In This Issue

GET USED TO IT

By Gordon Pape

After the crash of 2008-09, many economists said it would take years for the world economy to recover. It turns out they were right. Now you know why they call it “the dismal science”.

We are almost four years removed from the start of the plunge that came close to wiping out the global financial system and things are still in a mess. There have been some victories along the way, of course. We saved the banks (only to have them thank us by manipulating key interest rates). General Motors and Chrysler were pulled back from the brink. Massive stimulus by central banks rescued the world from recession and managed to spark tentative growth in key countries like the U.S.

But the reality is that we continue to pay the price for many years of excess and that is not going to end any time soon. The plain fact is that what we see is what we are going to continue to get for several years to come, so get used to it. In some ways, the 2010s are starting to resemble the 1930s, right down to the devastating drought conditions in the heart of the U.S. bread basket.

The July Monetary Policy Report released last week by the Bank of Canada was yet another indicator that anyone who still hopes for a quick turnaround is dreaming. Under the leadership of Governor Mark Carney, our central bank has gained an influence and respect in the international community that is completely disproportionate to Canada’s size and economic clout. When Mr. Carney talks, people listen – very carefully.

What he had to say last week with the release of the Report was not encouraging. In case you missed them, here are some of the key points.

1. The outlook for global growth has weakened since the Bank released its last report in April.

2. In China and other developing markets, the slowdown has been greater than expected.

3. Europe is slipping into recession.

4. Although commodity prices have dropped, they remain “elevated” – not encouraging news for our mining and energy sectors.

5. The Bank cut its growth projections for Canada to 2.1% this year, 2.3% in 2013, and 2.5% in 2014. Even those modest numbers have to be taken with a grain of salt since every recent forecast revision from the Bank has been downward.

6. Canada’s exports are expected to remain below their pre-recession peak until at least 2014.

One of the especially disquieting aspects of the Report is its forecast for oil prices going forward. The Bank of Canada does not believe that the current prices are going to hold, given a reduction in demand from major developing countries like China and India. It predicts that by the end of this year, the price for West Texas Intermediate (WTI) crude will be about US$87 a barrel and will stay around that level right through to the end of 2014. Brent North Sea oil, which has been trading at a premium to WTI, will fall from US$109 per barrel in the second quarter of this year to US$94 a barrel by the end of 2014.

Lower oil prices would be good news for consumers and would reduce inflation pressure. But they would squeeze the profits of oil producers and put a brake on new development. On the plus side, at least as far as exporters are concerned, lower oil prices would reduce manufacturing costs and put downward pressure on the loonie.

So what are we as investors to take away from all this? Here are some thoughts.

No rising tide. We are not likely to see a broadly-based bull market any time soon – no rising tide that will lift all boats. There will be opportunities to profit in the markets but you will have to be selective. Some of our recent picks that have been especially strong are Dollarama, Stella-Jones, Walmart, eBay, Linamar, Intact Financial, and Westport Innovations. Notice that not one of these is in the commodities sector.

Oil stocks will lag. We are unlikely to see any big upside move in oil stocks for the next few years. If anything, the pressure will be more to the downside if the Bank of Canada forecast is anywhere near right. Therefore, any investments in the oil patch should focus on low-cost producers (Mart Resources, which is recommended by Ryan Irvine elsewhere in this issue, had production costs of only $10.98 per barrel in the first quarter.) Look especially for companies that offer decent dividends that are sustainable if prices settle in the mid to high $80s.

Mining stocks are vulnerable. Most of the miners, with a few notable exceptions like the potash producers, are going to struggle for the next few years.

The TSX will trail the S&P. Without strength in the oil and mining sectors, the TSX will have a tough time making gains. If you want to invest in an index fund, one based on the S&P 500 will be a better choice.

Bonds still look good. I am sounding like a broken record on this but in the light of the Bank of Canada’s latest forecast I have to say it again: maintain a healthy portfolio allocation in bonds, especially high-quality corporate issues. Bonds have outperformed the TSX by a significant margin so far this year. The DEX Universe Bond Index was up 2.79% for 2012 as of the close of trading on July 19. The All Corporate Bond Index was doing even better with a gain of 4.19%. With the Bank of Canada likely to keep interest rates on hold until well into 2013, that pattern should continue.

In summation, we are unlikely to see any dramatic change in the current conditions for the next several months and, if we do, the risks are more to the downside. Plan accordingly.

 

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ARE THE SUMMER DOLDRUMS AN OPPORTUNITY?

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We are joined this week by contributing editor Ryan Irvine, who reports that the West Coast is finally seeing some sun after weeks of rain and cold weather. That seems to have prompted a lot of financial people go off on holiday, joining their Eastern counterparts who have been basking in the heat all summer. And that, says Ryan, may create some market opportunities. Ryan is the CEO of KeyStone Financial (www.keystocks.com) which specializes in identifying high-quality small-cap stocks. Over to him.

Ryan Irvine writes:

Judging by the amount of auto-response e-mails from folks in the investment world these days, the so-called “summer doldrums” appear to have set in. For those that stand by the tired but oft used “strategy” to “sell in May and go away” it is time to forget your worldly cares and bask in the glorious sun of Muskoka or the Okanogan.

And, the story goes, junior portfolio managers – without seniority, vacation time, school-age children, or much in the way of discretionary authority – are left to mind the store.

It is a period in which the markets often see reduced volumes and potentially greater volatility because the transactions that are completed have a bigger than normal impact on the price of a stock. If you wanted to sell 1,000 shares of a stock, the order may not have a huge effect on the price if the company trades an average of 100,000 shares each day. If, however, trading volume falls 30% in the summer to 70,000, your order is going to have a more powerful influence on the price by pressuring it to fall as you sell your holdings or vice-versa on the buy side.

For those of us who watch the small-cap arena closely, the summer months are often a time when we can find bargains in the midst of lighter volumes as smaller companies are typically affected to a greater degree. Having said this, we are very wary of investing based on very broad, undefined, and simplistic strategies.

The origin of the “sell in May” strategy is British. The original saying was “Sell in May and come back on St. Leger’s Day,” which was the last race of the British horse racing season, held on the second Saturday in September.

Proponents of the strategy will point to the fact that the Stock Trader’s Almanac shows that the S&P 500 rose only 4.3% on average between May and October going back to 1926 and while gaining an average of 7.1% from November to April. To that we say that the act of selling in the face of historically broad positive returns, albeit less than those of the preceding six months, seems a tad strange. Given the alternative returns in T-bills, bonds, etc., why the rush to sell in the summer?

Remember, there are years when the markets do rally in the summer making stocks (from a broad perspective) more expensive by the time people return. Look no further to the summers of 2009 and 2010 when a “sell in May and go away” strategy would left you buying back in at significantly higher levels.

For us, it is more about what we buy or sell than a strategy dictated by a turn of a page on a calendar. There will always be individual stocks to sell and to buy in any market conditions. If we see the summer months producing some bargain hunting opportunities this year, we will certainly take advantage of the lighter volumes and buy some great names, but our analysis will stick to the individual company’s profitability, not the seasons.

