November Transactions - 2 Buys and 1 Sale

November further proved my tendency to conduct bunched buying and sporadic selling as I made two buys and one sale within the same week (November 7th - 11th). Before long-time readers question if I have changed my investment thesis on Alaris Royalty, as explained below, I merely trimmed my position inside of my RRSP to overweight from extremely overweight.

Buy #1 - Keg Royalties Income Fund (TSE: KEG.UN)

After flirting with the Keg Royalties Income Fund by buying and selling shares for a quick profit on September 30th, I made the commitment to initiate a half position in KEG.UN on November 7th. Among the reasons I purchased shares in the Keg for the long-term are the two dividend raises and special dividend within the last 12 months, the attractive 5.5% initial yield, and the fact I thoroughly enjoy eating at their restaurants. I also feel my investment in the Keg provides some diversification to my holdings of the A&W Revenue Royalties Income Fund and McDonald's Corporation as the Keg is more of an upscale establishment.

Buy #2 - Enercare Inc. (TSE: ECI)

As I let slip in my recent post 11 Canadian Dividend All-Stars with 10%+ Dividend Growth, I deployed some capital in my unregistered account on November 11th to initiate a half-position in Enercare Inc. After looking through their Q3 results released on November 10th, I noted their integration of Service Experts in the US was proceeding well and that their free cashflow remained strong. Having experienced some HVAC issues over the summer, I have first hand experience with Enercare's highly profitable and dependable business model (renting, servicing, and selling hot water tanks and air conditioning units in Canada and the US). I was completely comfortable initiating my position at a 5% yield for this monthly dividend payer that grew their dividend by 10% in 2016.

Sale #1 - Alaris Royalty (TSE: AD)

On November 8th, I sold some shares of Alaris Royalty in my RRSP in order to trim my position from extremely overweight to merely overweight. Depending on the day, Alaris is still my largest position, although Telus is a frequent challenger. One of the main reasons I am planning to slowly trim my position in Alaris within my RRSP is to free up cash to take advantage of what I hope will be a large sell-off in US REITs when the Federal Reserve increases the interest rate in December. The other key reason is that I am trying to diversify my holdings so that one position doesn't account for a disproportionately large amount of my dividend income. Despite some recent difficulties with a few of their partner companies, Alaris still remains one of my favorite holdings due to the diversification it provides me (~15 partner companies in various sectors throughout North America), a management team that has a history of delivering strong results including impressive dividend growth, and a business model that sees it receive returns in the 15% range from partners in contrast to its 5-8% cost of capital.

My investment holdings page has been updated to reflect my three November transactions. If I was to venture a guess, I think December will likely see a similar level of activity for me as I look to deploy some capital in my unregistered account and anxiously await a sale on US REITs in the event of a rate hike.


What transactions did you undertake in November???

11 Canadian Dividend All-Stars with 10%+ Dividend Growth

One of my greatest challenges as a dividend growth investor is selecting companies that have a sustainable competitive advantage that allows them to grow their revenues and earnings in order to consistently deliver dividend growth.  As my largest holding, Alaris Royalty, has proven this year, an impressive history of dividend growth does not eliminate the probability of going through difficult times that impair a company’s ability to grow their payout.  

With that in mind, I thought it would be beneficial to look at the Canadian dividend all-stars with at least a 5 year history of increasing their payouts, to see which companies increased their dividend by double digits over the past 12-months.  Given my investment philosophy of focusing on companies with at least a 3% dividend yield, I narrowed down the results by adding that minimum yield filter. For those wondering why 3%, I feel that it compensates for inflation while removing companies whose management might not consider it important to return a meaningful percentage of their profits to shareholders.  The resulting screen yielded 11 companies, including two that I eliminated as potential holdings due to factors outlined below.

One company I quickly excluded was Pason Systems Inc. which provides data management systems to oil drilling rigs. A look at their last seven quarters of financials clearly demonstrates the company is having a difficult time adapting to the falling price of oil and decreased drilling activity in Canada. Given the negative payout percentage and TTM P/E multiple, this company could easily be cast aside as too difficult to further analyze. Likewise, with a a 228% payout ratio and 55X P/E multiple, Nevsun, a mining and exploration company, does not strike me as a candidate for further research.

