp (SSW)

Canadian Oil/Gas Energy Income Trusts

Advantage Energy Income Fund (AAV, TSX: AVN.UN), ARC Energy Trust (OTC: AETUF, TSX: AET-UN), Claymore/SWM Canadian Energy Income Fund (ENY), Enerplus Resources Fund (ERF), Peyto Energy Trust (OTC: PEYUF, TSX: PEY.UN), Provident Energy Trust (PVX, TSX: PVE.UN), Vermillion Energy Trust (OTC: VETMF, TSX: VET.UN)

Canadian Income Trust Tax Issues

IN PART 9 WE LOOKED AT BOTH

The recent uptrend in the stock markets and the U.S. dollar versus the Canadian dollar, and why they’re unlikely to mark the beginning of long term trends

AND

Canadian Clean Energy Income Trusts

Atlantic Power Corporation (OTC: ATPWF, TSX: ATP.UN), Energy Savings Income Fund (OTC: ESIUF, TSX: SIF.UN), Great Lakes Hydro Income Fund (OTC: GLHIF, TSX: GLH.UN), Innergex Power Income Fund (OTC: INRGF, TSX: IEF.UN), Macquarie Power & Infrastructure (OTC: MCQPF, TSX: MPT.UN), Northland Power Income Fund (OTC: NPIFF, TSX: NPI-U)

HERE IN PART 10, WE’LL EXAMINE:

Canadian Energy Infrastructure Income Funds

Altagas Income Trust (OTC: ATGFF, TSX: ALA.UN), InterPipeline (OTC: IPPLF, TSX: IPL.UN), Keyera Facilities (OTC: KEYUF, TSX: KEY.UN), Pembina Pipeline Fund (OTC: PMBIF, TSX: PIF.UN)

IN COMING PARTS WE’LL EXPLORE:

Canadian Utility Income Trusts

Bell Aliant (OTC: BLIAF, TSX: BA.UN)

Canadian Health Care Income Trust

CML Healthcare Inc. Fund (OTC: CMHIF, TSX: CLC.UN)

Canadian Real Estate Income Trusts

Canadian Apartment Properties REIT (OTC: CDPYF, TSX: CAR.UN), Northern Property REIT (OTC: NPRUF, TSX: NPR.UN), RIOCAN REIT: (OTC: RIOCF, TSX: REI.UN

Canadian Misc Business Trusts

Yellow Pages Income Fund (OTC: YLWPF, TSX: YLO.UN)

UNITED STATES

Communications

AT &T Inc (T), Verizon (VZ), Otelco (OTT), Windstream Corp (WIN)

Energy Infrastructure Master Limited Partnerships (MLPs)

Buckeye Partners (BPL), El Paso Pipeline Partners (EPB), Enterprise Products Partners (EPD), Energy Transfer Partners (ETP), Kinder Morgan Energy Partners (KMP), Magellan Midstream Partners (MMP), Nustar Energy (NS), ONEOK Partners (OKS), Sunoco Logistics Partners (SXL), TEPPCO Partners (TPP), Tortoise Energy Infrastructure Partners (TYG)

Coal MLPs

Alliance Resource Partners (ARLP), Northern Resource Partners (NRP), Penn Virginia Resources Partners (PVR)

Other MLPs

Terra Nitrogen Company, L.P. (TNH), StoneMor Partners (STON)

Utilities

Dominion Resources Inc. (D), Duke Energy Corp (DUK), Progress Energy (PGN), Southern Company (SO)

2. THE MARKET

See Part 10A. Here in 10B we get right to our examination of Canadian Energy Infrastructure Income Trusts.

3. CANADIAN ENERGY INFRASTRUCTURE INCOME TRUSTS - The Big Picture

A. Comparison to U.S. Energy Infrastructure Master Limited Partnerships (MLPs) – Similarities and Differences

See Part 10A for the full story. Here’s a summary of the key points

We will deal with these U.S. MLPs in depth in future articles. However, for now, here’s a list of our favorites:

· Buckeye Partners (BPL)

· El Paso Pipeline Partners (EPB)

· Enterprise Products Partners (EPD)

· Energy Transfer Partners (ETP)

· Kinder Morgan Energy Partners (KMP)

· Magellan Midstream Partners (MMP)

· Nustar Energy (NS) – also has an asphalt production arm that will benefit from both a shrinking number of suppliers and the Obama administration’s push for infrastructure projects like roads.

· ONEOK Partners (OKS)

· Sunoco Logistics Partners (SXL)

· TEPPCO Partners (TPP)

· Tortoise Energy Infrastructure Partners (TYG) – actually a fund that serves as a basket of these kinds of businesses

1. Similarities

Like the U.S. MLPs, these Canadian midstream (pipelines and storage) firms:

· Must distribute most of their available cash (90% for the U.S. MLPs in most cases) after that needed for maintenance and of current projects and new ones needed to maintain or grow revenues.

· Don’t pay tax at the entity level. Until Canadian tax law changes in 2011, those that don’t elect early conversion to corporations are not taxed at the entity level, allowing higher yields. While there is some uncertainty about how 2011 driven conversions to corporations will affect these trusts, the bottom line is that our selections’ distributions should not be significantly impaired due to various factors discussed below.

· Their revenues are generally based on capacity sold in advance to energy producers regardless of whether that oil or gas is actually moved through their pipelines or not.

2. Advantages

Thus like their U.S. counterparts, they offer reliable, high yields. However, they offer some intriguing advantages.

· Higher Yields: Their yields are generally a bit higher than the approximately 9% average of the U.S. MLPs.

· USD hedge: They all pay distributions in CAD (usually converted to USD by brokers in the U.S.), thus offering a USD hedge.

· Monthly distributions: Most pay each month, not quarterly like their U.S. counterparts.

3. Risks

· 2011 Canadian tax changes may adversely affect yield: Yes, the 2011 driven conversion to corporations with an additional layer of tax at entity level raises questions about how well each firm will be able to maintain its yield. As a group, energy infrastructure companies have relatively high depreciation expenses that can offset taxes.

Also, our specific picks are growing their businesses and can be expected to ultimately increase funds from operations and thus distributions to make up for funds lost to taxes. Note that most Canadian companies do not pay full theoretical taxes due to careful tax planning.

· Currency Risk: Distributions and share prices in CAD can be a dual edged sword. There will be periodic declines in the value of the CAD against the USD.

See Part 9A for full details on why we believe the CAD will appreciate over the coming years against the USD. In short, a more conservative, healthier banking and housing sector that did not indulge in subprime lending has meant that the CAD supply is not expanding on anything close to the scale of the USD. While that isn’t the only factor to consider, it’s a big one.

· Market Risk. Like virtually all shares, they will move with the overall market. Note that all of these are relatively thinly traded, and thus volatile, since little selling or buying can really move their share prices.

Remember: energy transport and storage is one of the most recession resistant industries. Thus these are great defensive plays that pay you very well while you wait for recovery.

4. ENERGY INFRASTRUCTURE INCOME TRUSTS– Specific Recommendations

As noted above, consider deferring further purchases until the current rally retests support.

NOTE:

CANADA CURRENTLY HAS A 15% WITHOLDING TAX FOR FOREIGN SHAREHOLDERS, WHICH CAN BE RECOVERED AS A TAX CREDIT BY SUBMITTING IRS FORM 1116 WITH YOUR TAX RETURN. IT’S AS YET UNCLEAR IF OR HOW THAT WILL CHANGE IN 2011.