In case the investing world has not noticed, there are plenty of better current arguments to sell the broader markets than seasonality. There’s a shroud of uncertainty over many major issues like U.S. tax reform, the impact of Obamacare, the U.S. debt ceiling, the so-called “fiscal cliff” at the end of 2012, the imminent U.S. presidential election, slowing growth in China, and, of course, Europe’s never-ending debt crisis.

But there are also reasons to buy a few select stocks. This month, we build a case for a relatively unknown oil and gas producer that is starting to gain significant market attention with strong cash flow and a recently implemented dividend policy that currently produces a strong yield. Details follow.

 

RYAN IRVINE PICKS MART RESOURCES

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Mart Resources Inc. (TSX-V: MMT, OTC: MAUXF) is an independent international oil and gas company focused on production and development opportunities in the highly prolific Niger Delta region of Nigeria. The Umusadege Field in Nigeria’s Delta State is Mart’s core strategic asset. The company is currently producing and developing the field along with Midwestern Oil and Gas Co. Plc (the operator of the field) and SunTrust Oil Ltd.

Background: Nigeria is the largest oil and gas reserve base in sub-Saharan Africa with an estimated 30+ billion barrels (bbls) of oil and 180 trillion cubic feet (tcf) of gas. The country is the fourth largest oil supplier to the U.S. and recently concluded its most successful democratic election. Having said this, we consider the country to have an above average level of political risk which has contributed to the Speculative Buy rating.

Mart appears to be well-positioned for growth through further increases in Umusadege field reserves, gaining access to proven “marginal fields” to be awarded by the Nigerian government, and fields available via international oil companies’ divestures. Marginal fields, as defined by the Nigerian government are as follows;

1. Fields owned by major international oil companies and the state oil company (NNPC) which have remained non-producing for over 10 years.

2. Fields not under development due to marginal economics for major oil operators and high fiscal terms.

3. Exploration discoveries but no appraisal activities.

Umusadege was allocated under the Nigeria’s Marginal Field Program which was initiated in 2001. At the time there were over 130 fields identified for the program and by 2003, 24 of these “marginal fields” were allocated to indigenous companies. The conditions included considerably improved fiscal terms relating to taxes and royalties.

Umusadege is an onshore oil field. It is a multiple-horizon hydrocarbon reservoir situated in the North Central area of the Niger Delta basin. The field contains 13 known reservoirs.

The Umusadege farm out area (3,771 gross acres) was formally awarded to Midwestern Oil and Gas Plc. and SunTrust Oil on Feb. 25, 2003 at a ratio of 70:30 respectively. Mart entered into an agreement with Midwestern on April 27, 2006 and with SunTrust on May 22, 2006 which set out the commercial framework under which Mart participates in and provides technical and financial services to the two companies.

Under the terms of the agreements, Mart contributes to the development of the Umusadege oil field by providing funding of capital costs in exchange for an allocation of hydrocarbons discovered and produced. During the cost recovery phase, Mart is entitled to up to 65% of the production revenues remaining after deduction of royalties, Petroleum Profits Tax, operating costs, and abandonment obligations to recover its capital costs invested in the field development. The remaining 35% of production revenues are shared with half to Mart and half to Midwestern and SunTrust. Once Mart has recovered all of its capital costs, all production revenues remaining after the various deductions are shared 50-50. Mart was in and out of the recovery rates throughout 2010 and 2011.

A phased development plan was implemented using results from the initial wells and early field performance data to optimize the full development of this multi-reservoir field. Mart and its partners installed 10,000 barrels of oil per day (bopd) early production facilities (EPF) in 2008.

Six wells have been completed and are producing (UMU-1, 5, 6, 7, 8, and 9). Field production in May averaged over 11,800 (bopd). A permanent central production facility (CPF) has been installed to replace the EPF, with further expansion on-going to reach a capacity for the full field development of 30,000 – 35,000 bopd. Operating costs are substantially reduced with the CPF further enhanced and as production increases.

At present, Mart has an agreement in place with Nigerian Agip Oil Company (NAOC), the Nigerian operator of a pipeline, as the sole transporter of its oil from the Umusadege field. The single operator has led to some constraints in export pipeline capacity but a recent agreement to increase export capacity as well as the signing of an agreement to establish a second export pipeline for Umusadege field oil production should help mitigate this risk and allow for strong potential production growth.

Key recent developments: On June 27, Mart announced the updated results of independent evaluations of the company’s reserves effective March 31. Mart’s total gross proved (1P) oil reserves increased 24% to approximately 13.9 million bbls compared to 11.2 million bbls at Dec. 31, 2011. The company’s total gross proved plus probable (2P) oil reserves increased 29% to approximately 19.2 million bbls. Mart’s total gross proved plus probable plus possible (3P) oil reserves grew 14% to approximately 25 million bbls. The company’s net present value before tax of future net revenue, discounted at 10% from the 2P field reserves was US$927.4 million or over $2.75 per share (compared to US$782.4 million as at Dec. 31, 2011).

On June 21, Mart announced the signing of an agreement to establish a second export pipeline for Umusadege field oil production. Mart and its partners have been evaluating options to construct a new export pipeline to transport production. The pipeline, which is expected to take approximately one year to construct, will be owned and operated by a company owned in part by Mart and its partners. The cost of what will be known as the “Ogini Pipeline” is expected to be funded through a combination of equity contribution by the pipeline owners and third party project financing. At present, we estimate the total cost to be in the range of $35 million.

On June 28, Mart’s board of directors adopted a policy to pay quarterly dividends of $0.05 per share commencing in September, following the payment of a special $0.10 dividend on Aug. 8 – the stock is already ex-dividend. The dividends in the future are dependent on Mart’s cash flows, capital expenditure budgets, earnings, financial condition, and other factors, which is normal in such situations.

While the projected yield is just under 14%, we caution that with the volatility of the price of crude, the safety of this yield is not guaranteed and quarterly payments may fluctuate over time. That said, we are encouraged by this development as it appears to reflect management’s positive view of the sustainability of cash flow from Mart’s Nigerian operations. The payout ratio based on the company’s most recent quarterly cash flow of $0.16 per share is in the range of 32%.

Opportunity and risk: On the opportunity side, management believes the Nigerian government will come out with a statement within the next 2-3 months formally announcing another Marginal Field Allocation Program. The company believes another 20-30 fields will be allocated providing an excellent opportunity to grow.

However, tHhere is a long-awaited “petroleum industry bill” that could be enacted in the near future in Nigeria which some believe carries further risk for existing oil producers. Management is of the opinion that if Mart were a large multi-national oil producer involved in some of the offshore developments where the government is looking to increase the tax regime, this might be a risk. Because Mart operates under indigenous programs, the company already enjoys substantial fiscal benefits under the existing marginal field terms. The current draft of the petroleum industry bill has the potential to provide further fiscal relief to the company. We stress that this is just the opinion of Mart’s management team at this stage and we will not know any precise details until the final bill is enacted.

