Syndicated content in Finance & Business

October insider trading highlights

Reviewing October insider trading data provided by INK Research, one theme was noticeable: selling by insiders in the oil patch. Perhaps the kerfuffle over royalties in Alberta was the straw that caused several directors and executives to take profits on shares. Two senior Canadian oil & gas firms, Canadian Natural Resources (CNQ) and Encana (ECA), have experienced noteworthy insider selling since mid-September. At CNQ, five insiders, including CEO Stephen Laut, sold $3.5-million worth of stock. At Encana, two directors and an officer sold over $3-million worth of stock. There was selling elsewhere in the sector too. A director at Peyto Energy Trust (PEY.UN), a natural gas producer, sold 10,000 units at $17.70 on Sept. 28. The chief financial officer of Bonavista Energy Trust (BNP.UN) sold 83,600 trust units from September 25 to 27 at prices between $29.30 and $29.40 (he still owns 720,575 units plus 4-million exchangeable shares). INK Research also spotlighted junior resource companies with insider buying. The more significant ones included: Luna Gold Corp (LGC), Petaquilla Minerals (PTQ), NFX Gold (NFX), Golden Band Resources (GBN), Vault Minerals (VMI), Zeox (ZOX), Kodiak Exploration (KXL), and Condor Resources(CN).

The sanctuary of government bonds

The subprime crisis has flared-up and again is buffeting world stock markets (see the excellent report “Fresh Credit Worries Grip Markets” on page one of the Wall Street Journal). While we might feel uncertain about how the Canadian financial sector, economy, and stock market will be affected ultimately, one thing that seems reasonably certain is that Canadian inflation and interest rates are poised for substantial downturns. If so, federal and provincial government bonds would be good assets to own. Lower inflation and interest rates are supportive of this asset class, and if a full-blown financial crisis erupts, there should also be a flight to low-risk, quality assets.  Inflation is ready to plunge because the soaring loonie dramatically cuts the price of imports and increases purchasing power abroad. As more and more Canadians cross the U.S. border to buy clothing, electronics, autos, etc. at 25% to 40% discounts, Canadian retailers will feel pressure to slash their prices – especially after inventories bought earlier at higher currency rates are sold off. Interest rates are likely to come down too on the long end because of falling inflation expectations and on the short end because of cuts to the Bank of Canada’s rates. The central bank will should begin to feel the need to lower its rates  to rein in the soaring loonie (i.e. by reducing capital inflows). Lower domestic inflation rates will give it permission to do so. My plan is to increase portfolio weights for government bonds, if only to have more of a hedge (my preference is for a ladder of strip bonds in the RRSP account).  The funds to buy will come from the 30-day or cashable GICs that have been piling up.  We’ve had some great rates near 4.5% on the latter, but I anticipate they will likely be coming down in months ahead.

A peek inside Contra the Heard newsletter

The third-quarter edition of the Contra the Heard investment newsletter came out recently and the editors, The Contra Guys, report no activity once again. Their lack of buying and selling, they say, is reminiscent of their trading “slowdown” around the millennium, when the tech bubble and high stock markets nudged them into cash preservation mode. As for their existing holdings, they seem to be taking a bit of a drubbing.  Four stocks on which they averaged down are bucking their normally positive experience with this contrarian technique. The four are: AbitibiBowater (A), Kelman Technologies (KTI), Cygnal Technologies (CYN), and Analysts International (ANLY), Kelman Technologies and Analysts International are still listed as buys by the advisory. AbitibiBowater and Cygnal were moved from buys to holds. They have soured a bit on Cygnal; in fact, they say they wished they had sold Cygnal when the last financing deal was arranged with last-resort lender, Laurus. Have the Contra Guys lost their touch? Time will tell. But if the past is any guide, a lackluster year will usually be followed by a “boffo” year. The out-of-favor, small-cap companies in their portfolio are quite volatile and can shoot up (or down) darned fast.