ALL AMOUNTS QUOTED ARE IN U.S. DOLLARS (USD) UNLESS OTHERWISE NOTED. ALL STOCK SYMBOLS ARE NEW YORK STOCK EXCHANGE UNLESS OTHERWISE NOTED (OTC = OVER THE COUNTER, TSX = TORONTO EXCHANGE). YIELDS ARE AS OF DAY BEFORE PUBLICATION.

A. AltaGas Income Trust (OTC: ATGFF, TSX: ALA.UN)

In addition to the usual combination of oil and gas extraction, gathering, transmission, and processing, this firm also has a green power generation division focused on wind and geothermal facilities, thus diversifying into another reliable and growing revenue source.

1. Advice

Buy under 12.15, Strong Buy under 1015. Yield over 17%.

Website: http://www.altagas.ca/

In addition to the usual combination of oil and gas extraction, gathering, transmission, and processing, this firm also has a green power generation division focused on wind and geothermal facilities, thus diversifying into another reliable and growing revenue source.

2. Why: Q4 Highlights include

· 15.4% increase in funds from operations (FFO)

· Continued expansion of wind and geothermal generation assets in power hungry Western Canada

· Successful renegotiated credit agreement supports our view that the firm has no credit access problems in a generally restrictive market, and puts the company in a position to make further strategic acquisitions at bargain prices

· Payout ratio remains a conservative 72%, adding security to the distribution

3. Concerns

Impact of 2011 tax increases

Both the high yield and low payout ratio provide significant cushion against higher taxes. Cut this by a third and you’re STILL getting around 12%.

Like all energy infrastructure firms, high depreciation expenses will protect a substantial portion of distributions from classification as taxable income to tax free return of capital.

12 month growth in outstanding shares is about 23%

We’d like this below 10%, and consider anything over 20% to be too dilutive. We’ll accept this for now, based on the solid overall results and understandable reluctance to increase debt.

4. Conclusion

With their excellent performance in a tough market and timely emphasis on gas and other high demand “green” energy sources, insiders have been buyers on the price dips. Me too.

B. Pembina Pipeline Income Fund (OTC: PMBIF, TSX: PIF.UN)

Owns and operates pipelines in the Alberta Tar Sands. While current energy prices have made tar sands oil unprofitable, that hasn’t slowed Pembina a bit. They get paid on a fixed rate of return basis, eliminating exposure to energy prices and even throughput declines.

1. Action

Buy under 12, Strong Buy under 10. Yield over 13%.

Website: http://www.pembina.com

2. Why

To get a quick feel for how healthy Pembina is, consider just the following two facts:

· The contracts are obviously long term, and the firm has affirmed that it will be able to at least sustain its current distribution through 2015, despite its plans to convert to a dividend paying corporation (thus taxed at entity level) sometime in 2010.

· They continue to expand capacity, adding Horizon Pipeline system in July 2008, and are investing CAD 165 million in the new Nipisi pipeline and CAD 260 million in the Mitsue pipeline.

· Debt has grown but remains quite manageable when compared to revenues and cash from operations shown in the below mentioned MD&A. Click on the link to see for yourself. Outstanding share growth over the past 12 months is around 1%. They have the cash they need.

· A quick review of the Management Analysis and Discussion (MD&A – see http://www.pembina.com/webcms.nsf/AllDoc/11E467568884F97B87257570000B9ED8/$File/2008MD&A.pdf ) essentially shows increases in everything you want to see grow: Net earnings, cash from operations, distributable and distributed cash, etc. Debt levels are quite manageable. Enterprise value declined, but that is based on share price and thus much more a reflection on the overall market than the firm itself.

3. Concerns

Payout ratio is about 95%. We would prefer this to be below 90%, but given the very steady fixed fee revenue stream, this is acceptable.

4. Conclusion

Pembina is another classic case of a great investment getting unjustly slammed over confusion about its revenue health. While current energy prices may make the tar sands oil unprofitable, that has no effect on Pembina’s financial health or distributions until at least 2015. Ditto its conversion to a corporation in 2010.

C. Inter Pipeline Fund (OTC: IPPLF, TSX: IPL/UN)

Created in 1997, Inter Pipeline Fund is a major petroleum transportation, storage and natural gas liquids extraction business based in Calgary, Alberta, Canada. Inter Pipeline is a publicly traded limited partnership (not a trust subject to 2011 tax changes) that owns and operates a diversified combination of energy infrastructure assets in western Canada, the United Kingdom, Germany and Ireland. This asset portfolio generates long-term and predictable cash flows, thereby providing unit holders with a growing and stable source of monthly cash distributions.

Note: As a Limited Partnership under the laws of Alberta, only Canadian residents can own units. Bummer for the rest of us, and thus vastly limited demand for shares that will limit price appreciation for Canadian residents.

1. Action

Buy under CAD 7.5, Strong Buy under 6.5. Yield about 13%.

Website: http://interpipelinefund.com/overview/index.html

Since this is only for Canadian investors, I’ll limit coverage to this brief mention and refer Canadians to the website for more info. Like the others above – steady revenues, great yield, plus exposure to the Euro as well as the CAD.

D. Keyera Facilities Income Fund (OTC: KEYUF, TSX: KEY.UN)

Keyera operates one of the largest natural gas midstream businesses in Canada. Its three business lines consist of:

· Natural gas gathering and processing

· Processing, transportation, and storage of natural gas liquids (NGLs) and crude oil

· Marketing of Natural Gas Liquids (NGLs) and sulphur. This gives them both added risk because this segment is exposed to prices for these commodities, and added reward when these prices are strong or their hedging strategies work well.

Keyera's gas processing plants and associated facilities are strategically located in the west central and foothills natural gas production areas of the Western Canadian Sedimentary Basin. Keyera’s NGL infrastructure includes pipelines, terminals and processing and storage facilities in Edmonton and Fort Saskatchewan, Alberta, a major North American NGL hub. Keyera also markets propane, butane and condensate to customers across North America.

1. Action

Buy under 12.50, Strong Buy under 12. Yield over 14%.

Website: http://keyspancanada.com/titanweb/keyera/keyera.nsf/frmHome?openform

2. Why

In short, great results.

Record earnings and distributions, declining debt levels: For details, see highlights from the annual report: (http://keyspancanada.com/titanweb/keyera/keyera.nsf/AllDoc/132F8F32E5B7CBE587257567007788FA/$File/2008%20Q4%20final.pdf

Continued ability to obtain affordable financing: On April 14^th 2009, the firm announced a long term senior unsecured debt private placement for CAD 97 million at 8.06% and will mature May 1, 2016. The funds will be used to repay CAD 90 million of existing long term debt when it matures on October 1 2009. In the words of CFO and VP Dean Setoguchi:

“Our ability to complete this transaction at favourable rates, given the current economic situation, is a testament to the strength of Keyera’s business model and conservative approach to our financial management”.

Continued expansion: Not surprisingly, Keyera’s ability to prosper and obtain funding in this environment has allowed them to acquire strategic growth assets at favorable prices. In December 2008 the firm acquired additional interests in three gas gathering and processing facilities in West Central Alberta.

