November 18, 2017 (with comments on fixed income investments)

On Friday, the S&P 500 was down 0.3% while Toronto was up 0.4% Oil prices rose and West Texas Intermediate is at $56.68.

TFI Industries was up 1.4%.

Home Capital was up 3.8% to $15.67. It’s not on our list but I bought a small amount as mentioned on August 24 and I commented on the company on September 3 and September 11.┬áSome analysts and observers thought that Buffett was crazy to invest in Home Capital. He paid $9.55 per share striking a deal when the shares were lower than that and the company was in extremely serious trouble. Buffett’s shares were purchased directly from the company and not other investors and so shored up Home Capital’s balance sheet and his seal of approval restored confidence in Home Capital. Confidence is something that deposit taking institutions absolutely must have. I have a theory that Buffett did this deal, very small by his standards, just to show people that he still has the skills and energy to do things like this.

Walmart was down 2.2%. Its 11% surge on Thursday may not have been justified. On an adjusted basis its earnings per share in the quarter were up only 2%. Its projected earnings per share for the full year that will end in January appear to be just 2% higher than the prior year. It is trading at about 22 times those adjusted earnings. Walmart is a great company but it has been growing earnings only very slowly in recent years. The main cause of the share price increase is likely the 50% rise in online sales that it reported. That is very impressive but online sales remains a very small proportion of total revenues. Also it was not clear how much of the 50% was due to the acquisition of that Walmart made last September. If a good part of it was due to that acquisition then it would seem that we could not expect a 50% gain next quarter since the prior year comparable quarter would then already include

A comment on Fixed Income

I was thinking this morning about whether there might be opportunities in corporate bonds. I would only be interested in relatively short term bonds such as up to about 5 years since I would not want to take the interest rate risk that is inherent in longer bonds. I thought maybe a company like Enbridge might offer an attractive yield because it has been viewed as having some weakness.

Looking on TD Direct at bonds up to five years duration, nothing seems attractive to me. There are very few that yield as much as 2.0%. One of the highest is a FairFax bond that has a yield to maturity of 2.62% and matures in June 2020 (so 31 months). The return is perhaps acceptable but is not overly compelling. If you had to sell the bond early it appears that you would lose 1.1% on the bid/ask spread in selling it back to the bank.

TD Direct also lists some high-yield bonds. Some of these are from riskier companies including Bombardier and Sherritt International. One that looked interesting to me was a Parkland Fuel Corp bond due just short of 7 years that yields 5.2%, or if called early in 5 years yields 5.0%.

In general most investors looking for fixed income might be better off to look at ETFs which offer diversification and probably lower bid/ask spreads. Our ETF list includes some fixed income ETFS, but admittedly there is not much yield to be had in the shorter term ETFs. The ishares 1- 5 years laddered corporate bond index ETF, symbol CBO is yielding about 2.3% (to maturity of the bonds held) and has a management expense ratio of just 0.11% for a net return of about 2.2%.

With these low yields, I don’t hold any fixed income as such and instead am content to hold some cash on which I can earn 0.95% in the “high yield” bank deposit offering of my brokerage account. I like having these funds instantly available for other investments. If I wanted to hold a higher level of cash/fixed income such as 40%, I might consider putting some of it into fixed income rather than cash.

Guaranteed investment Certificates could be considered rather than short-term bonds. TD Direct offers 1.8% on a TD 5 year GIC. But they also currently offer, for example, 2.71% on a Canadian Western Bank 5 year GIC or 2.70% from Laurentian Bank. Not only are these almost certainly safe issuers, these investments are covered by government deposit guarantees up to $100,000 per investment account. No doubt there are higher yielding GICs in the market but you will not typically find those available from a bank discount broker such as TD Direct. Keep in mind that these GICs would not be cashable before maturity.

It’s tempting to consider preferred shares or other higher dividend investments as a substitute for low-yielding bonds or GICs. If doing so be aware that those have no maturity date on which they would return the principal. The market price of these investments can decline below what you pay for them and stay down. The same criticism has been levied against fixed income ETFs. However, the fixed income ETFs are considered fixed income since they hold investments that do mature. Arguably this is not much different than an investor holding a portfolio of individual fixed income investments that mature, but not on the same date.

Fixed income distributions are taxed at the full marginal rate and therefore it is best to hold these in non-taxable accounts.