Listen up you smiling Irish leprechaun

Parched investors on the lookout for that elusive income stream


BY RAY TURCHANSKY,
DECEMBER 4, 2009
Edmonton Journal

Sentry Select Capital chief investment officer Sandy McIntyre doesn't hide an admittedly "Pollyannaish" view of economic recovery, nor his disdain for policy of "our smiling Irish leprechaun in Ottawa," federal Finance Minister Jim Flaherty.

McIntyre joined Sentry Select during the tech bubble of 2000 when "the mathematics of making money on the stock market were pretty close to impossible," so he became an income-trust money manager, only to be slew footed by Flaherty's 2006 announcement that most income trusts will be taxed in 2011.

As McIntyre crosses the country he sees various degrees of carnage from the recession--it's deepest in southwestern Ontario due to manufacturing woes, and in Alberta because of low natural gas prices -- but the anguish of investors is universal.

"For the investor, the continued theme is: 'Where am I going to get my income stream from?'" said McIntyre, after a presentation to Canaccord Wealth Management clients.

He laments either that income trusts will have to pay taxes, or that pension plans owning income trusts will not.

"Why is it OK for Ontario Teachers( pension plan) to own an income trust directly as a private SIFT(specified investment flow-through), and it's not OK for an individual investor to have the same tax treatment in their RRSP or RRIF?"

Regardless, as McIntyre comes to grips with taxation being as inevitable as death, he tries to find an income stream for investors.

A rediscovered old nugget is preferred shares, which offer little capital gains, but dividends that are usually dependable and receive preferential treatment over common shares in the case of bankruptcy. Banks strapped for cash recently offered a wave of preferred shares.

"That was temporary shoring up of the balance sheets; they likely will disappear on the maturity dates," said McIntyre. "The banks are making a ton of money right now."

For him, that leaves value stocks with dividends as an income stream, preferable over growth stocks that offer the chance of greater returns from capital gains for taking on greater risk.

"If I'm targeting a return of 10 per cent and I've got a dividend that pays four per cent, I've already got 40 per cent locked in. And if the stock can grow earnings by six per cent annually, which is less than the long-term growth rate of earnings, I should be able to meet my objectives."

For him to buy stocks, they must have:

- Domination of industry position;

- Income stability;

- Management quality;

- Equity structure. By way of management quality, he explains: "The best way for management to protect my interest is for them to own a ton of stock of the same class and the same voting rights. If they stand to lose as much as I stand to lose, they're careful in what they do."

And as for equity structure: "Most importantly, I want a company that does not have to raise capital, when capital is hard to come by."

Another form of income is from bonds and fixed-income products.

"You can loan your money to the Government of Canada and get 3.5 per cent; they're considered a good credit (risk) because they're only spending two times what they earn -- the U.S. is worse. You can put money with investment-grade corporations with 5.0 to 5.5 per cent yields;and I actually find that attractive because I've got a high likelihood I will get my money out and I'm getting a suitable risk premium."

"You can put your money into high-yield debt, but I caution you on some that the yields are too low for the risk that is built into the securities."

McIntyre resurrects the "modern portfolio theory" from 16th-century German banker Jacob Fugger, "The Rich," who said: "Divide your fortune into four equal parts: stocks, real estate, bonds and gold coins. Be prepared to lose on one of them most of the time. During inflation, you will lose on bonds and win on gold and real estate; during deflation, you lose on real estate and win on bonds; your stocks will see you through both periods, though in a mixed fashion. Whenever performance differences cause a major imbalance, rebalance your fortunes back to the four equal parts."

As for income, the buzz word going forward will be dividends.

"I think what we're looking at long term is increased taxation, a forced balancing of the books, and slower trend line GDP (gross domestic product) growth, which will lead to a lower growth rate for growth stocks. But the stocks I invest in-- food, transportation, pipelines--are going to be able to generate their dividends."

And as for income trusts, McIntyre thinks those that survive until 2011 are well worth investing in, and many will be able to convert from trust distributions into corporate dividends without reduction.

"Look at the quality of what you own. Most businesses with high volatility, high debt and low distribution coverage have already gone bang."

Ray Turchansky writes Fridays in The Journal.

turchan@telusplanet.net

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