Reliable distributions: Payout ratio is a very conservative 55%, share growth a conservative 10%. Except for the NLG by products sales, revenues are protected by capacity based contracts unaffected by oil prices or throughput. That is, customers contract on a long term basis to pay fixed fees to reserve a given volume of product to move through Keyera’s pipelines and storage facilities.

3. Concerns

Revenues can be adversely affected by declines in the NLG by products sales.

4. Conclusion

Even with risks from some exposure to the NLG by products prices, the high yield and ultra conservative payout ratio provide a large margin of safety. As energy prices recover, the NLG business will be a bonus.

5. Conclusion, Disclosure & More Info

Here in Part 10B presented specific recommendations of the best of the Canadian Energy Infrastructure Income Trusts.

In sum, they provide among the best risk/reward available for high dividend investors. They are similar in many ways to U.S. Energy Infrastructure MLPs, with the added advantage of generally higher yields and a valuable USD hedge. While the 2011 tax changes will cause these to convert to corporations, impact on the dividends of these specific recommendations should be minimal to none for at least the next number of years.

Part 10B will look at specific recommendations in this sector

Part 11 will deal with another superb Canadian income trust sector.

Disclosure: I have positions in most of the above mentioned investments.

Interested in learning more about investing in stocks that provide reliable high dividends with better transparency, appreciation potential, and liquidity than bonds? Visit http://highdividendstocksguide.blogspot.com

CANADIAN ENERGY INFRASTRUCTURE INCOME TRUSTS: HIGH DIVIDEND USD HEDGE UTOPIA - Part 10A of a Series

 

Like U.S. Master Limited Partnerships on Steroids: Higher Yields, USD Hedge

 

Part 10A of a Series

The High Dividend Investor’s Collapsing Dollar Survival Guide

1. EXECUTIVE SUMMARY FOR THIS SERIES

HIGH YIELD STOCKS ARE A FORM OF CASH. THUS INFLATION EATS AWAY AT BOTH YIELD AND PRINCIPLE. AS GOVERNMENTS INFLATE THEIR MONEY SUPPLY TO EASE CREDIT, MOST OBSERVERS BELIEVE INFLATION IS INEVITABLE.

THUS FAR IN THIS SERIES WE EXPLORED:

THE CURRENT STATE OF THE MARKET

THE CASE FOR AND AGAINST THE DOLLAR’S DEMISE

RECOMMENDED CRITERIA FOR SELECTING HIGH DIVIDEND STOCKS THAT ALSO GIVE A HEDGE AGAINST THE U.S. DOLLAR’S LIKELY IMPENDING DEPRECIATION.

SPECIFIC STOCK MARKET HEDGES AND HIGH DIVIDEND STOCKS THAT ARE INFLATION RESISTANT MENTIONED BELOW INCLUDE:

GENERAL MARKET HEDGES

UltraShort S & P 500 Proshares (SDS), UltraShort Financials ProShares (SKF), UltraShort QQQ ProShares (QID), UltraShort Real Estate ProShares (SRS), UltraShort Russell2000 ProShares (TWM)

INTERNATIONAL

Big Oil

BP, plc (BP), CNOOC Ltd. (CEO), Enid SpA (E), Total Fina Elf (TOT)

Utilities

Veolia Environmental SA (VE), ENEL-SOCIETA PER AZI (ESOCF.PK or ENLAY.PK)

Communications

Cellcom Israel Ltd. (CEL), France Telecom (FTE) Telefonica (TEF)

Shipping

Diana Shipping (DSX), Nordic American Tanker (NAT), Paragon Shipping (PRGN), Seaspan Corp (SSW)

Canadian Oil/Gas Energy Income Trusts

Advantage Energy Income Fund (AAV, TSX: AVN.UN), ARC Energy Trust (OTC: AETUF, TSX: AET-UN), Claymore/SWM Canadian Energy Income Fund (ENY), Enerplus Resources Fund (ERF), Peyto Energy Trust (OTC: PEYUF, TSX: PEY.UN), Provident Energy Trust (PVX, TSX: PVE.UN), Vermillion Energy Trust (OTC: VETMF, TSX: VET.UN)

Canadian Income Trust Tax Issues

IN PART 9 WE LOOKED AT BOTH

The recent uptrend in the stock markets and the U.S. dollar versus the Canadian dollar, and why they’re unlikely to mark the beginning of long term trends

AND

Canadian Clean Energy Income Trusts

Atlantic Power Corporation (OTC: ATPWF, TSX: ATP.UN), Energy Savings Income Fund (OTC: ESIUF, TSX: SIF.UN), Great Lakes Hydro Income Fund (OTC: GLHIF, TSX: GLH.UN), Innergex Power Income Fund (OTC: INRGF, TSX: IEF.UN), Macquarie Power & Infrastructure (OTC: MCQPF, TSX: MPT.UN), Northland Power Income Fund (OTC: NPIFF, TSX: NPI-U)

HERE IN PART 10, WE’LL EXAMINE:

Canadian Energy Infrastructure Income Funds

Altagas Income Trust (OTC: ATGFF, TSX: ALA.UN), InterPipeline (OTC: IPPLF, TSX: IPL.UN), Keyera Facilities (OTC: KEYUF, TSX: KEY.UN), Pembina Pipeline Fund (OTC: PMBIF, TSX: PIF.UN)

IN COMING PARTS WE’LL EXPLORE:

Canadian Utility Income Trusts

Bell Aliant (OTC: BLIAF, TSX: BA.UN)

Canadian Health Care Income Trust

CML Healthcare Inc. Fund (OTC: CMHIF, TSX: CLC.UN)

Canadian Real Estate Income Trusts

Canadian Apartment Properties REIT (OTC: CDPYF, TSX: CAR.UN), Northern Property REIT (OTC: NPRUF, TSX: NPR.UN), RIOCAN REIT: (OTC: RIOCF, TSX: REI.UN

Canadian Misc Business Trusts

Yellow Pages Income Fund (OTC: YLWPF, TSX: YLO.UN)

UNITED STATES

Communications

AT &T Inc (T), Verizon (VZ), Otelco (OTT), Windstream Corp (WIN)

Energy Infrastructure Master Limited Partnerships (MLPs)

Buckeye Partners (BPL), El Paso Pipeline Partners (EPB), Enterprise Products Partners (EPD), Energy Transfer Partners (ETP), Kinder Morgan Energy Partners (KMP), Magellan Midstream Partners (MMP), Nustar Energy (NS), ONEOK Partners (OKS), Sunoco Logistics Partners (SXL), TEPPCO Partners (TPP), Tortoise Energy Infrastructure Partners (TYG)

Coal MLPs

Alliance Resource Partners (ARLP), Northern Resource Partners (NRP), Penn Virginia Resources Partners (PVR)

Other MLPs

Terra Nitrogen Company, L.P. (TNH), StoneMor Partners (STON)

Utilities

Dominion Resources Inc. (D), Duke Energy Corp (DUK), Progress Energy (PGN), Southern Company (SO)

2. THE MARKET

Before ever considering investing in stocks, we must always first look at the overall market, since almost all stocks follow the major indices.