Conclusion: We were very impressed with the strong financial and operating results for the first quarter of the current fiscal year. They showed $38.2 million ($0.11 per share) in net income and operating cash flow of $0.16 per share. Clearly the company benefitted from increased production but we must also factor in the significantly higher oil prices at that time and the benefits of the increase in cost oil recovery from an average rate of 61.2% in last year’s first quarter to 82.5% this year. Production costs were a low $10.98 per barrel.

Factoring all of this in, we believe the company trades at an unrealistic discount to its peers given the growth of the Umusadege field’s production capacity. Management continues to work towards maximizing production and efficiency and significant steps have been taken towards building an additional export pipeline. A December agreement with NAOC to increase Umusadege’s share of the pipeline capacity in the near-term to 14,000 – 15,000 bopd combined with the prospective additional pipeline will significantly increase total pipeline capacity which should in turn substantially increase potential production and cash flow.

In fact, management has indicated that with the new pipeline and further success at the Umusadege field, in one year’s time Mart could be in position to produce in the range of 25,000 bopd. In addition, the design capacity of approximately 30,000 bopd is expected to be completed by the end of September this year. Combine this with the increases in reserve volumes detailed above and the potential the company could secure new marginal fields that are expected to be awarded in 2012 by the Nigerian government and the story becomes very intriguing.

From a valuation perspective, with a trailing (last 12 months) p/e ratio of just over 5.0 and trailing price-to-cash flow in the range of 4.0 the stock appears cheap. While the price of oil has dropped significantly since the company reported its latest set of quarterly numbers, it is important to note that Mart sells its light to medium oil at a premium to the Brent price which is currently in the range of US$107.50 versus the widely quoted WTI crude which is currently in the range of US$92.80. Of course, given the company’s geographic local, we consider the stock on the higher end of our risk profile. For those with above average levels of risk tolerance the risk/reward ratio is in our favour.

Action now: We are recommending Mart Resources for those with an above average level of risk tolerance as a Speculative Buy in its current $1.40-$1.55 range. The stock closed on Friday at C$1.47, US$1.46. U.S. readers should note that the stock is listed on the over-the counter Pink Sheets under the symbol MAUXF and is actively traded there with a daily volume of almost 140,000 shares.

Disclaimer: KeyStone and its employees own small positions in Mart Resources.

 

RRSP PORTFOLIO UPDATE

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July isn’t normally a time when people think about their RRSPs, but it should be. Your RRSP portfolio should be reviewed at least twice a year, so this is a logical time to take a close look at how it’s performing and make changes as needed.

In February, we created an IWB RRSP portfolio that was composed of one ETF, three mutual funds, two limited partnerships, one REIT, and one common stock. The securities were:

iShares DEX Universe Bond Index Fund (TSX: XBB). Weighting: 30%. Initial price: $31.33.

Fidelity Canadian Large Cap Fund (FID231). Weighting: 20%. Initial price: $29.97 (B units).

Beutel Goodman American Equity Fund (BTG774). Weighting: 15%. Initial price: $7.83 (D units).

Mawer International Equity Fund (MAW102). Weighting: 5%. Initial price: $31.36. (Note: This was previously known as the Mawer World Investment Fund.)

Brookfield Renewable Energy Partners LP (TSX: BEP.UN). Weighting: 10%. Initial price: $27.43.

Brookfield Infrastructure Partners LP (TSX: BIP.UN, NYSE: BIP). Weighting: 10%. Initial price: $29.39.

Firm Capital Mortgage Investment Corp. (TSX: FC). Weighting: 5%. Initial price: $13.51.

Boardwalk REIT (TSX: BEI.UN). Weighting: 5%. Initial price: $54.75.

The opening value of the portfolio was $25,031.92.

Here is an update on how it has performed so far. Prices are as of the close of trading on July 19. For benchmarks, use the DEX Universe Bond Index, which was ahead 2.79% year-to-date as of July 19, and the S&P/TSX Composite Index, which was down 2.4% at that point.

IWB RRSP Portfolio (a/o July 19/12)

Security
Weight

Shares / units
Opening Value
Current Price
Current Value
Payments
% Gain / Loss
XBB
30%
240
$7,512.00
$31.71
$7,610.40
$104.09
+ 2.7
FID231
19%
167
$5,004.99
$29.44
$4,916.48
0
– 1.8
BTG774
14%
479
$3,750.57
$7.75
$3,712.25
0
– 1.0
MAW102
5%
40
$1,254.40
$31.23
$1,249.20
0
– 0.4
BEP.UN
10%
91
$2,496.13
$29.15
$2,652.65
$31.85
+ 7.5
BIP.UN
11%
85
$2,498.15
$33.89
$2,880.65
$63.75
+17.9
FC
5%
93
$1,256.43
$13.39
$1,245.27
$36.27
+ 2.0
BEI.UN
6%
23
$1,259.25
$62.05
$1,427.15
$17.83
+14.7
Totals
100%
$25,031.92
$25,694.05
$253.79
+ 3.7

Comments: Our portfolio is up 3.7% overall in the five months since it was launched. That’s a respectable return and beats both of our benchmarks.

All three mutual funds were a slight drag on the results and since they had a combined weighting of 40% at the outset that was significant. The iShares Universe Bond Index ETF (30% weighting) performed pretty much as expected with a gain of 2.7% including distributions. That just about matched the DEX Universe Bond Index.

The star performers were the limited partnerships and the REIT. Brookfield Infrastructure LP posted a capital gain of 15.3%. With two quarterly distributions added, the total return was 17.9%. Its stablemate, Brookfield Renewable Energy Partners, didn’t fare quite as well but its total profit of 7.5% (with only one distribution) was very acceptable.

Boardwalk REIT, Canada’s largest owner/operator of multi-family communities, turned in a capital gain of 13.3% and a total return with monthly distributions of 14.7%.

We see no reason to tinker with the portfolio at this stage. We will review it again next RRSP season unless something dramatic occurs in the interim. – G.P.

 

GORDON PAPE’S UPDATES

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Coach Inc. (NYSE: COH)

Originally recommended on March 26/12 (#21212) at $77.09. Closed Friday at $58.84. (All figures in U.S. dollars.)

This glitzy retailer has gotten off to a bad start for us. The stock began a downward slide after the release of the company’s 2012 fiscal third-quarter results (to March 31) in late April. The numbers came in strong but apparently not strong enough to please investors.

The company, which is based in New York, said that year-over-year sales were up 17% to $1.11 billion. Net income for the quarter totaled $225 million ($0.77 a share, fully diluted). This compares to net income of $186 million ($0.62 a share) in the prior year’s third quarter, increases of 21% and 24%, respectively.

There was more good news for investors. The board of directors approved a 33% increase in the company’s dividend, to an annualized rate of $1.20 per share, starting with this month’s payment. As well, Coach announced it repurchased and retired 2.33 million shares of its common stock during the quarter at an average cost of $73.92 per share, spending a total of $172 million. At the end of the period, approximately $430 million remained under the company’s previous repurchase authorization.

