For a summary of the rankings of our entire convertible debenture universe including the quantitative model prices of and notes on each issue we follow, please click on the table below to view it larger.
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General Commentary (April 29, 2017)
I would say April was another eventful month, but they're all eventful months nowadays, right? Life (and market life) in 2017 is truly complex. The rally in US equity markets continued with the S&P 500 Index up another 1.1% and the NASDAQ Composite vaulting itself over 6,000 for the first time. Actually, most of these gains were made in the last week in the month when many developed markets rallied (in relief, presumably) when the relatively centrist Emmanuel Macron did better-than-expected in the first round of voting in the French presidential elections - and controversial far-right candidate Marine Le Pen fared worse. Will France and Macron stem the recent wave of populism behind the Brexit and Trump victories? We will find out on May 7.
Speaking of Trump, the new administration in the White House has been scrambling to produce something (anything!) that seems like an accomplishment in the new President's first 100 days, and came up with a extremely skeletal tax "plan" this week. Details are scant, but it appears intent on slashing taxes on corporations and the wealthy, while moderately cutting taxes on everybody else and threatening to send the federal deficit to stratospheric levels. If this plan comes to fruition, will it be enough to keep driving markets forward?
Of course, I don't know the answer to that but I'll repeat what I wrote last time because I think it bears repeating. Surely, markets have rallied since the November 8 elections largely on speculation that Trump will cut taxes, slash regulations, and embark on fiscal stimulus. Well, ok, but from an investment standpoint, on what basis can the new administration be reliably depended on to deliver such promises given the preponderance of lies, mistruths, fake news, ineptitude, racism, misogyny, homophobia, degradation of environmental protections, deference to deep-pocketed special interests, and possible treason(?!) that have pervaded thus far?
I won't answer that question either but will just say this again: protect your capital, folks.
One developed market that did not rally in April: Canada. The S&P/TSX Composite Index ended the month largely flat, being sandbagged by financials. Specifically, Home Capital Group, an alternative mortgage lender, has run into liquidity issues and is, to put it bluntly, experiencing a bank run of sorts. Shares of Home Capital and others involved with alternative mortgage lending cratered this past week, and depending on who you ask, this is either a fairly isolated incident or the proverbial canary-in-a-coal-mine for a highly overheated Canadian (well, in Toronto and Vancouver anyway) real estate market. I don't know which it is, but there is no question that liquidity problems are potentially very concerning for lending and deposit-taking institutions. Two things to remember: (1) the 2007-08 financial crisis was essentially a liquidity-driven crisis, and (2) financials have a tendency to lead the market up - or down.
Canada's big banks (the usually resilient oligopoly!) were even down in sympathy with the Home Capital situation and I think it's safe to say that astute market watchers are following the Home developments very carefully. We do follow the convertible debentures of one alternative lender (Timbercreek Financial) in the Peanut Power Rankings, and the prices of these issues were negatively affected during the week. Caution is warranted.
There were two new convertible debenture issues of note in the past month or so. First, Ag Growth International Inc. successfully closed a $75 million, 4.85% five-year issue (ticker: AFN.DB.D) last week. I think this issue was mostly notable for setting the conversion price at a whopping 65% premium over where the common shares were trading when the offering was announced. Cheeky. I didn't like it, so passed. Second, Chemtrade Logistics announced a sizable $175 million, 4.75% seven-year issue (presumed ticker: CHE.DB.D) that is expected to close May 2. I won't spoil the next section too much but will say that this issue set the conversion price at much more conventional and reasonable 40% premium, and cracked our Peanut Power Rankings Top-5.
Other notes: Canadian bond yields moved lower across the curve for the month. There appears to be some entirely rational emphasis on safety given the elevated Canadian real estate market and potential for economic fallout from Trump's actions on trade in the NAFTA region. Gold, which ended the month around the US$1,270 mark, is acting as it should - going up on days when 59 Tomahawk missiles are fired into Syria and madmen in Pyongyang and Washington, DC, muse about thermonuclear war (!!!) ... and going down on days when it doesn't look like a demagogue will win the French presidency. Oil, which ended the month at about US$49, however, is not acting as it should - and this should concern energy investors. Missiles fired into Syria and the desire of Saudi Arabia to extend OPEC production cuts should provide tailwinds for oil - but they haven't. Meanwhile, they're still drilling (just drill baby, maybe even in National Parks!) in the US. Not good for North American oil inventories. Poor Alberta. At least the Oilers are still in the playoffs?
Ok, enough talk. Let's look at the Peanut Power Rankings Top-5.
