Midyear June 2012 Update!

Midyear 2012 has drawn to a close as one of the more difficult years for natural resource investing in recent

memory.  The main drivers of this commodity sell-off were slowing growth in both China and the U.S.

and, even more critically, an accelerating deterioration in Europe.

 As of June 30, 2012 the S&P/TSX  index is  down 1.5% with the Energy sector down over 8% continuing the underperformance of resource equities.  As poorly as gold and oil have performed lately, the underlying equities have fared even worse!

For the Period Ending June 30, 2012 the portfolio I managed has outperformed and has shown positive returns mainly due to my underweight in the energy sector which is approximately 6 % of my overall portfolio compare to a weight of 26% for the S&P/TSX  index.

To put this into perspective the top two largest  holdings of my portfolio are Coca-Cola (4.3 % weighting) and Merck  (3.4 % weighting) is greater than  my total energy weighting and both have outperformed .  Coca-Cola is  up 73.09 % and Merck is up 23.22  % since I added both to the portfolio.  Last week  the shares of Merck jumped 4% in early trading Thursday, the day after it said it was ending a key Phase III clinical trial for its osteoporosis drug candidate odanacatib ahead of schedule because the drug had been shown to be highly effective.

The Focus Stock  for the month is Coca-Cola, which carries S&P Capital IQ’s highest investment  recommendation of 5-STARS, or strong buy.  Coca-Cola, based in Atlanta, GA, is the world’s largest producer of soft drink concentrates and syrups, as well as the world’s biggest producer of juice and juice-related products. The company also owns or has majority stakes in 97 beverage bottling or canning plants located around the world, which are consolidated into the Bottling Investments operating segment. Coca Cola operates in more than 200 different countries, I see that providing a steady runway for future growth as well as strong opportunities to increase per capita consumption.

 According to data from the company, 2011 global per capita consumption averaged 92 servings per year, with the United States coming in at over 400. This compares to the developed world average of 267, the developing average of 251 (including Brazil at 230 and Turkey at 173) and an emerging market average of just 31 (including Russia at 73, China at 38 and India at 12). Moreover, I think the company’s global infrastructure positions it well to grow its both carbonated and non-carbonated beverage brands. Today, the company licenses and markets more than 500 different brands. In 1997, it had only five brands exceeding $1 billion in retail sales. By 2011, that number had grown to 15, and I expect more brands, particularly in the non-carbonated arena, to join that group as the company expands distribution of its newer brands into more countries.

Moreover, I  still find the valuation of the shares compelling, trading in the lower half of KO’s historical average with a dividend yield approaching 3%

WEALTH PRESERVATION IS A PRIORITY !

May was one of the more difficult months for natural resource investing in recent memory ! Crude oil (WTI) finished the month down 18% to a seven-month low – one has to go back to October 2008 to see a drop of similar magnitude. The main drivers of this commodity sell-off were slowing growth in both China and the U.S. and, even more critically, an accelerating deterioration in Europe.

In an environment where we would have expected the world to increasingly gravitate towards gold as a safe haven, investors have instead continued to rush into U.S. Treasuries and Japanese Government Bonds, where 10-year maturities are now offering record low yields of 1.559% and 0.819% respectively, despite considerable new issuance.

What to do?

My fund remains heavily weighted towards cash and dividend-paying companies. I believe that North American interest rates are likely to remain low for a surprisingly long time. As such, good quality high-yielding equities should remain an attractive investment – providing investors with regular income.

The Opportunity

Central banks are facing rising political pressure to step up money printing efforts in Europe, China, Japan, and the U.S. The accelerating European bank run in particular is increasing the odds of a massive ECB response at any moment. Given the scope of the threat, we would not rule out an announcement of a globally coordinated initiative.

The obvious direct beneficiary from increased money printing is gold, which effectively acts as a fixed supply “currency” (store of value) relative to depreciating paper currencies.

At a time when massive money printing by the world’s central banks is not only inevitable, but potentially imminent, we believe that gold should be viewed in its traditional role as a store of value rather than just one more “risk-on” trade.

In order to mitigate downside risk and generate income (above 10% currently), I have exposure to a covered call option strategy on 33% of the securities of my Gold Portfolio. The level of covered call option writing and income vary based on market volatility and other factors.

Sell Encana Corporation

I attended the Encana AGM a few weeks ago. I have attended the Encana AGMs the last couple of years and my first impression is that they have made it very difficult to attend their AGMs with security screening exceeding any other company AGMs I have attended.

They also schedule the AGM at the exact same time and date as Cenovus which made it difficult as a shareholder to attend - most shareholders owns shares of both Encana and Cenovus since the split and the Encana AGM was not well attended by shareholders.

On September 10, 2009, Encana reignited plans to proceed with the split of the corporation into two independent energy companies. An integrated oil company Cenovus Energy was created, which split off EnCana's oil sands and downstream assets. Post its corporate split, Encana's estimated upstream production is roughly 100% natural gas focused - a very bad move with gas prices below $2!