For the first nine months of the fiscal year, net sales were $3.61 billion, up 15% from the $3.13 billion reported the year before. Net income totaled $787 million, up 16% from a year ago, while earnings per share rose 19% to $2.67 from $2.24.

In China, where Coach is rapidly expanding to take advantage of the growing appetite for luxury goods, sales growth continued strong, up nearly 60%, driven by distribution growth and double-digit increases in comparable location sales. The company added five stores in China during the period, bringing its total to 85.

By comparison, same-store U.S. sales were up 6.7%. That’s a healthy increase in tough economic times but the real growth potential is clearly overseas, especially in Asia.

So what’s the problem? Analysts were concerned about a slowdown in Coach’s U.S. growth rate. While 6.7% may seem healthy, it was down from 8.8% in the previous quarter, in part because of slippage in key department store sales and the elimination of coupons in its factory stores.

That dip, combined with a general weakness in the broad market, was enough to reverse a long up-trend in the share price. By the time the slump ended on July 12, the shares were trading at $55.30.

They have since rallied, closing on Friday at $58.84. They look like good value at this level so if you have not already taken a position do so now. If you already own the stock, you may want to consider buying more to average down.

Action now: Buy.

Limited Brands (NYSE: LTD)

Originally recommended by Yola Edwards on Aug. 15/05 (#2531) at $24.24. Closed Friday at $46.31. (All figures in U.S. dollars.)

The last time I updated this stock, in the issue of April 9, I advised taking half-profits at $48.25 for a capital gain of 99%. That turned out to be good timing. The shares moved a little higher from there, closing on May 3 at $51.70. But then they went into a dive, falling to as low as $40.83 on June 27 before turning back up.

The pull-back came after the release of unimpressive results for the company’s fiscal first quarter (to April 28). Net sales were down slightly year-over-year, from $2.22 billion to $2.15 billion in the latest quarter. Net income in the current year was $124.6 million ($0.41 a share, fully diluted), down from $165.2 million ($0.50 a share) in the same period last year.

The company stated that it expects 2012 second quarter earnings per share to be $0.40 to $0.45 compared to adjusted earnings per share of $0.48 per share last year. For the full year, Limited Brands said it expects earnings per share of $2.63 to $2.83. This compares to adjusted earnings per share of $2.60 last year.

Limited Brands operates several well-known retailers including Victoria’s Secret, Pink, Bath & Body Works, La Senza, and Henri Bendel. The company operates 2,612 specialty stores in the United States and its brands are sold in more than 700 company-operated and franchised additional locations world-wide.

Action now: Hold.

Blue Ribbon Income Fund (TSX: RBN.UN)

Originally recommended on April 8/02 (#2214) at $10.20. Closed Friday at $10.79.

The share price of this closed-end fund is off from my last review in April, when it was trading at $11.40. This is due to the weakness we have seen in the stock markets since that time. However, the portfolio continues to look sound, with a mix of REITs, limited partnerships, income trusts, and converted trusts. Oil and gas stocks top the list at 26.8% of assets followed by pipelines, utilities, and infrastructure (19%), real estate (18.3%), industrials (12.1%), and materials (12%). There is a 7.9% cash position.

The fund continues to pay monthly distributions of $0.055 per unit ($0.66 per year) to yield 6.1% at the current price.

Action now: Buy.

 

YOUR QUESTIONS

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Market jitters

Q – We have about $80,000 invested in mutual funds. With what’s going on with the euro and the latest banking scandal in England, we are worried the economy is going to tank and we will lose everything. What I would like to ask is a) should we put everything into GICs and wait it out or b) buy gold and silver with it. If the latter, should we buy actual physical gold and silver, buy stocks in gold and silver companies, or buy it in coins. I know it’s not a lot of money, but it’s all we have for our later years. I appreciate any advice you can provide. – Mark C.

A – My first words of advice are to stop panicking. Before you do anything, take a close look at the mutual funds. What type are they? Are they all equity funds or do you have some balanced funds or bond funds in the mix, which will reduce your exposure to the stock market? You haven’t said what age you are but the closer you are to retirement, the lower your stock market exposure should be.

I certainly would not advise investing all your money in gold or silver. Both have been poor performers this year and the mining stocks have done even worse. Precious metals will do well when inflation heats up but we aren’t at risk of that happening any time soon.

GICs will give you peace of mind and if that is what this is all about, then fine. But with rates so low, you’ll do well just to keep pace with inflation, even though it is only 1.5% right now. – G.P.

Withholding tax

Q – Four months ago, I purchased 1000 shares of France Telecom on the New York Stock Exchange from within my RRSP. They paid a large dividend and 30% of that money was withheld. It is my understanding that the Canada/U.S. tax treaty is supposed to eliminate this withholding tax. To whom should I write to get the $300 back? Which establishment actually withholds the money and does the money go to the IRS? – Gord R.

A – Yes, the Canada-U.S. Tax Treaty exempts U.S.-source dividends paid to RRSPs and RRIFs from the 15% cross-border withholding tax that normally applies. That tax is collected by the government of the country where the corporation paying the dividend is domiciled.

However, France Telecom is not a U.S. company and the fact it trades on a U.S. exchange as an ADR does not change that. The Canada-U.S. Tax Treaty therefore does not apply. The withholding tax is determined by the country where the firm has its headquarters, in this case France.

Since the shares are in an RRSP, you can’t even claim a foreign tax credit for the amount paid. You may wish to consider selling them or swapping them out of the plan. – G.P.

ArcelorMittel

Q – I am trying to do a little research on ArcelorMittal (NYSE: MT) a stock you updated in IWB #21225. I went to the CIBC Investors Edge site and looked at the fundaments and found the p/e ratio is 30.07. Then I went to the BMO Investor Line Quotes and the p/e was shown as 5.48. Most of the other information seems to line up.

Both sites’ information appears to be current and I have not been able to trace the problem. This seems to happen quite often between these two sites. What am I missing? – John K.

A – The higher p/e ratio appears to be based on the trailing 12-month earnings. The lower figure reflects the forward p/e using analysts’ profit estimates. Normally there is not a huge gap between the two but Arcelor/Mittel is coming off a weak year. – G.P.

 

That’s it for this week. We will be back on July 30.

Best regards,

Gordon Pape
gordon.pape@buildingwealth.ca
Circulation matters: customer.service@buildingwealth.ca

All material in the Internet Wealth Builder is copyright Gordon Pape Enterprises Ltd. and may not be reproduced in whole or in part in any form without written consent. None of the content in this newsletter is intended to be, nor should be interpreted as, an invitation to buy or sell securities. All recommendations are based on information that is believed to be reliable. However, results are not guaranteed and the publishers, contributors, and distributors of the Internet Wealth Builder assume no liability whatsoever for any material losses that may occur. Readers are advised to consult a professional financial advisor before making any investment decisions. The staff of and contributors to the Internet Wealth Builder may hold positions in securities mentioned in this newsletter, either personally or through managed accounts. No compensation for recommending particular securities, services, or financial advisors is solicited or accepted.

