Encounter

Last year's returns will be a hard act to follow, managers say.
By Sonita Horvitch | 27/01/17

Editor's note: This week's three-part coverage of our equity-income roundtable concludes today with the managers discussing their holdings in the dividend-rich financial services, real estate, utilities and telecommunications sectors, and their overall expectations for 2017.

About the Author
Sonita Horvitch is a Morningstar columnist who specializes in reporting on money managers and their strategies. A veteran financial journalist, she was formerly with the National Post and its predecessor, the Financial Post. At the Post she was best known as the author of the popular Buy & Sell column, which she wrote from its inception in 1994 to December 2008. She holds a master's degree in business economics from the University of the Witwatersrand in Johannesburg, South Africa.

The panellists:

Jason Gibbs, vice-president and portfolio manager at 1832 Asset Management L.P. Gibbs is a senior member of the firm's equity-income team, which has a wide range of mandates, including Scotia Canadian Dividend.

Peter Frost, senior vice-president and portfolio manager at AGF Investments Inc. His responsibilities include two income-oriented balanced funds: AGF Monthly High Income and AGF Traditional Income.

Michele Robitaille, managing director and equity-income specialist at Guardian Capital L.P., a sub-advisor to the BMO family of funds. The Guardian equity team's mandates include BMO Monthly High Income ll.

The manager roundtable, which began on Monday and continued on Wednesday, was convened and moderated by Morningstar columnist Sonita Horvitch.


Q: Time to discuss your holdings in the Canadian financial-services sector.

Jason Gibbs
Jason Gibbs

Jason Gibbs: The bank stocks in the top-10 holdings of Scotia Canadian Dividend are  Bank of Nova Scotia (BNS),  Toronto-Dominion Bank (TD),  Royal Bank of Canada (RY) and  Canadian Imperial Bank of Commerce (CM). These constitute roughly 16% of the fund. These banks are each different in their own way. Scotiabank is more international and its Canadian banking division is doing very well. TD is more in the United States, which is a good place to be, at present. Royal is a classic, dominant Canadian company that is dominant in its businesses. With Commerce, we really like its management team. This bank continues to surprise on the upside. Among the insurers, I own  Manulife Financial Corp. (MFC) and  Sun Life Financial Inc. (SLF). They have good wealth-management arms.

Michele Robitaille: The bank weight in BMO Monthly High Income II is also roughly 15% or 16%. We also own TD, Royal, Scotia and CIBC. We like the first three because we do like exposure outside of Canada. CIBC has been trading at a significant discount to the group, despite the fact that the bank has turned in earnings at or above market expectations for a number of quarters in a row. CIBC's risk profile is going down and this will be reflected in its valuation multiple over time.

Peter Frost: I am quite underweight the banks. They're facing lower growth in the longer-term, as credit expansion slows. I have more exposure to asset managers. I like the long-term outlook for this business. A holding is Gluskin Sheff + Associates Inc. (GS). I own it in both funds. The bulk of its business is with private clients rather than institutional clients. It has $8 billion under management. All of its mandates have a performance fee attached to them. My biggest bank weight is Scotiabank. I like its international focus.

Q: Let's talk about real estate investment trusts next. Michele, you have roughly 15% of BMO Monthly High Income II in this area.

Robitaille: We have been underweight REITs relative to the fund's benchmark for the last couple of years. Of late, we've been looking at opportunities in this area. A REIT that we added to the portfolio at the end of 2015, early 2016 is Allied Properties REIT (AP.UN). It's an office-related REIT, but not your traditional commercial downtown office properties. Rather, its properties are on the periphery of the downtown, offering specialized brick-and-beam type office space. This is attractive to IT and media companies. Allied's tenants tend to be stickier than is the case with traditional office space. Other REITs in the portfolio include CREIT or Canadian Real Estate Investment Trust (REF.UN), H&R REIT (HR.UN) and RioCan REIT (REI.UN).

Gibbs: We added to REITs in the past couple of months, when the interest- sensitive stocks pulled back. Canadian real-estate holdings in the fund are RioCan and First Capital Realty Inc. (FCR).

Peter Frost
Peter Frost

Frost: As discussed earlier, we're actively exploring opportunities in the real-estate sector.

Q: Your holdings in the utilities sector?

Gibbs: I continue to own  Fortis Inc. (FTS), Hydro One Ltd. (H) and Brookfield Infrastructure Partners L.P. (BIP.UN). Fortis has a good management team. It has made a number of acquisitions in the United States, so more of its business is now U.S.-focused. It bought one of the premier U.S. transmission-infrastructure businesses last year, ITC Holdings Corp. Fortis is a classic case of a regulated business that's growing.

