JMRD Market Observer for October 17th, 2014: ETF Basket Quarterly Update

October 20, 2014
**October 17th Issue of The JMRD Market Observer**
In This Week’s Market Observer…
 

  • JMRD Weekly Strategy Comments
  • Jennifer Jones is Coming to London!
  • JMRD Maximum Growth Exchange Traded Fund Basket:  Third Quarter Update
  • Pipelines, Utilities & Energy Infrastructure: Bargain hunting compass – risk profile vs. price performance
  • JMRD Basket Corner
  • Retirement Corner
  • Week at a Glance
  • Reads of the week
  • Economic Calendar
  • Earnings Reports
JMRD Weekly Strategy Comments
 
It was again a volatile week on the global financial markets.  This includes many different assets such as commodities, bonds and of course, equities.  At the time of writing, the TSX was flat for the week compared to its close of 14,200 last Friday. However, the TSX reached a low of 13,650 at one point of Wednesday’s trading session.  The Dow followed a similar trajectory but is off about 1.3% for the week at the time of writing.  The markets have been more constructive the past two days and as talks of continued stimulus in the US and an initiation of stimulus in the Euro region brightened the mood of many investors. Consumer confidence in the US was higher than expected on Friday which also buoyed the markets.   The chart attached gives a good visual illustration of the recent volatility in Canada (white), US (yellow), Hong Kong (green), Japan (red) and Germany (purple) and the year to date movements.  The 100 level on the right side is the starting point for the year.  You can see that the TSX is still positive while the others are flat to negative so far in 2014.  
We have been at our desks, on our phones and doing our best to communicate with clients.  The main questions we get are; will this continue and how bad can it get?  In the short term, the markets are being moved by a variety of global headlines that have some large investors convinced that the global economy will struggle to grow.  Expectations have been adjusted downward.  This leads to a re-adjustment in the prices of many of the assets discussed above like commodities and equities.  When prices drop with such magnitude in a short period of time, some investors who use large amounts of borrowed money must sell at any price to pay back portions of their debt.  This leads to more selling as they get more desperate to settle the debt.  The short term price adjustments can be quite dramatic.  However, this can also result in large rebounds of prices when the selling stops.  There are examples this week of some of our key long term holdings in some of our baskets moving as much as 10% from their lows of the morning to their highs later in the day.  This is what can happen in the short term in financial markets.
TSX
 

In the long term, prices go up based on growing economic activity leading to increased corporate profits, particularly when interest rates are low.  The recent events in the oil market have caused gasoline prices to fall and interest rates are likely to stay lower for longer.  This is good for the North American economy and economic growth.  Those are the factors that matter in the longer term.  In the short term, a stabilization of oil prices, the US dollar and a containment of the Ebola virus would help us move forward from here. 
 
In the meantime, we will be here working away and making decisions that help your long term investment goals.  We do not have a crystal ball for the short term but we will be doing our best to get through this environment and find any opportunities that arise as a result.  Over the past week we have made changes to upgrade the different baskets by selling some of the weaker names and adding to the stronger names that were punished along with the overall markets.
 
We are here for you in the good markets and bad so please make sure to touch base if you are uncomfortable in any way.
Olympic Gold Medalist and NBF’s Own Jennifer Jones is coming to London!
 
This is a first come first served offer so if you have interest, please call us ASAP.  We have room for 10 more people.
Please join us on November 5th for lunch featuring a presentation by Jennifer Jones a gold medal curler.
 
·         November 5th 2014
·         12:00 pm to 1:30 pm
·         Highland Country Club – 1922 Highland Heights, London
 
Jennifer won an Olympic gold medal as skip of the Canadian Women’s Team at the 2014 Sochi Winter Games; she is the first female skip to go through the Games undefeated.
 
Please RSVP to Erin Finnegan at 519-439-8154 or erin.finnegan@nbc.ca to reserve your spot.
JMRD Maximum Growth Exchange Traded Fund (ETF) Basket
The market commentary above provides reasons for the recent market weakness so it does not need repeating here.  The past 6 or 7 weeks have been tough for financial markets and the ETF Basket did not go unscathed.  After posting gains for seven months in a row (July was flat) the ETF Basket posted a decline of just over 2% in September and is off to a shaky start in October.  We are making some adjustments for the future but for the most part are staying the course. 
 
Most of our clients use the ETF Basket as just another ‘building block’ in their respective portfolios which is exactly how it should be used.  By complementing this Basket with other Baskets (DIG and ACB) and using GIC ladders and principal protected notes, we have been able to post positive portfolio returns on a year to date basis.
 
One final message which seems timely is to remind everyone to have a plan and stick to it – if you have any comments or questions with regard to your ‘plan’ please send us a note.
 
Onto the Basket…
 
As many clients know, we have an Exchange-Traded Fund Basket and we will provide a full update on the Basket below.  The ETF Basket is managed by the JMRD Wealth Management Team and is invested solely in exchange traded funds.  This Basket is meant to provide a diversified portfolio that can be used as a long term core holding. 
 

 

  • The ETF Basket posted a 9.68% gain for 2013.
  • At the end of September, the ETF Basket return was 4.96%.

 

Changes to the Basket:  We decided to run a previous ETF Basket note one more time for new clients and holders.
 
Change #1: A New Name
We changed the name of the Basket from the ETF Basket to the JMRD Maximum Growth Exchanged Traded Fund Basket.  The new name better reflects the risk profile and the current and future asset allocation.
 