In This Issue

GET USED TO IT

By Gordon Pape

After the crash of 2008-09, many economists said it would take years for the world economy to recover. It turns out they were right. Now you know why they call it “the dismal science”.

We are almost four years removed from the start of the plunge that came close to wiping out the global financial system and things are still in a mess. There have been some victories along the way, of course. We saved the banks (only to have them thank us by manipulating key interest rates). General Motors and Chrysler were pulled back from the brink. Massive stimulus by central banks rescued the world from recession and managed to spark tentative growth in key countries like the U.S.

But the reality is that we continue to pay the price for many years of excess and that is not going to end any time soon. The plain fact is that what we see is what we are going to continue to get for several years to come, so get used to it. In some ways, the 2010s are starting to resemble the 1930s, right down to the devastating drought conditions in the heart of the U.S. bread basket.

The July Monetary Policy Report released last week by the Bank of Canada was yet another indicator that anyone who still hopes for a quick turnaround is dreaming. Under the leadership of Governor Mark Carney, our central bank has gained an influence and respect in the international community that is completely disproportionate to Canada’s size and economic clout. When Mr. Carney talks, people listen – very carefully.

What he had to say last week with the release of the Report was not encouraging. In case you missed them, here are some of the key points.

1. The outlook for global growth has weakened since the Bank released its last report in April.

2. In China and other developing markets, the slowdown has been greater than expected.

3. Europe is slipping into recession.

4. Although commodity prices have dropped, they remain “elevated” – not encouraging news for our mining and energy sectors.

5. The Bank cut its growth projections for Canada to 2.1% this year, 2.3% in 2013, and 2.5% in 2014. Even those modest numbers have to be taken with a grain of salt since every recent forecast revision from the Bank has been downward.

6. Canada’s exports are expected to remain below their pre-recession peak until at least 2014.

One of the especially disquieting aspects of the Report is its forecast for oil prices going forward. The Bank of Canada does not believe that the current prices are going to hold, given a reduction in demand from major developing countries like China and India. It predicts that by the end of this year, the price for West Texas Intermediate (WTI) crude will be about US$87 a barrel and will stay around that level right through to the end of 2014. Brent North Sea oil, which has been trading at a premium to WTI, will fall from US$109 per barrel in the second quarter of this year to US$94 a barrel by the end of 2014.

Lower oil prices would be good news for consumers and would reduce inflation pressure. But they would squeeze the profits of oil producers and put a brake on new development. On the plus side, at least as far as exporters are concerned, lower oil prices would reduce manufacturing costs and put downward pressure on the loonie.

So what are we as investors to take away from all this? Here are some thoughts.

No rising tide. We are not likely to see a broadly-based bull market any time soon – no rising tide that will lift all boats. There will be opportunities to profit in the markets but you will have to be selective. Some of our recent picks that have been especially strong are Dollarama, Stella-Jones, Walmart, eBay, Linamar, Intact Financial, and Westport Innovations. Notice that not one of these is in the commodities sector.

Oil stocks will lag. We are unlikely to see any big upside move in oil stocks for the next few years. If anything, the pressure will be more to the downside if the Bank of Canada forecast is anywhere near right. Therefore, any investments in the oil patch should focus on low-cost producers (Mart Resources, which is recommended by Ryan Irvine elsewhere in this issue, had production costs of only $10.98 per barrel in the first quarter.) Look especially for companies that offer decent dividends that are sustainable if prices settle in the mid to high $80s.

Mining stocks are vulnerable. Most of the miners, with a few notable exceptions like the potash producers, are going to struggle for the next few years.

The TSX will trail the S&P. Without strength in the oil and mining sectors, the TSX will have a tough time making gains. If you want to invest in an index fund, one based on the S&P 500 will be a better choice.

Bonds still look good. I am sounding like a broken record on this but in the light of the Bank of Canada’s latest forecast I have to say it again: maintain a healthy portfolio allocation in bonds, especially high-quality corporate issues. Bonds have outperformed the TSX by a significant margin so far this year. The DEX Universe Bond Index was up 2.79% for 2012 as of the close of trading on July 19. The All Corporate Bond Index was doing even better with a gain of 4.19%. With the Bank of Canada likely to keep interest rates on hold until well into 2013, that pattern should continue.

In summation, we are unlikely to see any dramatic change in the current conditions for the next several months and, if we do, the risks are more to the downside. Plan accordingly.

 

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ARE THE SUMMER DOLDRUMS AN OPPORTUNITY?

We are joined this week by contributing editor Ryan Irvine, who reports that the West Coast is finally seeing some sun after weeks of rain and cold weather. That seems to have prompted a lot of financial people go off on holiday, joining their Eastern counterparts who have been basking in the heat all summer. And that, says Ryan, may create some market opportunities. Ryan is the CEO of KeyStone Financial (www.keystocks.com) which specializes in identifying high-quality small-cap stocks. Over to him.

Ryan Irvine writes:

Judging by the amount of auto-response e-mails from folks in the investment world these days, the so-called “summer doldrums” appear to have set in. For those that stand by the tired but oft used “strategy” to “sell in May and go away” it is time to forget your worldly cares and bask in the glorious sun of Muskoka or the Okanogan.

And, the story goes, junior portfolio managers – without seniority, vacation time, school-age children, or much in the way of discretionary authority – are left to mind the store.

It is a period in which the markets often see reduced volumes and potentially greater volatility because the transactions that are completed have a bigger than normal impact on the price of a stock. If you wanted to sell 1,000 shares of a stock, the order may not have a huge effect on the price if the company trades an average of 100,000 shares each day. If, however, trading volume falls 30% in the summer to 70,000, your order is going to have a more powerful influence on the price by pressuring it to fall as you sell your holdings or vice-versa on the buy side.

For those of us who watch the small-cap arena closely, the summer months are often a time when we can find bargains in the midst of lighter volumes as smaller companies are typically affected to a greater degree. Having said this, we are very wary of investing based on very broad, undefined, and simplistic strategies.

The origin of the “sell in May” strategy is British. The original saying was “Sell in May and come back on St. Leger’s Day,” which was the last race of the British horse racing season, held on the second Saturday in September.

Proponents of the strategy will point to the fact that the Stock Trader’s Almanac shows that the S&P 500 rose only 4.3% on average between May and October going back to 1926 and while gaining an average of 7.1% from November to April. To that we say that the act of selling in the face of historically broad positive returns, albeit less than those of the preceding six months, seems a tad strange. Given the alternative returns in T-bills, bonds, etc., why the rush to sell in the summer?

Remember, there are years when the markets do rally in the summer making stocks (from a broad perspective) more expensive by the time people return. Look no further to the summers of 2009 and 2010 when a “sell in May and go away” strategy would left you buying back in at significantly higher levels.

For us, it is more about what we buy or sell than a strategy dictated by a turn of a page on a calendar. There will always be individual stocks to sell and to buy in any market conditions. If we see the summer months producing some bargain hunting opportunities this year, we will certainly take advantage of the lighter volumes and buy some great names, but our analysis will stick to the individual company’s profitability, not the seasons.