Robitaille: We own Northland Power Inc. (NPI) and Brookfield Renewable Partners L.P. (BEP.UN). We added Algonquin Power & Utilities Corp. (AQN). We like Algonquin's regulated rate base. It also made a very sizeable U.S. acquisition and it's planning to grow its earnings at a high rate, which will more than offset that interest-rate sensitivity.

Frost: I own Brookfield Infrastructure Partners. I've owned it for a long time. It has high-growth assets. It's a value-type asset manager, buying assets that others are trying to shed. I also own Capital Power Corp. (CPX), which is based in Western Canada. I bought the stock in the fall of last year. The company has been making strides to invest in renewable assets, primarily wind.

Gibbs: We've also owned Brookfield Infrastructure Partners for a long time. It has a great management team, which has managed to buy infrastructure assets at the right time. Its diversified portfolio of high-quality assets is global. The stock is trading in the public market at a discount to what the private market would be willing to pay for those infrastructure assets.

Q: Telecoms?

Gibbs: Scotia Canadian Dividend has the three major Canadian telecom stocks:  Telus Corp. (T),  BCE Inc. (BCE) and  Rogers Communications Inc. (RCI.B). The companies have pricing power and the stocks offer above-average dividend yields. But this is countered by what we said before, that their valuations are pretty full. BCE and Telus are growing their dividends. Rogers, which is under new management, is not.

Michele Robitaille
Michele Robitaille

Robitaille: We own Telus and added Rogers in early 2016 as a replacement for Manitoba Telecom Services Inc. (MBT), which we had sold, as we thought it was expensive relative to the fundamentals. (Manitoba Tel is in the throes of being acquired by BCE.) We also own  Shaw Communications Inc. (SJR.B). We think that its growth trajectory is superior to that of the other Canadian telecom companies. Its acquisition of WIND Mobile Corp. was a plus. It also has a strong bundling product. Its launch of its next-generation TV service based on Comcast's X1 platform is a positive. Finally, Shaw's sale of its media assets, Shaw Media Inc., to Corus Entertainment Inc. (CJR.B), which was completed last April, was a good move for Shaw. The company is now focusing on its core business.

Frost: This is exactly why I own this stock. It's the company with the highest growth in this area over the next several years. The new X1 is going to help Shaw with its cable-subscriber losses. The stock has a good dividend yield.

Brookfield
Infrastructure
Partners L.P.
RioCan Real Estate
Investment Trust
Shaw
Communications Inc.
Jan. 25 close$46.81$26.11$27.99
52-week high/low$47.69-$31.13$30.35-$23.98$28.24-$22.55
Market cap$12.1 billion$8.5 billion$13.7 billion
Total % return 1Y*56.414.023.7
Total % return 3Y*24.07.48.2
Total % return 5Y*23.04.910.9
*As of Jan. 25, 2017
Source: Morningstar

Q: Having discussed the key areas of Canadian dividend-paying stocks and your holdings in them, can we sum up your outlook for 2017, given the changing interest-rate environment?

Frost: 2016 was a good year for the Canadian equity market. It's unlikely to repeat the same level of performance this year. The improvement in the Canadian economy should be a tailwind for many Canadian companies. The valuations on the stocks are reasonable. There will be some good opportunities in some of the interest-sensitive sectors.

Robitaille: There's the possibility of a lot of volatility in the Canadian equity market in 2017. There are a number of macro risks. There's uncertainty about the Trump administration. There's the risk of trade protectionism from this new regime. Also, China's economic growth continues to slow. Then there's Brexit. Finally, there's the geopolitical unrest. At the same time, you've had a strong run in the equity market, particularly in the last few months. In general, we would look for a mid-single-digit type of return for the Canadian equity market in 2017.

Gibbs: The long-term outlook for dividend stocks is still favourable. The dividend yield is, on average, 3%. That's almost double the risk-free rate. There will be dividend growth. There's a need for investors to reduce return expectations. A mid-single-digit return on Canadian equities makes sense. My concern is that investors are increasingly adopting a short-term approach to the equity market. The average holding time for stocks has declined sharply. Investors, who became too negative in January and February of 2016 and cashed out, as many did, missed out on a huge rally in the market in 2016.

Photos: Paul Lawrence Photography

Don’t miss out on communications from Morningstar Canada! Sign up for our specialised newsletters, get early notice of our events, and get access to exclusive promotional content. Manage your subscriptions here.
Video Reports
More...
Click here to view all