**October 23rd Issue of The JMRD Market Observer**
In This Week’s JMRD Market Observer
- Bank of Canada downgrades its GDP forecasts
- Pipelines, Utilities & Energy Infrastructure – Q3 preview, reporting calendar and stocks to watch
- JMRD Basket Corner
- JMRD Insurance Corner
- Retirement Corner
- Week at a Glance
- Reads of the week
- Economic Calendar
- Earnings Reports
Bank of Canada downgrades its GDP growth forecasts
As widely expected, the Bank of Canada left its overnight rate at 0.50% at its meeting on Wednesday. The central bank acknowledged that global growth was weaker than expected this year but was still hopeful for a rebound in 2016. Still, the BoC lowered its forecast for global growth next year to 3.4% (from 3.7%) with downgrades to most major economies including the US (2.6%) and China (just 6.3%). For Canada, while this year’s GDP growth forecast was left unchanged at 1.1%, the forecast for 2016 was cut to 2.0% (from 2.3%). The downgrade was largely due to investment whose contribution was lowered from +0.4% to -0.2%, i.e. now a drag on the economy. Consumption and government were also downgraded a bit. Gross domestic income is now expected to rise only 1.2% next year (versus +2.2% in the prior estimate) due to unfavourable terms of trade. Looking at the quarterly growth profile, the BoC now expects a much better third quarter this year (2.5% versus 1.5% previously), but the fourth quarter was lowered to just 1.5%. All the quarters of 2016 were lowered a bit. The BoC judges that the risks around the inflation profile are roughly balanced. It still views the underlying inflation rate to be in the range 1.5-1.7%, below the observed core inflation rate of 2.2% in the last four quarters. The central bank made it clear it didn’t know what potential GDP is, as evidenced by the introduction of a wide range of 1.4-2.2% offered for 2016 (1.3-2.3% for 2017). The central bank, however, says that the weaker profile for business investment suggests that, in the near term, growth in potential output is more likely to be in the lower part of the Bank’s range of estimates. The BoC still expects the economy to return to full capacity around mid-2017. Bottom line: While the Bank of Canada was upbeat about the US expansion which is viewed as solid, and hence was encouraged by prospects for Canadian exports, it remained cautious about the overall economic outlook for Canada „Ÿ GDP growth forecasts for the next two years were downgraded. The central bank says the reallocation of labour and capital across sectors and regions is a complex process that will take time to unfold, particularly in view of the need to rebuild non-commodity-exporting capacity. The uncertainty is such that the BoC is even less confident than usual in its abilities to forecast potential GDP, as evidenced by the exceptionally wide ranges for the next two years. It must be noted that the BoC’s growth forecasts, both actual and potential, DO NOT reflect the newly elected Liberal government’s plan to increase fiscal stimulus. This will remain true until the next budget is tabled. But that’s no guarantee the BoC’s growth forecasts will be raised even then. The new fiscal stimulus will need to be assessed against the Trudeau government’s plan to increase contributions to the Canadian Pension Plan (CPP) and raise payroll taxes, both of which could hurt growth somewhat over the near term. In light of the enhanced uncertainties, we remain of the view that the Bank of Canada will err on the side of caution by keeping the overnight rate at 0.50% through next year. (Full note attached)
Pipelines, Utilities & Energy Infrastructure: Q3 preview, reporting calendar and stocks to watch
- NGL frac spreads bounce along bottom, but… C3+ NGL frac spreads (selling NGLs for the cost of ‘dry’ natural gas) averaged just US$12/bbl through Q3 versus Q2 2015 levels of US$15/bbl (LT avg.: US$32/bbl). That said, with Gulf Coast propane export capacity poised to double to 1.2 mmbpd by early 2016, we note the potential for a recovery in propane prices (and frac spreads) heading into the winter heating season with frac spreads currently at US$14/bbl.
- …Midstream cash flows back on the upswing: Despite weak commodity prices through Q3, we highlight EBITDA (and FFO/share) growth relative to Q2 2015 across the Midstream space (AltaGas, Gibson, Veresen, Keyera, Pembina, Inter Pipeline) – reflecting new growth projects being placed into service. As such, we expect the market’s attention to begin shifting away from recent commodity-based margin compression towards attractive secured growth profiles through 2018. Finally, we highlight Inter Pipeline as an attractive buying opportunity ahead of our forecast 10% dividend increase along with its Q3 release.