In case the investing world has not noticed, there are plenty of better current arguments to sell the broader markets than seasonality. There’s a shroud of uncertainty over many major issues like U.S. tax reform, the impact of Obamacare, the U.S. debt ceiling, the so-called “fiscal cliff” at the end of 2012, the imminent U.S. presidential election, slowing growth in China, and, of course, Europe’s never-ending debt crisis.

But there are also reasons to buy a few select stocks. This month, we build a case for a relatively unknown oil and gas producer that is starting to gain significant market attention with strong cash flow and a recently implemented dividend policy that currently produces a strong yield. Details follow.

 

RYAN IRVINE PICKS MART RESOURCES

Mart Resources Inc. (TSX-V: MMT, OTC: MAUXF) is an independent international oil and gas company focused on production and development opportunities in the highly prolific Niger Delta region of Nigeria. The Umusadege Field in Nigeria’s Delta State is Mart’s core strategic asset. The company is currently producing and developing the field along with Midwestern Oil and Gas Co. Plc (the operator of the field) and SunTrust Oil Ltd.

Background: Nigeria is the largest oil and gas reserve base in sub-Saharan Africa with an estimated 30+ billion barrels (bbls) of oil and 180 trillion cubic feet (tcf) of gas. The country is the fourth largest oil supplier to the U.S. and recently concluded its most successful democratic election. Having said this, we consider the country to have an above average level of political risk which has contributed to the Speculative Buy rating.

Mart appears to be well-positioned for growth through further increases in Umusadege field reserves, gaining access to proven “marginal fields” to be awarded by the Nigerian government, and fields available via international oil companies’ divestures. Marginal fields, as defined by the Nigerian government are as follows;

1. Fields owned by major international oil companies and the state oil company (NNPC) which have remained non-producing for over 10 years.

2. Fields not under development due to marginal economics for major oil operators and high fiscal terms.

3. Exploration discoveries but no appraisal activities.

Umusadege was allocated under the Nigeria’s Marginal Field Program which was initiated in 2001. At the time there were over 130 fields identified for the program and by 2003, 24 of these “marginal fields” were allocated to indigenous companies. The conditions included considerably improved fiscal terms relating to taxes and royalties.

Umusadege is an onshore oil field. It is a multiple-horizon hydrocarbon reservoir situated in the North Central area of the Niger Delta basin. The field contains 13 known reservoirs.

The Umusadege farm out area (3,771 gross acres) was formally awarded to Midwestern Oil and Gas Plc. and SunTrust Oil on Feb. 25, 2003 at a ratio of 70:30 respectively. Mart entered into an agreement with Midwestern on April 27, 2006 and with SunTrust on May 22, 2006 which set out the commercial framework under which Mart participates in and provides technical and financial services to the two companies.

Under the terms of the agreements, Mart contributes to the development of the Umusadege oil field by providing funding of capital costs in exchange for an allocation of hydrocarbons discovered and produced. During the cost recovery phase, Mart is entitled to up to 65% of the production revenues remaining after deduction of royalties, Petroleum Profits Tax, operating costs, and abandonment obligations to recover its capital costs invested in the field development. The remaining 35% of production revenues are shared with half to Mart and half to Midwestern and SunTrust. Once Mart has recovered all of its capital costs, all production revenues remaining after the various deductions are shared 50-50. Mart was in and out of the recovery rates throughout 2010 and 2011.

A phased development plan was implemented using results from the initial wells and early field performance data to optimize the full development of this multi-reservoir field. Mart and its partners installed 10,000 barrels of oil per day (bopd) early production facilities (EPF) in 2008.

Six wells have been completed and are producing (UMU-1, 5, 6, 7, 8, and 9). Field production in May averaged over 11,800 (bopd). A permanent central production facility (CPF) has been installed to replace the EPF, with further expansion on-going to reach a capacity for the full field development of 30,000 – 35,000 bopd. Operating costs are substantially reduced with the CPF further enhanced and as production increases.

At present, Mart has an agreement in place with Nigerian Agip Oil Company (NAOC), the Nigerian operator of a pipeline, as the sole transporter of its oil from the Umusadege field. The single operator has led to some constraints in export pipeline capacity but a recent agreement to increase export capacity as well as the signing of an agreement to establish a second export pipeline for Umusadege field oil production should help mitigate this risk and allow for strong potential production growth.

Key recent developments: On June 27, Mart announced the updated results of independent evaluations of the company’s reserves effective March 31. Mart’s total gross proved (1P) oil reserves increased 24% to approximately 13.9 million bbls compared to 11.2 million bbls at Dec. 31, 2011. The company’s total gross proved plus probable (2P) oil reserves increased 29% to approximately 19.2 million bbls. Mart’s total gross proved plus probable plus possible (3P) oil reserves grew 14% to approximately 25 million bbls. The company’s net present value before tax of future net revenue, discounted at 10% from the 2P field reserves was US$927.4 million or over $2.75 per share (compared to US$782.4 million as at Dec. 31, 2011).

On June 21, Mart announced the signing of an agreement to establish a second export pipeline for Umusadege field oil production. Mart and its partners have been evaluating options to construct a new export pipeline to transport production. The pipeline, which is expected to take approximately one year to construct, will be owned and operated by a company owned in part by Mart and its partners. The cost of what will be known as the “Ogini Pipeline” is expected to be funded through a combination of equity contribution by the pipeline owners and third party project financing. At present, we estimate the total cost to be in the range of $35 million.

On June 28, Mart’s board of directors adopted a policy to pay quarterly dividends of $0.05 per share commencing in September, following the payment of a special $0.10 dividend on Aug. 8 – the stock is already ex-dividend. The dividends in the future are dependent on Mart’s cash flows, capital expenditure budgets, earnings, financial condition, and other factors, which is normal in such situations.

While the projected yield is just under 14%, we caution that with the volatility of the price of crude, the safety of this yield is not guaranteed and quarterly payments may fluctuate over time. That said, we are encouraged by this development as it appears to reflect management’s positive view of the sustainability of cash flow from Mart’s Nigerian operations. The payout ratio based on the company’s most recent quarterly cash flow of $0.16 per share is in the range of 32%.

Opportunity and risk: On the opportunity side, management believes the Nigerian government will come out with a statement within the next 2-3 months formally announcing another Marginal Field Allocation Program. The company believes another 20-30 fields will be allocated providing an excellent opportunity to grow.

However, tHhere is a long-awaited “petroleum industry bill” that could be enacted in the near future in Nigeria which some believe carries further risk for existing oil producers. Management is of the opinion that if Mart were a large multi-national oil producer involved in some of the offshore developments where the government is looking to increase the tax regime, this might be a risk. Because Mart operates under indigenous programs, the company already enjoys substantial fiscal benefits under the existing marginal field terms. The current draft of the petroleum industry bill has the potential to provide further fiscal relief to the company. We stress that this is just the opinion of Mart’s management team at this stage and we will not know any precise details until the final bill is enacted.