A. Just a Bear Rally

Over the past month we’ve seen what still appears to be a nothing more than a bear market rally, because:

Overall market fundamentals still declining: Some are dropping at a slower rate, and this has been the “good news” that bulls have used to support their optimism. Some continue to drop faster. I don’t see any cause for near term optimism in the usual leading indicators? Do you, dear readers? Please enlighten me via your often superb comments

Questionable improvements in the financial sector: The other big source of optimism, improvements in the financial sector, are, ahem, suspicious. Funds funneled via AIG, and “resulting profits from operations” (ignoring asset write downs completely), suspension of mark-to-market, etc. Drastic as these are, they more ominously hint at what else might me going on behind the scenes as the government aggressively manages a façade of improvement. I can’t blame Obama, what choice does he have? Let the banking system sink? But can he really sustain this “confidence” game (pun intended)? I hope so, but I’m not placing money on it.

All this is before we even consider the ramifications of the recent bankruptcy of the largest mall operator, General Growth Partners, which suggests that other overly leveraged retail and other REITs may be forced to sell properties into a saturated market, further lowering valuations on these assets and the actual values of the banks’ commercial real estate mortgage portfolios.

Auto industry bankruptcies: So far still a massive game of chicken to scare unions, debt holders, and government into further concessions. All face disaster in one form or another. One bond dealer I spoke with thinks the bondholders may push the companies over the edge, given the especially poor deal they’re being offered. Regardless of what happens, the mere increasing threat to so many jobs will be another shock to the economy.

In sum, I don’t understand the basis for this rally other than perhaps a purely technical or program driven buying, which in turn caused large short positions to unwind. These could feed on each other for a bit, but how long can the market rally without the support of actual evidence of real improvement?

Looking at a chart of the S&P 500, April 20^th may be the key reversal that signals the end of this rally, just as this level proved to be the peak on February 10^th. Failure to crack the 850 level decisively on high volume over the next week would likely end this rally.

Figure 1: Was April 20th the end of this rally? Note the similarity to February 10^th.

B. Ramifications for High Dividend Stock Investors

In sum, consider:

· Using the rally to sell at least some partial positions taken since mid March

· Taking small hedges in Ultrashorts mentioned earlier like SDS, SKF, TWM

· Deferring new purchases until either

Ø The rally decisively breaks through 850 on the S&P, then consider limited buying, OR

Ø The rally fails to remain above it over the next week, then wait for prices to test lows before buying more

· Placing sell stops just below support to limit further losses or protect profits on positions

3. WHAT MAKES A HIGH YIELD STOCK USD INFLATION RESISTANT?

See Part 3 for the full details, but here’s the summary.

We’re seeking stocks of strong companies that mostly earn and distribute a high dividend in a non-USD currency and have a dominant position in a market for an essential product or service.

Here in Part 10, we examine an elite group of stocks which offer one of the most ideal combinations of reliable high yield and USD hedge, the best of the Canadian energy infrastructure income trusts.

4. CANADIAN ENERGY INFRASTRUCTURE INCOME TRUSTS - The Big Picture

A. Comparison to U.S. Energy Infrastructure Master Limited Partnerships (MLPs) – Similarities and Differences

These are similar in a number of ways to their U.S. version, the Energy Infrastructure Master Limited Partnerships. Those U.S. MLPs that we’ve recommended offer yields around 9% that are very reliable. Because they operate almost exclusively in the US, they don’t offer a USD hedge, however their monopoly supplier status for vital oil and gas in their areas of operation gives them pricing power (tempered by regulators) to pass along cost increases, thus providing a considerable degree of inflation protection. Significantly, they don’t have the uncertainty of the Canadian 2011 tax changes. They will continue to be tax free at the entity level, passing along both income and expenses to share holders.

We will deal with these U.S. MLPs in depth in future articles. However, for now, here’s a list of our favorites:

· Buckeye Partners (BPL)

· El Paso Pipeline Partners (EPB)

· Enterprise Products Partners (EPD)

· Energy Transfer Partners (ETP)

· Kinder Morgan Energy Partners (KMP)

· Magellan Midstream Partners (MMP)

· Nustar Energy (NS) – also has an asphalt production arm that will benefit from both a shrinking number of suppliers and the Obama administration’s push for infrastructure projects like roads.

· ONEOK Partners (OKS)

· Sunoco Logistics Partners (SXL)

· TEPPCO Partners (TPP)

· Tortoise Energy Infrastructure Partners (TYG) – actually a fund that serves as a basket of these kinds of businesses

1. Similarities

Like the U.S. MLPs, these Canadian midstream (pipelines and storage) firms:

· Must distribute most of their available cash (90% for the U.S. MLPs in most cases) after that needed for maintenance and of current projects and new ones needed to maintain or grow revenues.

· Don’t pay tax at the entity level. Until Canadian tax law changes in 2011, those that don’t elect early conversion to corporations are not taxed at the entity level, allowing higher yields. While there is some uncertainty about how 2011 driven conversions to corporations will affect these trusts, the bottom line is that our selections’ distributions should not be significantly impaired due to various factors discussed below.

· Their revenues are generally based on capacity sold in advance to energy producers regardless of whether that oil or gas is actually moved through their pipelines or not.

2. Advantages

Thus like their U.S. counterparts, they offer reliable, high yields. However, they offer some intriguing advantages.

· Higher Yields: Their yields are generally a bit higher than the approximately 9% average of the U.S. MLPs.

· USD hedge: They all pay distributions in CAD (usually converted to USD by brokers in the U.S.), thus offering a USD hedge.

· Monthly distributions: Most pay each month, not quarterly like their U.S. counterparts.

3. Risks

· 2011 Canadian tax changes may adversely affect yield: Yes, the 2011 driven conversion to corporations with an additional layer of tax at entity level raises questions about how well each firm will be able to maintain its yield. As a group, energy infrastructure companies have relatively high depreciation expenses that can offset taxes.

For example, those who own U.S. MLPs will often notice that they receive returns of capital in addition to income. This means that some of the distributable cash exceeds net income because these firms have high non cash expenses like depreciation of expensive pipelines, ships, storage tanks, and other related high capex facilities.

Also, our specific picks are growing their businesses and can be expected to ultimately increase funds from operations and thus distributions to make up for funds lost to taxes. Note that most Canadian companies do not pay full theoretical taxes due to careful tax planning.

· Currency Risk: Distributions and share prices in CAD can be a dual edged sword. There will be periodic declines in the value of the CAD against the USD.

See Part 9A for full details on why we believe the CAD will appreciate over the coming years against the USD. In short, a more conservative, healthier banking and housing sector that did not indulge in subprime lending has meant that the CAD supply is not expanding on anything close to the scale of the USD. While that isn’t the only factor to consider, it’s a big one.

· Market Risk. Like virtually all shares, they will move with the overall market. Note that all of these are relatively thinly traded, and thus volatile, since little selling or buying can really move their share prices.

Given the market and currency risk that remains, it’s very possible these will yet again power dive with the market. Pray that they do. That’s the best time to add as long as these businesses continue to perform.

Remember: energy transport and storage is one of the most recession resistant industries. Thus these are great defensive plays that pay you very well while you wait for recovery.

5. Conclusion, Disclosure & More Info

Here in Part 10A we presented current market and background information as the first part of our Part 10’s examination of the best of the Canadian energy infrastructure income trusts.

