Downside from here is much smaller than upside
There are some unique opportunities in every investment market, and we’re not talking about artificial intelligence and lithium mining here, but the joys of some sources of high income.
Some of these vehicles are better known than others, but each brings a different yield and has a different risk profile.
High-interest savings funds and ETFs
There’s no need to lock money in a guaranteed investment certificate when you can access funds daily and still earn around 4.5 per cent for Canadian cash and five per cent on U.S. cash. Purpose Investments Inc., Ninepoint Partners LP, CI Financial Corp., Horizons ETFs Management Inc. and others all offer this option as the modern equivalent to a money market fund.
This is a great option for corporate money that is often sitting in bank accounts earning zero, but also a good option for personal money as well. If interest rates fall, these returns will fall, but we don’t see that happening for several months.
Specifically, those that generate yields to maturity in the range of 4.5 per cent to 5.5 per cent.
One that we own is a Laurentian Bank of Canada bond that comes due June 3, 2024. It has an annualized yield to maturity in 13 months of 5.35 per cent. There are many others that will yield in this range from fairly solid companies with maturity dates in the six-to-24-month range.
Specifically, those that generate yields to maturity in the high six-per-cent range for reasonable risk.
The Canadian high-yield universe is small (43 bonds) and yields 7.47 per cent on average, but this is impacted by some larger distressed issuers.
A couple that are interesting and maybe a little lower risk are the Parkland Corp. 4.375-per-cent, March 26, 2029, bond that is yielding 6.78 per cent, and the Cascades Inc. 5.375-per-cent, Jan 15, 2028, bond that is yielding 6.75 per cent in U.S. dollars.
These can generate dividend income with yields in the range of 5.75 per cent to 6.9 per cent. One that we use is a George Weston Ltd. straight preferred that pays 6.15 per cent. Straight preferred means it pays a fixed dividend that doesn’t move or get reset over time.
Another one is a BCE Inc. rate reset preferred share that has a current dividend yield of 6.86 per cent. A rate reset usually means the dividend will be adjusted every five years based on the five-year Bank of Canada rate plus a specific rate.
Beaten down REITs and MICs
Some real estate investment trusts and mortgage investment corporations are yielding nine per cent to 11 per cent. Some examples might be Timbercreek Capital Corp., a publicly traded MIC whose stock price is down almost 15 per cent over the past year and is currently yielding 8.94 per cent.
Northwest Healthcare Properties REIT’s stock price is down almost 39 over the past year and is now yielding 10.04 per cent. And Ares Capital Corp. is a U.S. business development company that focuses on private lending. Its stock price is down more than 12 per cent in the past year and is now yielding 10.64 per cent.
Many capital market arms of the banks and insurers put together specialized structured products that yield 9.2 per cent to 13.2 per cent. These can cover off a wide range of investments.
For example, you can earn 9.2 per cent annually (interest paid monthly) as long as the S&P/TSX Capped Utilities index is trading no worse than negative 30 per cent. The utilities index mostly holds hydroelectric names such as Hydro One Ltd. and Fortis Inc., and has been among the more secure parts of the stock market.
Moving up the risk curve, you can buy a similar investment that pays 13.2 per cent annually (paid monthly) connected to the S&P/TSX Banks index. This yield will be paid out as long as the index is trading no worse than negative 20 per cent. It is quite rare for the utilities index to be down 30 per cent, but it is not so rare for the banking index to be down 20 per cent.
As you can see from this list, high yields are available. As the yields get higher, the risk level tends to increase, so it is important to truly understand the risks on these investments so that you are going in with your eyes open.
At the same time, high yield is sometimes more a function of buying in at the right time. There is another high-income investment that is a bit of a touchy memory for some.
In the fall of 2008, you could buy Bank of Montreal common stock with an 11-per-cent yield. It just so happened that the capital gains were great as well. The banks even offered bonds with 100-year terms to maturity that had a 10-per-cent coupon rate or more. The risk at the time was that fear levels were so high, most people wanted to simply hold cash. As it turns out, these were tremendous bargains with high yields.
At the moment, we don’t know exactly where we are in the market cycle. That can only be answered in a couple of years when looking back. But there are better yields out there today than there have been for a long time.
Will interest rates keep going higher or have we reached a peak? We think we are close to a peak. Have mortgage lenders and certain REITs been beaten down to where they are now a great value, or do they still have more pain ahead? If there is more pain ahead, we think the downside from here is much smaller than the upside.
Sometimes, you don’t have to time things perfectly; you just have to be directionally correct. It is starting to feel like this current investment market is providing us with a high-yield window that may be around for a period of months, but these don’t tend to last for too long.
Reproduced from Financial Post, May 9, 2023 .