Conclusion: We were very impressed with the strong financial and operating results for the first quarter of the current fiscal year. They showed $38.2 million ($0.11 per share) in net income and operating cash flow of $0.16 per share. Clearly the company benefitted from increased production but we must also factor in the significantly higher oil prices at that time and the benefits of the increase in cost oil recovery from an average rate of 61.2% in last year’s first quarter to 82.5% this year. Production costs were a low $10.98 per barrel.

Factoring all of this in, we believe the company trades at an unrealistic discount to its peers given the growth of the Umusadege field’s production capacity. Management continues to work towards maximizing production and efficiency and significant steps have been taken towards building an additional export pipeline. A December agreement with NAOC to increase Umusadege’s share of the pipeline capacity in the near-term to 14,000 – 15,000 bopd combined with the prospective additional pipeline will significantly increase total pipeline capacity which should in turn substantially increase potential production and cash flow.

In fact, management has indicated that with the new pipeline and further success at the Umusadege field, in one year’s time Mart could be in position to produce in the range of 25,000 bopd. In addition, the design capacity of approximately 30,000 bopd is expected to be completed by the end of September this year. Combine this with the increases in reserve volumes detailed above and the potential the company could secure new marginal fields that are expected to be awarded in 2012 by the Nigerian government and the story becomes very intriguing.

From a valuation perspective, with a trailing (last 12 months) p/e ratio of just over 5.0 and trailing price-to-cash flow in the range of 4.0 the stock appears cheap. While the price of oil has dropped significantly since the company reported its latest set of quarterly numbers, it is important to note that Mart sells its light to medium oil at a premium to the Brent price which is currently in the range of US$107.50 versus the widely quoted WTI crude which is currently in the range of US$92.80. Of course, given the company’s geographic local, we consider the stock on the higher end of our risk profile. For those with above average levels of risk tolerance the risk/reward ratio is in our favour.

Action now: We are recommending Mart Resources for those with an above average level of risk tolerance as a Speculative Buy in its current $1.40-$1.55 range. The stock closed on Friday at C$1.47, US$1.46. U.S. readers should note that the stock is listed on the over-the counter Pink Sheets under the symbol MAUXF and is actively traded there with a daily volume of almost 140,000 shares.

Disclaimer: KeyStone and its employees own small positions in Mart Resources.

 

RRSP PORTFOLIO UPDATE

July isn’t normally a time when people think about their RRSPs, but it should be. Your RRSP portfolio should be reviewed at least twice a year, so this is a logical time to take a close look at how it’s performing and make changes as needed.

In February, we created an IWB RRSP portfolio that was composed of one ETF, three mutual funds, two limited partnerships, one REIT, and one common stock. The securities were:

iShares DEX Universe Bond Index Fund (TSX: XBB). Weighting: 30%. Initial price: $31.33.

Fidelity Canadian Large Cap Fund (FID231). Weighting: 20%. Initial price: $29.97 (B units).

Beutel Goodman American Equity Fund (BTG774). Weighting: 15%. Initial price: $7.83 (D units).

Mawer International Equity Fund (MAW102). Weighting: 5%. Initial price: $31.36. (Note: This was previously known as the Mawer World Investment Fund.)

Brookfield Renewable Energy Partners LP (TSX: BEP.UN). Weighting: 10%. Initial price: $27.43.

Brookfield Infrastructure Partners LP (TSX: BIP.UN, NYSE: BIP). Weighting: 10%. Initial price: $29.39.

Firm Capital Mortgage Investment Corp. (TSX: FC). Weighting: 5%. Initial price: $13.51.

Boardwalk REIT (TSX: BEI.UN). Weighting: 5%. Initial price: $54.75.

The opening value of the portfolio was $25,031.92.

Here is an update on how it has performed so far. Prices are as of the close of trading on July 19. For benchmarks, use the DEX Universe Bond Index, which was ahead 2.79% year-to-date as of July 19, and the S&P/TSX Composite Index, which was down 2.4% at that point.

IWB RRSP Portfolio (a/o July 19/12)

Security
Weight

Shares / units
Opening Value
Current Price
Current Value
Payments
% Gain / Loss
XBB
30%
240
$7,512.00
$31.71
$7,610.40
$104.09
+ 2.7
FID231
19%
167
$5,004.99
$29.44
$4,916.48
0
– 1.8
BTG774
14%
479
$3,750.57
$7.75
$3,712.25
0
– 1.0
MAW102
5%
40
$1,254.40
$31.23
$1,249.20
0
– 0.4
BEP.UN
10%
91
$2,496.13
$29.15
$2,652.65
$31.85
+ 7.5
BIP.UN
11%
85
$2,498.15
$33.89
$2,880.65
$63.75
+17.9
FC
5%
93
$1,256.43
$13.39
$1,245.27
$36.27
+ 2.0
BEI.UN
6%
23
$1,259.25
$62.05
$1,427.15
$17.83
+14.7
Totals
100%
$25,031.92
$25,694.05
$253.79
+ 3.7

Comments: Our portfolio is up 3.7% overall in the five months since it was launched. That’s a respectable return and beats both of our benchmarks.

All three mutual funds were a slight drag on the results and since they had a combined weighting of 40% at the outset that was significant. The iShares Universe Bond Index ETF (30% weighting) performed pretty much as expected with a gain of 2.7% including distributions. That just about matched the DEX Universe Bond Index.

The star performers were the limited partnerships and the REIT. Brookfield Infrastructure LP posted a capital gain of 15.3%. With two quarterly distributions added, the total return was 17.9%. Its stablemate, Brookfield Renewable Energy Partners, didn’t fare quite as well but its total profit of 7.5% (with only one distribution) was very acceptable.

Boardwalk REIT, Canada’s largest owner/operator of multi-family communities, turned in a capital gain of 13.3% and a total return with monthly distributions of 14.7%.

We see no reason to tinker with the portfolio at this stage. We will review it again next RRSP season unless something dramatic occurs in the interim. – G.P.

 

GORDON PAPE’S UPDATES

Coach Inc. (NYSE: COH)

Originally recommended on March 26/12 (#21212) at $77.09. Closed Friday at $58.84. (All figures in U.S. dollars.)

This glitzy retailer has gotten off to a bad start for us. The stock began a downward slide after the release of the company’s 2012 fiscal third-quarter results (to March 31) in late April. The numbers came in strong but apparently not strong enough to please investors.

The company, which is based in New York, said that year-over-year sales were up 17% to $1.11 billion. Net income for the quarter totaled $225 million ($0.77 a share, fully diluted). This compares to net income of $186 million ($0.62 a share) in the prior year’s third quarter, increases of 21% and 24%, respectively.

There was more good news for investors. The board of directors approved a 33% increase in the company’s dividend, to an annualized rate of $1.20 per share, starting with this month’s payment. As well, Coach announced it repurchased and retired 2.33 million shares of its common stock during the quarter at an average cost of $73.92 per share, spending a total of $172 million. At the end of the period, approximately $430 million remained under the company’s previous repurchase authorization.