Gluskin Sheff, a provider of wealth management services to high income individuals and institutions is an intriguing organization. Not only has their regular quarterly dividend grew steadily, they also pay a special dividend once a year. That said, I am a long-term pessimist for active wealth management firms given the structural shift toward passive investing.

My investment holdings include Enbridge Income Fund, Enercare (a recent purchase), Emera, and Enbridge Inc. I have owned Canadian Utilities in the past, but find the current P/E a tad high, especially when also taking their 87% payout ratio into consideration. Algonquin Power & Utilities has long peaked my interest, and with their share price about a dollar cheaper than it was on October 31st, it is definitely on my "future considerations" list. 

Sadly for me, Evertz Technologies and Agrium both operate in industries outside of my circle of competence. Of the two, I find Evertz more appealing given the lower P/E, longer dividend growth streak, and less reliance on commodity prices outside of the firm's control. That said, there is definitely a customer risk given Evertz sells into the Canadian television broadcast and media industries, which are constantly in search of ways to cut costs in order to remain competitive.

Which of the 11 companies above interests you the most for potential investment? 

The Canadian "TULF" Dividend Growth Portfolio

There was an interesting article in The Globe and Mail a couple weeks ago introducing readers to the Canadian "TULF" Dividend Growth Portfolio. Personal finance columnist Rob Carrick suggests readers follow the guidance of Tom Connolly when constructing a portfolio of quality Canadian dividend growth stocks. For those of you not familiar with Tom Connolly, he has published The Connolly Report investment newsletter since 1981 and is perhaps the best known dividend growth guru in Canada. Mr. Connolly suggests readers focus on telecoms (T), utilities (U), low-yielding dividend stocks with growth potential (L), and financials (F) to construct their Canadian "TULF" Dividend Growth Portfolio. 

In order to ensure that the companies selected are of the highest quality, Tom instructs investors to limit themselves to the 75 dividend-paying stocks in the S&P/TSX dividend aristocrats index. Next Mr. Connolly suggests eliminating any “high yield” stock with a payout over 6% (currently 9 stocks are "high yield"). Lastly, cyclical stocks (i.e. energy and mining) are off the table as they are perceived to be too risky for a dividend investor (currently 17 stocks from energy and mining sectors). 

By now you’re probably wondering which types of the remaining 49 companies meet all of Mr. Connolly’s criteria to include in the "TULF" portfolio. Here are some examples cited in the article:

Telecoms – BCE, Rogers and Telus

Utilities – Fortis, Emera and Canadian Utilities Ltd.

Low-yielders – Canadian National Railway Co. and Metro Inc.

Financials – The big 6 Canadian banks (RY, TD, BMO, BNS, CM and NA)

Granted, I’m likely not the target audience that Mr. Connolly is looking to attract to his newsletter by offering his advice is in the article, but I can quickly identify some rather serious drawbacks with his theory of dividend growth portfolio construction. 

1. Lack of sector and geographical diversification

Once you’ve filled up your portfolio with telecoms (4 candidates), utilities (5 candidates), and financials (12 candidates), you're left trying to identify low-yielders with above average dividend growth potential in the 28 remaining companies. Since Mr. Connolly fails to define what he considers a low-yielding company, it's fair to focus on the lower yielding half of the 28 remaining companies in search of candidates that would provide above-average dividend growth and sector diversification. 

Although a couple of the larger utility companies and financial firms that Tom recommends have exposure outside of Canada, limiting a portfolio to TULF companies would expose you heavily toward the small, resource-centered Canadian economy. Personally, I aim  to keep at least 30% of my investment capital dedicated to international equities in order to provide better geographical diversification.

2. Identifying low-yielders who can and will grow their dividends quickly is difficult and not necessarily relevant

Accurately identifying low-yielders who can continue to grow their dividends at a fast rate for an extended period of time is as difficult as timing the market. These special types of companies are even harder to find in the small and often domestically focused Canadian market. Furthermore, I have yet to see a valid case made from a mathematical standpoint of why including low-yielders in a portfolio is necessary. Assuming you get very lucky and select a company currently yielding 1.0% that can grow dividends at 20% for 10 years, your yield on cost would grow to 6.2% at the end of the period. In contrast, if you pick a company currently yielding 5%, that grows their dividend by a paltry 2% over 10 years, you end up with the same yield on cost of 6.2%.