In sum, they provide among the best risk/reward available for high dividend investors. They are similar in many ways to U.S. Energy Infrastructure MLPs, with the added advantage of generally higher yields and a valuable USD hedge. While the 2011 tax changes will cause these to convert to corporations theoretically taxed at higher rates, we will show in part 10B that the effects on our recommendations’ distributions should not be significant and may well be nil.

Part 10B will look at specific recommendations in this sector

Part 11 will deal with another superb Canadian income trust sector.

Disclosure: I have positions in most of the above mentioned investments.

Interested in learning more about investing in stocks that provide reliable high dividends with better transparency, appreciation potential, and liquidity than bonds? Visit http://highdividendstocksguide.blogspot.com

MUST KNOW CRITERIA FOR INVESTING IN COMMERCIAL REITS – IF YOU DARE

Real Estate Investment Trusts (REITS) have long been a favorite holding for high-dividend investors. The recent bankruptcy filing of General Growth Properties (GGP) puts the spotlight on this group, particularly the Commercial REITS.

Those following my series, The High Dividend Investor’s Collapsing Dollar Survival Guide, or my newsletter, will note I’ve NO U.S. commercial REITS on my list of recommendations. In the past, they’re holding of hard assets and often generous and stable dividends would have made them legitimate candidates. No longer.

My readers may note that I do have a few Canadian REITS in the portfolio. These include commercial REIT RIOCAN (OTC: CDPYF, TSX: CAR.UN), as well as

· Canadian Apartment REIT (OTC: CDPYF, TSX: CAR.UN)

· CML Healthcare Inc. Fund (OTC: CMHIF, TSX: CLC.UN)

· Northern Property REIT:(OTC: NPRUF, TSX: NPR.UN)

Why? The healthier Canadian banking system makes the lending situation there better, and this is key. Of course, the firms themselves have posted solid results have performed well, and sport high, reliable yields. So far, so good.

What killed GGP was its inability to refinance debt coming due. Much of its operations were ok and it continued to meet current debt payments on most of its malls. For example, in Q4 of 2008, GGP posted a solid 92.5% occupancy, though cash flow suffered along with the rest of the consumer sector.

There’s plenty of potential for more trouble with the commercial REITs. Per Deutche Bank, two thirds of about $154 billion of securitized commercial mortgages coming due between now and 2012 will not qualify for refinancing due to the 35% - 45% decline in property values since their 2007 peak. This estimate could get far uglier if even about 10% of mall properties need to be sold off. There are relatively few buyers for such big ticket properties. Thus commercial property values would drop further, thus lowering the value of the surviving commercial REITs and making financing harder still.

I won’t even get into what declining commercial property values will do to the asset values of the already battered banks that hold the mortgages, though suspension of mark-to-market accounting will help preserve appearances, at least for a while(?). So far the government has been very willing to join the banks in erecting a façade of health, so why not here too. What options do they have?

1. What Income Investors Need To Consider

First, not all REITs are created equal. The commercial sector is the most vulnerable, and the retail sector the most vulnerable of the commercial sector, though there are pockets of relative stability. Residential REITs, healthcare REITS, or even commercial office building REITs with heavy exposure to government or other very commercial stable tenants AND that have manageable debt loads will survive and ultimately prosper.

However, unless you’ve specific well researched evidence or advice suggesting otherwise, be very wary of commercial REITs, especially those with retail exposure. During the next 6-12 months, there are likely to be lots of distressed sales and the sector will be badly depressed, and that might be a time to find opportunities in which the reward justifies the risk. When that time comes, apply the following criteria when evaluating REITs.

2. Criteria for Evaluating REITs

In short, investors need to first consider if the companies have the means to manage their debt load without seeking out new financing sources. If they can do that for the next number of years to survive until things improve, then you can look at how well funds from operations exceeds current debt payments, then consider the safety of the dividend. Like any

A. Specific Criteria Include:

· Relative Debt Load: Again, inability to refinance is what killed GGP. Like any business comprised of big capital assets, be they power plants, pipelines, or retail malls, these firms use lots of debt. Commercial property values are likely to weaken more, making refinancing even tougher. The overriding concern is to look at various measures of the firm’s ability to meet debt obligations without seeking out new financing.

Specifically, examine:

o Debt to equity ratios: These should be much better than 1:1, because in the event of bankruptcy, costs of the bankruptcy process could consume any surplus left after creditors

o Ability to meet long term obligations coming due in the next 5 years, during which time refinancing from conventional sources at affordable rates will be hard. Specifically, what provisions have they made to pay off this debt? Have funds been set aside? When do they have any large debt coming due? How much of unused credit lines, if any, are available.

o Ability to meet short term obligations: For example, calculate the quick ratio (liquid assets/short term obligations) to see how they can manage for the next fiscal year. You want to see something much better than 1:1. In addition to this ratio, look at the actual amounts of liquid assets compared to debt payments and other obligations over the next year.

· Income from Operations: Once you believe the REIT can survive ongoing debt and operating expenses, then look at the day to day health of the business. If the operations aren’t profitable, debt will ultimately be a problem, even if they have the cash for now.

· Get some measure of dividend payout ratio: Once you’re satisfied they’ll survive, how safe is your dividend? Income is usually the reason for investing in REITs in the first place. In general terms, payout ratio is the actual total dividend payments divided by the total distributable cash available after covering current operations and debt payments. For very steady revenue businesses like power suppliers, we like to see payout ratios under 90%. For businesses with volatile revenues like energy producers, we want no more than 70%. For truly troubled sectors like retail REITS, the lower the better, like 60% and lower, to provide a cushion of cash for maintaining the dividend until things improve.

B. Where To Find This Data?

For those not inclined to analyze financial statements, check the Management Discussion and Analysis (aka: MD &A) included with most quarterly financial statements, which you can access on the company’s website. If still unsure, email your questions to investor relations via the email address on that website.

3. CONCLUSION

As long as people need places to live, work, and shop, the REITs will have demand. However their need for debt combined with a severe recession and concomitant decline in consumer spending makes investing commercial REITs treacherous at this time, so use the above and other criteria to carefully evaluate investments in REITs, especially commercial REITs, and especially retail REITs.

DISCLOSURE: The author may have positions long or short the above mentioned stocks.

Visit http://highdividendstocksguide.blogspot.com

MUST KNOW CRITERIA FOR PICKING INFLATION- PROOF HIGH DIVIDEND STOCKS

 

A few thoughts on Henrique Simoes' recent article Faber and Schiff: Inflation Inevitable (So Here's What to Do) on www.seekingalpha.com

Yes, inflation is on the way. Perhaps, as Nouriel Roubini argues, it will take some time as the deflationary pressures of a still worsening economy and failing banking system work themselves out, so we may even see some deflation first. However, the Fed can't print the equivalent of the U.S. GDP's worth of new dollar bills (about $13 trillion) and not have serious inflation (unless we get government imposed price and wage controls?) at some point. I won’t even begin to discuss what happens if the demand for U.S. Treasuries dries up.

So assuming inflation is coming, what do you actually do? Simoes proposes some ideas. Here’s another.

As one strategy, consider the hard asset based high dividend stocks I present in my current series The High Dividend Stock Investor's Collapsing Dollar Survival Guide, Part 1 -- Seeking Alpha

The Goals of this Strategy:

· Steady high yields, most of the recommendations’ dividends are very safe, some less so (but with more upside potential). Thus you are well paid while you wait for the market to recover (versus negative real returns in cash).