For the first nine months of the fiscal year, net sales were $3.61 billion, up 15% from the $3.13 billion reported the year before. Net income totaled $787 million, up 16% from a year ago, while earnings per share rose 19% to $2.67 from $2.24.

In China, where Coach is rapidly expanding to take advantage of the growing appetite for luxury goods, sales growth continued strong, up nearly 60%, driven by distribution growth and double-digit increases in comparable location sales. The company added five stores in China during the period, bringing its total to 85.

By comparison, same-store U.S. sales were up 6.7%. That’s a healthy increase in tough economic times but the real growth potential is clearly overseas, especially in Asia.

So what’s the problem? Analysts were concerned about a slowdown in Coach’s U.S. growth rate. While 6.7% may seem healthy, it was down from 8.8% in the previous quarter, in part because of slippage in key department store sales and the elimination of coupons in its factory stores.

That dip, combined with a general weakness in the broad market, was enough to reverse a long up-trend in the share price. By the time the slump ended on July 12, the shares were trading at $55.30.

They have since rallied, closing on Friday at $58.84. They look like good value at this level so if you have not already taken a position do so now. If you already own the stock, you may want to consider buying more to average down.

Action now: Buy.

Limited Brands (NYSE: LTD)

Originally recommended by Yola Edwards on Aug. 15/05 (#2531) at $24.24. Closed Friday at $46.31. (All figures in U.S. dollars.)

The last time I updated this stock, in the issue of April 9, I advised taking half-profits at $48.25 for a capital gain of 99%. That turned out to be good timing. The shares moved a little higher from there, closing on May 3 at $51.70. But then they went into a dive, falling to as low as $40.83 on June 27 before turning back up.

The pull-back came after the release of unimpressive results for the company’s fiscal first quarter (to April 28). Net sales were down slightly year-over-year, from $2.22 billion to $2.15 billion in the latest quarter. Net income in the current year was $124.6 million ($0.41 a share, fully diluted), down from $165.2 million ($0.50 a share) in the same period last year.

The company stated that it expects 2012 second quarter earnings per share to be $0.40 to $0.45 compared to adjusted earnings per share of $0.48 per share last year. For the full year, Limited Brands said it expects earnings per share of $2.63 to $2.83. This compares to adjusted earnings per share of $2.60 last year.

Limited Brands operates several well-known retailers including Victoria’s Secret, Pink, Bath & Body Works, La Senza, and Henri Bendel. The company operates 2,612 specialty stores in the United States and its brands are sold in more than 700 company-operated and franchised additional locations world-wide.

Action now: Hold.

Blue Ribbon Income Fund (TSX: RBN.UN)

Originally recommended on April 8/02 (#2214) at $10.20. Closed Friday at $10.79.

The share price of this closed-end fund is off from my last review in April, when it was trading at $11.40. This is due to the weakness we have seen in the stock markets since that time. However, the portfolio continues to look sound, with a mix of REITs, limited partnerships, income trusts, and converted trusts. Oil and gas stocks top the list at 26.8% of assets followed by pipelines, utilities, and infrastructure (19%), real estate (18.3%), industrials (12.1%), and materials (12%). There is a 7.9% cash position.

The fund continues to pay monthly distributions of $0.055 per unit ($0.66 per year) to yield 6.1% at the current price.

Action now: Buy.

 

YOUR QUESTIONS

Market jitters

Q – We have about $80,000 invested in mutual funds. With what’s going on with the euro and the latest banking scandal in England, we are worried the economy is going to tank and we will lose everything. What I would like to ask is a) should we put everything into GICs and wait it out or b) buy gold and silver with it. If the latter, should we buy actual physical gold and silver, buy stocks in gold and silver companies, or buy it in coins. I know it’s not a lot of money, but it’s all we have for our later years. I appreciate any advice you can provide. – Mark C.

A – My first words of advice are to stop panicking. Before you do anything, take a close look at the mutual funds. What type are they? Are they all equity funds or do you have some balanced funds or bond funds in the mix, which will reduce your exposure to the stock market? You haven’t said what age you are but the closer you are to retirement, the lower your stock market exposure should be.

I certainly would not advise investing all your money in gold or silver. Both have been poor performers this year and the mining stocks have done even worse. Precious metals will do well when inflation heats up but we aren’t at risk of that happening any time soon.

GICs will give you peace of mind and if that is what this is all about, then fine. But with rates so low, you’ll do well just to keep pace with inflation, even though it is only 1.5% right now. – G.P.

Withholding tax

Q – Four months ago, I purchased 1000 shares of France Telecom on the New York Stock Exchange from within my RRSP. They paid a large dividend and 30% of that money was withheld. It is my understanding that the Canada/U.S. tax treaty is supposed to eliminate this withholding tax. To whom should I write to get the $300 back? Which establishment actually withholds the money and does the money go to the IRS? – Gord R.

A – Yes, the Canada-U.S. Tax Treaty exempts U.S.-source dividends paid to RRSPs and RRIFs from the 15% cross-border withholding tax that normally applies. That tax is collected by the government of the country where the corporation paying the dividend is domiciled.

However, France Telecom is not a U.S. company and the fact it trades on a U.S. exchange as an ADR does not change that. The Canada-U.S. Tax Treaty therefore does not apply. The withholding tax is determined by the country where the firm has its headquarters, in this case France.

Since the shares are in an RRSP, you can’t even claim a foreign tax credit for the amount paid. You may wish to consider selling them or swapping them out of the plan. – G.P.

ArcelorMittel

Q – I am trying to do a little research on ArcelorMittal (NYSE: MT) a stock you updated in IWB #21225. I went to the CIBC Investors Edge site and looked at the fundaments and found the p/e ratio is 30.07. Then I went to the BMO Investor Line Quotes and the p/e was shown as 5.48. Most of the other information seems to line up.

Both sites’ information appears to be current and I have not been able to trace the problem. This seems to happen quite often between these two sites. What am I missing? – John K.

A – The higher p/e ratio appears to be based on the trailing 12-month earnings. The lower figure reflects the forward p/e using analysts’ profit estimates. Normally there is not a huge gap between the two but Arcelor/Mittel is coming off a weak year. – G.P.

 

That’s it for this week. We will be back on July 30.

Best regards,

Gordon Pape
gordon.pape@buildingwealth.ca
Circulation matters: customer.service@buildingwealth.ca

All material in the Internet Wealth Builder is copyright Gordon Pape Enterprises Ltd. and may not be reproduced in whole or in part in any form without written consent. None of the content in this newsletter is intended to be, nor should be interpreted as, an invitation to buy or sell securities. All recommendations are based on information that is believed to be reliable. However, results are not guaranteed and the publishers, contributors, and distributors of the Internet Wealth Builder assume no liability whatsoever for any material losses that may occur. Readers are advised to consult a professional financial advisor before making any investment decisions. The staff of and contributors to the Internet Wealth Builder may hold positions in securities mentioned in this newsletter, either personally or through managed accounts. No compensation for recommending particular securities, services, or financial advisors is solicited or accepted.