Tax-loss selling

Contrarian and value investors often wait to buy their out-of-favor stocks in December because that’s the time tax-loss selling makes them even greater bargains. If you have contrarian instincts, perhaps it’s worthwhile doing some research on stocks near their 52-week lows now to see if their fundamentals would justify purchase in December. Here is a list of some large-cap stocks on the Toronto Stock Exchange presently selling near their 52-week lows. Precision Drilling Trust (PD.UN)Loblaw Companies Ltd. (L)Newalta Income Fund (NAL.UN)AbitibiBowater Inc.  (ABH)Canfor Corp. (CFP)George Weston Ltd. (WN) West Fraser Timber Co.. (WFT)Ensign Energy Services Inc. (ESI)Highpine Oil & Gas Ltd. (HPX)Compton Petroleum Corp. (CMT)Alimentation Couche-Tard Inc (ATD.B or ATD.A)Extendicare Real Estate Investment Trust (EXE.UN)Mullen Group Income Fund (MTL.UN)EPCOR Power L.P. (EP.UN)RONA Inc. (RON)Reitmans (Canada) Ltd. (RET)

A $1.10 loonie and what to do about it

It’s incredible. The Canadian dollar reached $1.10 (U.S.) in trading last night. Having lived through the era of a $0.65 (U.S.) loonie, I’m truly astonished to see the heights to which our currency is soaring. And now, with oil, gold, wheat and other commodities on meteoric paths upwards, analysts think the bird could go even higher. Consequently, it now looks more certain that the downside risk for the Canadian economy has become material (see my Oct 19 post, Soaring loonie ready to bite, for more details). It also looks more certain that inflation and interest rates will be tumbling in Canada (see my Nov.2 post, The sanctuary of government bonds, for more details). One thing investors can do is go shopping for U.S. financial assets. The soaring loonie has dramatically boosted Canadian’s purchasing power for anything denominated in U.S. dollars. But what to buy? If you have a passive, low-cost approach to investing, you could consider broad-based U.S. exchange traded funds (ETFs) with ultra low management expense ratios (MERs). Three main ones are: 1. Vanguard Total Stock Market ETF (VTI) has a MER of 0.07%2. SPDRs Total Market DJ Wilshire 5000 (TMW) has MER of 0.2%3. iShares Russell 3000 ETF (IWV) 98% of market and MER of 0.2% The PowerShares QQQ (QQQQ) might be of interest too if you believe in history repeating. This technology-laden ETF should perform well if the 2000s turn out to be like the 1990s, as some analysts are expecting.  That is, with the subprime crisis now compelling the Federal Reserve to slash interest rates, it could be like the 1997-1998 financial panics (Asia, Russia, and Long Term Capital Management) that led to the Fed pumping up the economy to stave off financial meltdowns. U.S. corporations presently have quite healthy balance sheets and further stimulus will only give them even bigger budgets for spending on capital goods.

1 in 3 mutual fund investors overcharged (II)

The academic paper by Martijn Cremers and Antti Petajisto (see previous post) seems to be rather important judging from the extensive coverage it has received so far in the Financial Times of London, Wall Street Journal, and other financial media. It’s worth expanding on a few more points. What makes their study rather unique is the active share approach of comparing relative weights between portfolios and indexes to assess the degree of active portfolio management. This seems like an obvious way to do it but until now, the prevailing method was “tracking error,” or the degree to which the fund’s performance diverged from the index. Their study, using data for 2,000 U.S. mutual funds from the 1980s to mid-2000s, found: 1) active shares currently range from 30% to 100% for U.S. mutual funds, with large-cap funds averaging 66% (or 1/3 indexed) and 2)  almost all funds were close to 100% active management back in the 1980s but by the 2000s, nearly a third had an active management ratio near 30% (which Cremers and Petajisto appear to consider closet indexing and guilty of overcharging unit holders).  Although the authors shift focus away from tracking error as a yardstick, they don’t abandon it entirely. In fact, it plays an important role in their grouping of mutual funds and subsequent formation of hypotheses. They use tracking error to distinguishing between two types of active managers. The “diversified stock pickers,” who pick stocks subject to the constraint of having their sector weights match the index’s sector weights, tend to have low tracking errors. The funds that actively pick stocks without this constraint tend to have large tracking errors. The best funds to own, say  Cremers and Petajisto, are from the latter group of high active shares (95% or more) and high tracking errors. Examples of funds fitting this description in the U.S. are Oakmark Select Fund and Longleaf Partners Funds. Other funds with high active share readings but low tracking error are not as desirable -- although apparently more desirable than the funds with low active readings and tracking error.