· Earnings and yields can keep pace with USD inflation, thus providing at least some protection for your principal and income.

· Currency diversification and thus reduction of risk from declines in the USD relative to other currencies

The Key Criteria For High Dividend Stock Selections:

· Strong businesses that continue to maintain or grow their revenues, incomes and cash flows even in this environment.

· Owning or controlling vital hard assets or commodities that hold or increase value in times of inflation AND/OR dominant position in a market niche with steady and growing demand that allows these firms to raise prices when needed to keep pace with inflation.

· Earnings and distributions in a non-USD currency, ideally one that is tied to hard assets and commodities.

· High dividend yields about 7% or higher: Regardless of price movements, you continue to get steady junk bond like yields with far greater safety and better price appreciation potential ( as long as they meet the above criteria).

Recent suggestions include 

ATPWF, ESIUF, BP, CEO, ERF, EPD, KMP, TPP, PVX VE, VZ, T, VETMF

DISCLOSURE

The author has positions in most of the recommendations

BEWARE SO-CALLED “DIVIDEND ARISTOCRATS” – Low Yields, No Real Income

With growth investors battered by declining markets, there is lots of talk about investing for dividends. However, unless the stock provides:

• Yields are high enough to leave you something after real inflation and taxes
• Protection of the value of your principal and income

Then you can profit only if the market rises. That’s a risky bet these days.

Dividends Don’t Necessarily Equal Income After Inflation and Taxes

Income investors should have a clear idea of what % yield they want when selecting stocks for income. There is a distinct difference between ordinary dividend stocks and dividend stocks for income. Many so called "dividend aristocrats," even with their prices beaten down, pay dividends below 5%. Will this give you a meaningful yield after inflation and taxes?

For example, assume you invest $10k in a stock yielding 5%. Your income is $500. Assuming it's a qualified dividend (will Obama leave that alone? questionable) and no Alternative Minimum Tax issues, your after tax return is $425.

Meanwhile, REAL inflation, for those of us who eat meat and produce, use fuel, consume health care services, has been well beyond the supposed 2-3% of the CPI over the past years, at least 5% - more for the above mentioned items.

Yes we may have some temporary deflation given that we're in the worst economic crisis since the Great Depression, but since the government is committed to printing about 13 Trillion new dollars (about the size of our GNP), inflation is just a matter of time.

But ok let's stick with 5% to keep the math easy.

Nominal after tax income: $425. At 5% inflation, your 10K principle in a flat stock market erodes by $500/ year, leaving you with negative real returns. Yes, the better companies grow their dividends over time, but usually not by enough to meaningfully stay ahead of inflation. In the end, low yield stocks are still just another bet on the market rising. A bad bet these days for the near term.

Quality High Yield Stocks-An All Weather Strategy for Steady Returns

My point is that the best strategy for this market is to seek stocks with the following criteria.

1. High Yields: Unless you're getting a minimum of 8% or more (even that may prove inadequate for most stocks if inflation grows the same magnitude as our money supply), you're not getting income. You're just making a bet on the stock market rising, and getting a bit of opportunity cost covered. Quality high dividend stocks pay you up front and have the solid fundamentals to sustain that high yield and give you steady income regardless of the markets' travails. As long as you don't need the cash for the next few years, you can sleep at night and collect income out of proportion to the risks if you choose the right stocks. See my prior and coming blogs.

2. Steady, Reliable Yields Supported by Healthy Businesses: You need to find stocks with yields that are both high and reliable. High yields usually suggest higher risk, but at times that's a misperception of the market. There are stocks with both high yield AND steady yield because the underlying business is sound and able to generate revenues and cash flow needed to sustain and ideally grow the dividend.

3. Protects Against Declining Long Term Dollar Purchasing Power: You need stocks that give you a hedge against the dollars long term declining purchase power, typically those tied to better currencies, hard assets, and that have strong market positions that allow for pricing power.

See my prior and future blogs for stocks that meet these criteria. Ticker symbols of recent mentions include: ATPWF, ESIUF, MCQPF,EPD, TPP. For more risk, but lots more potential reward, ERF, VETMF.

Regards, Cliff

DISCLOSURE: I have positions in most of the stocks I cover

Interested in hearing more about quality, reliable high dividend stocks? See http://highdividendstocksguide.blogspot.com

CANADIAN CLEAN ENERGY TRUSTS: THE VERY BEST HIGH YIELD USD HEDGE? Part 9B of a Series The High Dividend Investor’s Collapsing Dollar Survival Guide

 

 

1. EXECUTIVE SUMMARY FOR THIS SERIES

HIGH YIELD STOCKS ARE A FORM OF CASH. THUS INFLATION EATS AWAY AT BOTH YIELD AND PRINCIPLE. AS GOVERNMENTS INFLATE THEIR MONEY SUPPLY TO EASE CREDIT, MOST OBSERVERS BELIEVE INFLATION IS INEVITABLE.

THUS FAR IN THIS SERIES WE EXPLORED:

THE CURRENT STATE OF THE MARKET

THE CASE FOR AND AGAINST THE DOLLAR’S DEMISE

RECOMMENDED CRITERIA FOR SELECTING HIGH DIVIDEND STOCKS THAT ALSO GIVE A HEDGE AGAINST THE U.S. DOLLAR’S LIKELY IMPENDING DEPRECIATION.

SPECIFIC STOCK MARKET HEDGES AND HIGH DIVIDEND STOCKS THAT ARE INFLATION RESISTANT MENTIONED BELOW INCLUDE:

GENERAL MARKET HEDGES

UltraShort S & P 500 Proshares (SDS), UltraShort Financials ProShares (SKF), UltraShort QQQ ProShares (QID), UltraShort Real Estate ProShares (SRS), UltraShort Russell2000 ProShares (TWM)

INTERNATIONAL

Big Oil

BP, plc (BP), CNOOC Ltd. (CEO), Enid SpA (E), Total Fina Elf (TOT)

Utilities

Veolia Environmental SA (VE), ENEL-SOCIETA PER AZI (ESOCF.PK or ENLAY.PK)

Communications

Cellcom Israel Ltd. (CEL), France Telecom (FTE) Telefonica (TEF)

Shipping

Diana Shipping (DSX), Nordic American Tanker (NAT), Paragon Shipping (PRGN), Seaspan Corp (SSW)

Canadian Oil/Gas Energy Income Trusts

Advantage Energy Income Fund (AAV, TSX: AVN.UN), ARC Energy Trust (OTC: AETUF, TSX: AET-UN), Claymore/SWM Canadian Energy Income Fund (ENY), Enerplus Resources Fund (ERF), Peyto Energy Trust (OTC: PEYUF, TSX: PEY.UN), Provident Energy Trust (PVX, TSX: PVE.UN), Vermillion Energy Trust (OTC: VETMF, TSX: VET.UN)

Canadian Income Trust Tax Issues

IN PART 9A WE LOOKED AT THE RECENT UPTREND IN THE STOCK MARKETS AND THE U.S. DOLLAR VS THE CANADIAN DOLLAR, AND WHY THEY’RE UNLIKELY TO MARK THE BEGINNING OF LONG TERM TRENDS