- Alberta power prices – new 15-yr low! Q3 Alberta power prices averaged just $26/MWh, representing a new 15-year low and a market heat rate ($/MWh divided by $/mcf) of just 9x, well below the long-term average of ~14x. That said, we highlight Capital Power as being fully hedged through H2 2015 at ~$55/MWh. Combined with a potential rebound in Alberta spot power prices through the higher demand winter period, and the stock trading below our downside valuation of $22 assuming an “extreme” coal retirement scenario from the Alberta government (i.e., non-super critical coal-fired capacity retired at the end of 2020) – we view CPX’s free cash flow yield (AFFO yield) of ~14% as a compelling entry point for longer-term value investors.
(Full research note attached)
JMRD Basket Corner
Toronto-Dominion Bank (TD) – Summary of TD’s Canadian Investor Day with a focus on “the golden goose”, Personal & Commercial banking, where the sector faces a threat from new entrants and technologies. (Research note attached) Toronto-Dominion Bank
Whitecap (WCP) – On Wednesday, Whitecap provided investors with a corporate update. Key highlights included: 1) stronger than expected Q3 volumes (3% ahead of our forecast); 2) an increase to 2015 production guidance (+2%); 3) a maintained $1.2 bln credit facility; and 4) synergistic tuck-in acquisitions at Boundary Lake and in the Cardium. The company continues to make positive advancements in the field (as evidenced by improving capital efficiency) and sustainability measures continue to stack up favourably amongst peers (2015e payout ratio of 92% and D/CF of 1.7x vs. peers at 106% and 2.2x, respectively). (Research note attached) Whitecap Resources Inc.
U.S. Growth Basket
- Lockheed-Martin (LMT) – “Lockheed Martin Moves Closer to Big Saudi Ship Deal” Defense contractor reports drop in profit, expects sales to be little changed in 2016
JMRD Insurance Corner
In what is the final installment in our Cottage Succession Planning series, the article explores three other alternatives to consider when dealing with a family cottage or vacation property. Please see the attached article more for information. Cottage Succession Planning 3
- Testamentary trusts can offer your beneficiary tax and other benefits – The Globe and Mail
- “If you are saving for your old age, you might be saving too much” (Financial Post)
- “When should millennials start saving for retirement? How about now” (Globe and Mail)
Week At a Glance
Reads of the Week
- “National Bank Financial: Family-controlled firms post higher returns, study finds” (The Globe and Mail) Let us know if you are interested in reading the full report.
- “Canadians should think of 2015 as a bonus year for TFSAs” (Financial Post)
- “How is Canada doing these days?” (Financial Times)
- Five things to know about small-cap stocks (Financial Post)
- Making sense of long-term returns and “One Year Returns Don’t Tell You Anything” (A Wealth of Common Sense)
- “Fintech poses ‘long-term and dangerous’ threat to golden goose of Canadian banks, analysts warn” (Financial Post)
Monday October 26th – U.S. New Home Sales
Tuesday October 27th – U.S. Durable Goods Orders, U.S. Consumer Confidence Index
Wednesday October 28th – FOMC Rate Decision
Thursday October 29th – Canadian Industrial Product Price Index, Canadian Raw Materials Price Index, U.S. Initial Jobless Claims, U.S. GDP Annualized, U.S. Pending Home Sales
Friday October 30th – Canadian GDP, U of Michigan Sentiment
Monday October 26th – Capital Power, West Fraser Timber
Tuesday October 27th – Canadian National Railway, Colliers International Group, DH Corp, Restaurant Brands International, Sealed Air Corp
Wednesday October 28th – Constellation Software, FirstService Corp, Open Text, Suncro
Thursday October 29th – AltaGas, Canadian Oil Sands, Goldcorp, Potash Corp of Saskatchewan, Superior Plus, Uni-Select, WSP Global
Friday October 30th – Imperial Oil, TransAlta
Have a good weekend!