 

In my view with the lack of any concrete plan, Encana’s success with material liquids growth is not optional given its dry gas weighting, time is not a luxury the company can necessarily afford for gas prices to recover. Encana may need to consider an oil or liquids weighted acquisition that would augment its organic prospects with a more immediate and concentrated development fairway which plays to its execution strength. My rating is a Sell!

 

The Future of Investing: Alternative Hedging Investing!

Driving the change and demand for accessible alternative investments was the 2008 market crash and the three years of ensuing volatility. It became obvious that relying solely on the wait-for-growth approach, also known as a long-only approach, was a mistake. Even with a well-rounded stock portfolio, analysts realized long-only investing placed investors’ wealth at too much risk.

Today, while the market volatility is not near the levels of 2008/2009, returns remain depressed and alternative investments provide a new vehicle for higher returns not tied to traditional equity markets.

Do You Need A Covered Call ETF?

Investors are taking a renewed interest in a strategy abandoned during the recent recovery; the covered call. A covered call consists of going long on an underlying security while selling call options on the same underlying security. This has the effect of generating additional income (the premiums received from selling options), which helps to offset some losses when markets are falling. When markets are rising, however, the call options sold can come “in-the-money,” offsetting gains generated by the long position in the underlying security. ETFs employing the covered call strategy have lagged behind traditional beta funds as markets headed higher, but have sharply outperformed the broad market during the recent period volatility and declining equity prices. 

Covered call strategies can also pair a long position with a short call option on the same security. The combination of the two positions can often result in higher returns and lower volatility than the underlying index itself.

Bearish about market prospects for 2012

Welcome to my last post of 2011.  Unhealthy global government balance sheets and structural economic problems as a result of years of excess and financial engineering have created a dangerous negative feedback loop in 2011 which I expect to cause recessions around the globe in 2012. This December post outlines this negative feedback loop and explains why I expect a difficult market environment in 2012.

In summary global governments are carrying more debt than ever and raising question as to whether or not a second — and perhaps even more dangerous credit crisis — is inevitable. The clock is ticking and every second, the world takes on more debt. In 2001, global government debt totaled $18.2 trillion. Fast-forward a decade, and the figure now totals nearly $44 trillion, an increase of 140 percent (more than 9.0% a year).
According to The Economist, global sovereign debt is forecasted to grow an additional 7% in 2012 reaching a historical high of $47 trillion

One of the problems with economic crises is that mainstream economists and financial experts
don’t see them coming. That’s exactly what happened in the fall of 2008, when the financial crisis kicked off in the United States. Since that time, governments have continued to spend, all while production has slowed and unemployment has skyrocketed. As we enter the fourth year of the post-crisis environment, there is no sign of growth that is impressive enough to get us out of the negative feedback loop in which governments have continued to operate. A negative feedback loop takes hold when massive government debt loads, a weakening financial system and a slowing economy feed off each other, interrupted by Federal Reserve and other central bank reflationary attempts. The result of this rising debt means more government interference, a further slowdown in the already debilitated economic environment and the possibility of further citizen uprisings in some countries.

As noted, I am very bearish about market prospects for 2012 and I will be adding more non correlated alternative investments to my portfolio.  See my next post The Future of Investing: Alternative Hedging Investing!

TransAlta still Underperforming!

Although 2011Q3/11 results seem decent, the numbers was driven by earnings from energy trading, rather than the company’s core business of electricity production.  In addition, during a conference call TransAlta noted that maintenance costs are likely to increase in 2012E, as the company positions its fleet for the eventual retirement of its legacy coal fired assets. Continuing a trend that began at the 2010 Investor Day, TransAlta is now providing cash flow guidance rather than EPS guidanceand now also appear to be focused on cash flow as opposed to

earnings growth targets.

Also TransAlta did not provide an update on the pending arbitration regarding its decision to remove the Sundance 1 and 2 units from service. At current levels, the shares are fully valued and my rating is Underperform.

Annaly Capital one of the best risk/return plays in the financial sector.!

Annaly Capital has performed remarkably well through the entire financial crisis of the last several years and has consistently paid quarterly dividends yielding above 15% per annum!

During last week U.S debt crisis I added to my holdings in NLY!

Annaly (NYSE: NLY) manages real estate related investment securities:

• mortgage pass-through certificates
• collateralized mortgage obligations
• agency callable debentures
• other interest earning securities backed by mortgage loans

NLY Principal business objective is todistribute income to stockholders from earnings on real estate securities. NLY is taxed as a real estate investment trust (REIT), so has no federal income tax on taxable income that is distributed to stockholders.

NLY should continue to perform well in a low interest rate, low inflation environment.

My Conclusion

•Very low probability of the Fed raising short-term rates
•The gov’t will do everything in their power to prevent another meltdown of MBS market-> good for NLY’s portfolio
•Very high dividends with low interest rate risk

NLY remains one of our favorite risk/return stories for 2011 - particularly given recent macroeconomic
weakness. Shares are attractively valued at 1.05x current book value, relative to the forward dividend yield of roughly 16% we expect in the year ahead.