HERE IN PART 9B, WE’LL EXAMINE:

Canadian Clean Energy Income Trusts

Atlantic Power Corporation (OTC: ATPWF, TSX: ATP.UN), Energy Savings Income Fund (OTC: ESIUF, TSX: SIF.UN), Great Lakes Hydro Income Fund (OTC: GLHIF, TSX: GLH.UN), Innergex Power Income Fund (OTC: INRGF, TSX: IEF.UN), Macquarie Power & Infrastructure (OTC: MCQPF, TSX: MPT.UN), Northland Power Income Fund (OTC: NPIFF, TSX: NPI-U)

IN COMING PARTS WE’LL EXPLORE:

Canadian Energy Infrastructure Income Funds

Altagas Income Trust (OTC: ATGFF, TSX: ALA.UN), Pembina Pipeline Fund (OTC: PMBIF, TSX: PIF.UN)

Canadian Utility Income Trusts

Bell Aliant (OTC: BLIAF, TSX: BA.UN)

Canadian Health Care Income Trust

CML Healthcare Inc. Fund (OTC: CMHIF, TSX: CLC.UN)

Canadian Real Estate Income Trusts

Canadian Apartment Properties REIT (OTC: CDPYF, TSX: CAR.UN), Northern Property REIT (OTC: NPRUF, TSX: NPR.UN), RIOCAN REIT: (OTC: RIOCF, TSX: REI.UN

Canadian Misc Business Trusts

Yellow Pages Income Fund (OTC: YLWPF, TSX: YLO.UN)

UNITED STATES

Communications

AT &T Inc (T), Verizon (VZ), Otelco (OTT), Windstream Corp (WIN)

Energy Infrastructure Master Limited Partnerships (MLPs)

Buckeye Partners (BPL), El Paso Pipeline Partners (EPB), Enterprise Products Partners (EPD), Energy Transfer Partners (ETP), Kinder Morgan Energy Partners (KMP), Magellan Midstream Partners (MMP), Nustar Energy (NS), ONEOK Partners (OKS), Sunoco Logistics Partners (SXL), TEPPCO Partners (TPP), Tortoise Energy Infrastructure Partners (TYG)

Coal MLPs

Alliance Resource Partners (ARLP), Northern Resource Partners (NRP), Penn Virginia Resources Partners (PVR)

Other MLPs

Terra Nitrogen Company, L.P. (TNH), StoneMor Partners (STON)

Utilities

Dominion Resources Inc. (D), Duke Energy Corp (DUK), Progress Energy (PGN), Southern Company (SO)

2. THE MARKET AND THE U.S. DOLLAR: THE LIGHT AT THE END OF THE TUNNEL, OR AN ONCOMING TRAIN?

See part 9A

3. GO LOONIE: A FOREX TRADER’S “MUST KNOW” ADVICE FOR HIGH DIVIDEND INVESTORS’ USD HEDGE

See Part 9A.

4. WHAT MAKES A HIGH YIELD STOCK USD INFLATION RESISTANT?

See Part 3 for the full details, but here’s the summary.

We’re seeking stocks of strong companies that mostly earn and distribute a high dividend in a non-USD currency and have a dominant position in a market for an essential product or service.

Here in Part 9B, we examine an elite group of stocks which offer one of the most ideal combinations of reliable high yield, USD hedge and socially responsible investing, the best of the Canadian clean energy income trusts.

5. CANADIAN CLEAN ENERGY INCOME TRUSTS - The Big Picture

A. The Short Version

They’re distributions are very high, very reliable, paid in Canadian dollars, and are thus offer a great dollar hedge The CAD’s relative current weakness against the USD makes these shares both extra cheap and potentially even more profitable. See Part 9A for why we believe the CAD will appreciate against the USD.

B. The Detailed Version

These trusts include electric power producers with significant portions of their output from low or no carbon emission sources, like

· natural gas – the cleanest of the fossil fuels.

· hydroelectric – produces by placing big turbines in carefully channeled falling water, typically from dams.

· wind- typically large groups of hi-tech windmills grouped together in optimially windy spots called wind farms.

· biomass- forms of gas and liquid fuels produced from plant matter and animal waste.

· Solar- typically in farms of photovoltaic cells producing electricity. Since production is best in sunny deserts with little rain, none of these Canadian companies have solar facilities (duh, this is Canada, after all). But elsewhere this is a worthy option. It’s very big in Israel, to the point that most Israeli homes and apartments have solar collectors on their roofs to supply hotwater using a simple greenhouse effect rather than photovoltaic cells.

See the company websites for details on their specific portfolios of power facilities. While not technically utility companies, they typically own various shares of power production facilities, and sell their portion of the electricity to the local utility under long term contracts with provisions that ensure an acceptable return on investment.

C. Less Volatility than Oil and Gas Producer Income Trusts, Equally High or Higher Yields.

While these trusts may lack the appreciation potential of the oil and gas producer trusts, the clean power producer trusts have had far more stable revenues and dividends throughout the past year. Like most stocks, their share prices bounced around with the overall market. Unlike most stocks, however, the extreme share price declines did not reflect their fundamentals at all, which remained overall healthy, stable, and at times even growing.

Despite the challenging economic environment and tightening credit availability, their steady revenues, cash flows, incomes and hence dividend streams have stayed steady. (or even grown in the case of Atlantic Power Corp (OTC: ATPWF, TSX: ATP.UN) ) during the down turn. Moreover, their payout ratios are usually around 70% of distributable cash, which is quite conservative for such steady-revenue businesses like power generation.

D. Risks

Since plenty of downside risk remains in the market, these recommendations are perhaps the best combination of safety and high yield anywhere, and that’s BEFORE considering the likely appreciation of the CAD against the USD. Nonetheless, there are some risks you should be aware of.

Market Risk. Like virtually all shares, they will move with the overall market. Note that all of these are thinly traded, and thus volatile, since little selling or buying can really move their share prices.

Currency Risk: The CAD could drop further against the USD. As noted in Part 9A, at most this will be temporary. The odds are well in favor of the CAD appreciating.

Given the market and currency risk that remains, it’s very possible these will yet again power dive with the market. That’s the best time to add as long as these businesses continue to perform.

Remember: power generation is one of the most recession resistant industries. Thus these are great defensive plays that pay you very well while you wait for recovery.

Thus given the recent market rally, take no more than partial positions at this stage, since we’re likely to see better prices coming in the coming months.

NOTE:

CANADA CURRENTLY HAS A 15% WITHOLDING TAX FOR FOREIGN SHAREHOLDERS, WHICH CAN BE RECOVERED AS A TAX CREDIT BY SUBMITTING IRS FORM 1116 WITH YOUR TAX RETURN. IT’S AS YET UNCLEAR IF OR HOW THAT WILL CHANGE IN 2011.

ALL AMOUNTS QUOTED ARE IN U.S. DOLLARS (USD) UNLESS OTHERWISE NOTED. ALL STOCK SYMBOLS ARE NEW YORK STOCK EXCHANGE UNLESS OTHERWISE NOTED (OTC = OVER THE COUNTER, TSX = TORONTO EXCHANGE). YIELDS ARE AS OF DAY BEFORE PUBLICATION.