3. Energy vs Utility Companies?

While Mr. Connolly suggests removing cyclical stocks such as energy and mining companies, he goes onto say TransCanada (classified in the Energy sector) was the first stock he owned. I also find it odd he advises against including energy companies and yet dedicates a whole category for utilities. There are blurry lines and high correlations between energy and utility companies. For instance, Enbridge Inc is classified in the index as an Energy company which would make it ineligible for the TULF portfolio. However, living in Quebec, Enbridge is viewed as a utility company by its many natural gas customers who pay their monthly bill to Enbridge subsidiary Gazifere. By discounting an entire category of companies he deems to be cyclical, Mr. Connolly leaves the investor with an even smaller potential universe of companies from which to select. 

Although there are some flaws with his advice, Mr. Connolly’s strategy of using high quality companies to form the base of a dividend growth portfolio is a good starting point. Like any investment strategy, it should be tailored to meet the needs of the individual investor, and not taken as gospel. 

Does your portfolio include all of the TULF components? 

November 2016 Dividend Growth Stock Considerations

Although October started quickly for me as I initiated new positions in the A&W Revenue Royalties Income Fund, Emera Inc and Life Storage Inc, the remainder of the month was calm.  Perhaps I was overwhelmed after three quick purchases, and became reluctant to start another round of bunched buying. As my cash positions continue to build in all three of my investment accounts, here are some companies that are especially interesting to me heading into November.

Canadian Companies: 

After establishing a half-position in Emera Inc. (TSE: EMA) last month, I am already considering adding to my holding. Currently, Emera seems like a steal at a trailing 12-month P/E multiple of 14.5X, yielding 4.5%, and having announced a 10% dividend increase late last summer. With Q3 earnings slated to be announced on November 8th, I will be listening with anticipation for signals that it's time to increase my position in my only pure utility play.

Beside the revenue royalty shares in the Keg (TSE: KEG.UN) and Boston Pizza (TSE: BPF.UN), which I have covered in multiple past monthly watch lists, I am keeping an eye on Enercare Inc (TSE: ECI). This investment grade rated (BBB/Stable) provider of rented hot water tanks and HVAC services yields an attractive 4.8% (recently increased by 10%) and derives about a quarter of its revenue from the United States. My main stumbling block on Enercare is I am having a tricky time valuing it appropriately. Using a P/E or FFO measure indicate the shares are quite costly, but that might be due to a recent material acquisition that I am having a hard time accounting for in my cashflow forecasts.

United States Companies: 

The recent sell-off in US REITs is fascinating to me. As a long-term investor, I question how a possible 0.25% hike in interest rates would cause a 10-25% drop in the value of a given REIT business model. Despite the Canadian dollar being at a year-long against the US dollar, if the US REIT markets continues its slump, I am very open to adding to any and all of my US REIT holdings. The most likely recipients of increased investments would be Life Storage Inc (NYSE: LSI) and  Iron Mountain (NYSE: IRM).  Although I love Realty Income (NYSE: O), it still seems pricey from a P/FFO perspective at its current price. As attractive as Omega Healthcare (NYSE: OHI) looks from a valuation perspective, I'm happy with the current size of my position and am not actively looking to add to it.

In terms of US companies which I do not currently own and would consider initiating small positions, Tanger (NYSE: SKT), Digital Realty Trust (NYSE: DLR) and AbbVie (NYSE: ABBV) are all entering very attractive valuation territory. Although it's unlikely I would initiate another position in a US stock before the end of the year, any sustained weakness in the above three names might provide the catalyst I need to seriously consider initiating a position.

Instead of asking which stocks interesting you heading into November 2016, I'm particularly curious if there are any Canadian dividend growth stocks you are looking at closely given their current prices? Thanks in advance for sharing your ideas.