Change #2: New Asset Allocation
It is our belief that interest rates will continue to rise in 2014 and the new trend will be towards tightening.  This ‘tightening’ of financial conditions by the US Federal Reserve will create an environment that is difficult for most fixed income investments to perform as well as they had in the years prior to 2013.  Our belief is that GICs, principal protected notes and individual securities with shorter terms to maturity should be used for the bulk of a client’s fixed income instead of a higher fixed income allocation within the ETF Basket. 
 
The end result is that we will be targeting a higher equity weighting, which translates into a MAXIMUM GROWTH profile.  For some clients who have large ETF Basket positions, we will need to reduce the Basket position and add the stand alone fixed income (GICs, principal protected notes or individual bonds) if the client’s risk profile calls for the adjustment. 
 
Asset Allocation: Target is 10% Fixed Income and 90% Equities
We recently made an overhaul to the ETF Basket and altered the allocation to better reflect our thoughts on the market as we look ahead 6-12 months.  The new asset and geographic allocations are broken down as follows:
 
Cash and fixed Income: 13.4%

 

  • Cash – 3.4%
  • Laddered Corporate Bond ETF 1-5 Year – 5.2%
  • US High Yield Bonds – 4.8%

 

Equities: 87.6%

 

  • 28.9% – Canadian
  • 26.4% – US
  • 25.9% – Foreign
  • 5.4% – Alternative Investments; Consists of an active Seasonal Rotation ETF and a Hedge Strategies ETF

 

 We wanted to point out some milestones for the Basket as of the end of September:

 

  • Total assets of $31,600,000    
  • Number of holders sits at 324
  • The market value of one ETF Basket is currently $17,500.  The minimum purchase is 2 Baskets or ~$35,000.  Subsequent purchases are 0.5 Baskets, or ~$8,750.
  • Dividend yield is 1.99%

 

The current ETF Basket holdings are listed below.
Pipelines, Utilities & Energy Infrastructure: Bargain hunting compass – risk profile vs. price performance
A couple of ‘bargains” in the Energy Infrastructure sector with the recent selloff as a result of commodity price weakness are Northland Power (NPI) and AltaGas (ALA).
Highlights
Commodity-driven correction: With Canada 10-year bond rates holding flat at 2.0% since the end of August (following a short-lived head fake towards 2.3% in September), the recent pullback across the Energy Infrastructure sector can be attributed to  commodity price weakness – namely WTI crude oil prices free falling >20% towards US$85/bbl.
 
Cash flow risk rankings: Based on our weighted average calculation of 2015e operating margins by: 1) Cost-of-service (take-or-pay); 2) Fee-for-service (volume-dependent); 3) Margin-based (variable upside); and 4) Commodity-based (price-taker). Not surprisingly, lowest cash flow risk profiles include rate-regulated utilities FTS, VNR and EMA; while most exposed to a commodity-driven market pullback include chemical producers CUS and SPB and merchant power producers CPX and TA.
Bargain hunting compass – risk profile vs. relative price performance: Since the end of August, the sector is down -8% versus the broader market TSX sell-off of -9%. Comparing price performance versus cash flow risk profile, we highlight Outperform-rated AltaGas (ALA) and Northland Power (NPI) as relatively oversold – i.e., most attractive buying opportunities for bargain hunters amid ongoing volatility across the energy space.
JMRD Basket Corner
DIG Basket
All Cap Growth Basket
Stella-Jones (SJ) – Following a meeting with management, NBF analyst Leon Aghazarian increased his target on SJ to $35.00 as he also rolled out his 2016 EPS estimates. In addition, several positive factors remain, most notably strong demand in core product categories and management wishing to continue building on its successful M&A track record for the next three years before, transitioning to a high dividend-paying model. Stella-Jones is in the process of implementing pricing adjustments to railway tie contracts with customers to minimize the impact of higher raw material costs.
Surge Energy (SGY) – Paul Colborne, Chief Executive Officer, Surge Energy was BNN this week to discuss the oil company’s strategy and the safety of its dividend, currently yielding about 10%. http://www.bnn.ca/Video/player.aspx?vid=468591
US Growth Basket
HCA Holdings (HCA) – A recent addition to the U.S. Growth Basket, HCA pre-announced 3Q results this week, expecting EPS of $1.18, well ahead of consensus of $0.98. While 3Q includes some moving parts, the results were well received after the recent pullback, as it shows impressive revenue growth (+7.6%, the best top-line result since 2009) driven by balanced and accelerating strength in volume and pricing (+3.5%). The company also raised guidance including its reform expectations for the year. The shares traded higher by 7.5% over the 2 days following the update
Morgan Stanley (MS) – Morgan Stanley’s third-quarter profit surged 83%, riding gains across the breadth of its businesses. The shares moved higher by 2.5% on Friday as results beat analysts’ estimates, even after excluding a boost from a tax benefit.
Retirement Corner
 

 

 

 

Week at a Glance
Reads of the Week

 

  • NBF Economics and Strategy Comment: End of the bull market? Morning Comment

 

 

 

 

 

 

 

 

 Economic Reports
Monday October 20th – None
Tuesday October 21st – US Existing Home Sales,
Wednesday October 22nd – Bank of Canada Interest Rate Decision, Canada Retail Sales; US CPI
Thursday October 23rd – US Initial Jobless Claims, US Leading Index
Friday October 24th – US New Home Sales
Earnings Reports
Monday October 20th – Halliburton, Apple, IBM,
Tuesday October 21st – CN Rail, CP Rail, Coke, Yahoo, McDonalds
Wednesday October 22nd – Open Text, AT&T, Boeing, Dow Chemical
Thursday October 23rd – Cenovus, Rogers, Potash, 3M, Amazon, Microsoft,
Friday October 24th – Capital Power, Ford, UPS, Proctor and Gamble

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