Peanut Power Rankings Top-5 Convertible Debentures (April 28, 2017)
- Tricon Capital, 5.75% 31-March-2022, Series 'U' Extendible Convertible Debentures. (Ticker: TCN.DB.U), (Last week's ranking: #1). TCN.DB.U has been the #1 since we started these rankings, and this week is no different. As we've indicated previously indicated, TCN.DB.U is part of an offering intended to help finance Tricon's proposed transaction for Silver Bay Realty Trust. The Silver Bay deal is transformative and should be accretive to the common shares, which would in turn drive the price of debentures. In a declining Canadian dollar environment, the US-denominated issue and coupon is nice, too. As at April 28, my quantitative model is pricing the fair value of the debentures at $114.19 vs. the market close price of $104.60. Bottom line: good potential for the equity + generous US-dollar denominated coupon = lots of room for upside here. I'm long TCN.DB.U at $100.00.
- Cargojet, 4.65% 31-December-2021, Series 'C' Convertible Debentures. (Ticker: CJT.DB.C), (Last week's ranking: #4). The dominant air cargo carrier in Canada, an investment in CJT.DB.C is effectively a play on the continued growth of online retail and shopping. There is growth in thar these hills, even if the price of the common shares have struggled the past month (down 7.3%). Free cash flow generation remains strong and the outlook looks good, though in the short-term, Canadian dollar weakness might be a negative. The conversion price of the underlying debentures is 35.1% above the closing price of the shares; yield-to-hard-call-date is 3.05% based on a debenture price of $105.52. Bottom line: Cargojet operates in a sector which generally has good secular tailwinds, the company is well-operated, and at these prices, CJT.DB.C looks like a decent opportunity. I've been long CJT.DB.C since it debuted at $100.00.
- Chemtrade Logistics, 4.75% 31-May-2024, Series 'D' Convertible Debentures. (Ticker: CHE.DB.D), (Last week's ranking: unranked). Chemtrade Logistics, which trades as an income trust on the TSX under the ticker CHE.UN, is one of North America's larger producers of industrial chemicals such as sulfuric acid, sodium chlorate, sodium nitrite, sodium hydrosulfite, phosphorus pentasulfide, and inorganic coagulants water treatment. This is a somewhat economically sensitive cash flow business, and it isn't a huge grower. Earlier in March, Chemtrade closed a takeover transaction for its former competitor Canexus, which is a potential positive for its growth rate. The purpose of this new convertible debenture issue is to refinance some existing debt at lower prices, and I consider it to be a positive for the income trust's balance sheet. Bottom line: with an investment in CHE.DB.D, you essentially get a long call option (the hard call date is more than five years away and the issue doesn't mature until 2024) on the Canexus deal adding value to Chemtrade's equity, while enjoying a 4.75% yield-to-maturity if you are lucky enough to get in at par value. Worth a shot within a diversified convertible debentures portfolio. CHE.DB.C (ranked #7), which matures in 2023, is also a viable option - you give up about 50 basis points in per annum yield to the hard call date but benefit from a premium to conversion price that's about 9% less. I currently have no long position in CHE.DB.C or CHE.DB.D.
- Innergex Renewable Energy, 4.25% 15-August-2020, Series 'A' Convertible Debentures. (Ticker: INE.DB.A), (Last week's ranking: #3). This renewable energy producer is mostly focused on hydro and is known to have somewhat boring price action on its underlying shares. This doesn't trouble me as I think renewable energy is an important secular theme for the future. INE.DB.A's conversion price is about 7.6% above where the common shares closed on Friday - so in-the-money trading of the issue is in sights. My quantitative model indicates the debentures, based on their closing price of $107.00, are 3.94% undervalued. Bottom line: slow and steady wins the race. The yield-to-hard-call-date is positive at 1.21% and the earliest the issue can be called is still more than two years away. I like this issue; you'll participate in the upside of the shares and you still have a floor on your principal if it doesn't work out. I'm long INE.DB.A at $102.75.
- Gibson Energy, 5.25% 31-July-2021, Convertible Debentures. (Ticker: GEI.DB), (Last week's ranking: #2). Both Gibson's common shares and its convertible debentures have trended down for the month, as WTI oil prices continue to plumb below US$50 levels. US shale production remains high, there's a glut of oil out there, and President Trump will make it easier to drill in the US, not harder. Approval of Keystone XL hasn't given Canadian energy and energy services companies much of a bump. Our quantitative model indicates GEI.DB is 8.84% undervalued. Gibson has some leverage on its balance sheet, and I think you have to like the outlook for energy prices to be in this one as the current yield-to-hard-call-date is only 2.75% at it's Friday closing price. Bottom line: you're here for the capital gains potential and because you like oil going forward. I'm not sure I'm that bullish; I have no long position in GEI.DB.
City bean. The outstanding sculpture entitled 'Cloud Gate' by Anish Kapoor in Millennium Park, Chicago, Illinois. Copyright © 2014 Felix Choo / dingobear photography. Photo is available for licensing at Alamy Images. All rights reserved. Photo may not be reproduced without permission.
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