6. CLEAN ENERGY INCOME TRUSTS– Specific Recommendations

Take only partial positions until energy prices appear to have stabilized, but be ready to load up on these as the market begins to show interest. Both prices and distributions will soar as energy recovers, giving you high yields and capital gains.

Atlantic Power Corporation (OTC: ATPWF, TSX: ATP.UN) : Buy under 7.50, Strong Buy under 6.50. Yield over 13%.

As noted in my earlier article on ATP Time to Buy Energy Stocks...Plus an Overlooked Power Fund throughout the market downturn, ATP continued to show strength, raising distributions 8%, buying back shares, cutting debt, and expanding production. On March 30^th they released Q4 results.

Highlights include:

· 7% increase in operating cash flow, thus reducing payout ratio on its over 13% dividend to just 36% of distributable cash flow for the quarter, and 59% for the year. Note that it’s the annual payout ratio that you need to focus on, since its quarterly payout ratio varies significantly due to a large semi-annual debt payment that makes the payout ratio in Q1 and Q3 much higher than the overall annual ratio. Over the past year I’ve seen it jump to a seemingly unsustainable 160% in Q3, then seen it drop to a hyperconservative 36% in Q4.

· The Federal Energy Regulatory Commission (FERC) tentatively approved a rate settlement for ATP’s Path 15 power line in California, granting a13.5% return on equity and new revenue for 2009 and 2010 in accordance with management expectations. Final approval of the deal is expected this summer.

· The firm has now retired 558,620 of its income participating securities (IPSs), about 14% of its planned total. As noted in the earlier article, the IPSs are a combined common share and subordinated bond. Thus the remaining 86% of the buyback retires the bond portion and reduces debt, and also supports the share price. It also shows management’s confidence in the health of the business.

· Management again confirmed that its current cash flow and currency hedges will sustain the current distribution into 2015 regardless of currency fluctuations. Thus even though the firm operates in the U.S. and earns in U.S. dollars, it can continue its CAD distributions even if the CAD rises (which would thus make the shares and distributions more valuable still).

Energy Savings Income Fund (OTC: ESIUF, TSX: SIF.UN): Buy under 8.50, Strong Buy under 7.50. Yield about 12%.

The fund owns shares in various gas and electricity marketing operations in the U.S. and Canada.

Highlights for fiscal Q3 which ended on December 31, 2008 include:

· Profit margins up 23%, distributable cash up 22%.

· Added about 94,000 new customers in Q4.

· Management affirms full year 09 guidance for growth of 5-10% for margins and distributable cash flow.

· Quarterly payout ratio falls to a conservative 72%.

· Interest expense cut by 25%, showing the firm has no credit problems.

· Bad debt expense under 3% of revenue, thus confirming that despite operating in a somewhat competitive environment ESIUF performs with the reliability of a utility. Contractual arrangements shift 75% of overall bad debt expense to their utility customers.

Despite its share prices having risen well off its December lows, the firm still sells for only about 62% of sales and yields nearly 12%.

Great Lakes Hydro Income Fund (OTC: GLHIF, TSX: GLH.UN): Buy under 14, Strong Buy under 12. Yield about 8%.

Results for Q4 concluded the strongest year for earnings ever.

Highlights include:

· Power generation up 22% on strong water flows and system expansion.

· Payout ratio under 60% for the year.

· Investment of CAD 16.8 million in growth capital and CAD 3.5 million in major maintenance in 2008, with plans to expand these in 2009 to CAD17.3 million and CAD 4.5 million. This confirms managements stated plans to maintain its distribution in 2011 and beyond.

Note: as with any hydroelectric production, revenues can vary with water flow from year to year, but this evens out over the years. Of course, the best managed hydro producers will invest to expand production and grow revenues regardless of annual water flows.

Innergex Power Income Fund (OTC: INRGF, TSX: IEF.UN): Buy under 9, Strong Buy under 8. Yield over 10%.

Possessing a well managed fleet of carbon-neutral power facilities, INRGF is as good as the above firms. It’s portfolio of generation plants is 73% hydro and 27% wind, and is managed by Innergex Renewable Energy under a long term agreement with the fund. Favorable weather and acquisitions of two new wind farms lead to superb performance for the third quarter ending in December, which is usually a weaker quarter. Highlights include:

· Increase in power generation 41% over last year.

· 48% increase in operating revenue.

· 25% increase in distributable cash flow (after capital spending).

· Decrease in payout ratio to 89%.

Like any hydroelectric producer, results can vary with water flows from year to year. Management notes, however, a number of factors that will protect revenues. These include:

· All power is sold under long-term contracts to public utilities, which are among the most recession proof customers.

· Contracts have an average life of 15.6 years, thus these revenue streams are very safe for the long term.

· Their fleet of plants is very young, averaging only 6 years, with an estimated useful life of 25-50 years.

· Exposure to the current credit situation is negligible.

· No credit facilities are due until 2013, and of the total CAD 10 million available, CAD 9.2 is unused! Thus debt can be easily paid off at will, or the credit can be used to fuel future growth with strategic acquisitions.

· 92% of the firm’s credit facilities are fixed rate, with overall effective interest rate at just 4.4%.

· Cash reserves of CAD 25.1 million (worth 10 months of distributions).

Like the others on this list, Innergex is a rare combination of ultra high yield for such a dependable revenue stream. Very thinly traded, its shares have not followed the market up, so it remains an unnoticed deal selling under1.5x book value. Not surprisingly, insiders have been buying.

Macquarie Power & Infrastructure (OTC: MCQPF, TSX: MPT.UN): Buy under 5, Strong Buy under 4. Yield around 20% prices in possible dividend cut, yet management has affirmed 2009 guidance and the 2009 distribution.

Its power generation asset portfolio is comprised of gas cogeneration, wind, hydro, and biomass. Q4 performance was close to last year’s, with excellent wind and hydro performance offsetting a shutdown at a biomass plant. Highlights include:

· Good cash flow from its minority stake in LeisureWorld (long term care homes in Toronto).

· Payout ratio declined to 89% in Q4, bringing annual payout ratio down to 100%.

The relatively high payout ratio leaves the firm vulnerable to a distribution cut in 2011 unless it succeeds in management’s stated goal of increasing performance to support the distribution in the post 2011 era. Meanwhile the yield around 20% allows for a solid returns even if there is a substantial cut, and the current share price is only around 62% of book value due to speculation about a possible dividend cut. With that risk already priced in, the stock is buy at recommended levels.

Northland Power Income Fund (OTC: NPIFF, TSX: NPI-U): Buy under 8.5, Strong Buy under 7.5. Yield about 10%.

Overall performance slightly below last year due to one-time events, not ongoing operations. Overall operations solid, manageable debt. Selling at just 1.6 times book, low price, thus lower risk. I want to do more research on this one, but looks promising at this time.

7. Conclusion, Disclosure & More Info

This installment looked in detail at the best of the Canadian clean energy income trusts.

In sum, they provide among the best risk/reward available for high dividend investors, and also provide a valuable USD hedge.

Part 10 will deal with other superb Canadian income trusts sectors – energy infrastructure and utilities.

Disclosure: I have positions in most of the above mentioned investments.

Interested in learning more about investing in stocks that provide reliable high dividends with better transparency, appreciation potential, and liquidity than bonds? Visit http://highdividendstocksguide.blogspot.com