Enhance your house value with this tool

Having sold our house recently (with a closing date of next spring), my wife and I are now going through the design process for the new house being built for us. I just came across an impressive visualization tool online that makes things less onerous and more likely to result in a look we will be happy with. It is also a great tool for people thinking about renovating rooms in their existing house. You can download a picture of a room and use the customizing facility to see what it would look like with different flooring, area rugs, and wall/trim colors. It’s free and available at the Web site of Shaw Industries Group Inc. (which incidentally is a Berkshire Hathaway Company). Once you are on the homepage, click on the section titled Try on a Floor. If you are designing a new house like us, you can go to the Idea Gallery and select a picture of a room to see what it would look like with different types of flooring, area rugs, and colors. The flooring and rugs can be rotated, the picture enlarged, and favorites saved to your personal file. The visual tool is provided as part of Shaw Industries’ marketing of its floor products. But the customizable images feature the whole room, so you get quite a good sense of what a room would look like.

Subprime: dark clouds and silver linings

The bad news may not be over just yet for the subprime crisis. Citibank, Merrill Lynch and other big U.S. investment banks have so far written off about $30 billion (U.S.) in mortgage-related assets but another$30 billion (U.S.) is to come according to projections by Citigroup and JP Morgan analysts. And E-Trade’s announcement yesterday of write-offs is likely to be the front-end of a parade of write-downs to come from other financial institutions. All in all, the total potential, estimated by “marking to market” the universe of mortgage-backed securities with the ABX indexes, would be in the $200- to $250-billion (U.S.) range. Also worrisome is the collapse in the stock prices of firms that insure debt obligations. Shares in MBIA (MBI) and Ambac Financial (ABK) are down approximately 60% and 80%, respectively, year to date -- with most of the plunge coming since September. If their guarantees of mortgage-backed securities were to be devalued by deterioration in their financial capacity and creditworthiness, further pressure could ensue. There are a few rays of light. The Bank of America, Citigroup and JP Morgan, agreed on Nov. 9 a $75-billion (U.S.) fund to stabilize credit markets. Also the panic seems tailor-made for Warren Buffett to capitalize on, as a Wall Street Journal article discussed, by providing, for example, re-insurance (at handsome fees, of course) to debt insurers like MBIA and Ambac. Another glimmer of hope is recent buying of MBIA shares by insiders, to the tune of about $1 million dollars. And Old Republic International, which offers mortgage insurance along with other services, recently disclosed it had acquired big stakes in PMI Group (15%) and MGIC Investment (11%), two mortgage insurers. If industry insiders are buying, perhaps there is hope after all?

Subprime and the moral hazard problem

Is the subprime crisis the result of honest miscalculation or avarice? Were the key players well-intentioned individuals guilty of only poor judgment or were they opportunists who knew there was likely to be a mess left behind for the Federal Reserve and taxpayers to clean-up? I’m beginning to suspect the latter view may offer the better explanation, after learning of the huge “retirement” packages for Merrill Lynch’s CEO Stan O’Neal ($131 million U.S.) and Citigroup’s CEO Chuck Prince ($40 million U.S). What incentive did senior executives at the big investment banks have to be prudent when they knew such retirement packages awaited them?  There wasn’t much to lose from swinging for the fences. A homerun would deliver immense wealth through bonuses, stock options, and the like, while a strikeout would still deliver immense wealth -- just of a lower order. It’s hard to believe senior executives at the big U.S. investment banks weren’t aware of how foolhardy it was to rush into collateralized debt obligations (CDO). Even the Investing Ideas blog, far down the financial food chain (plankton level, I believe), saw it coming. The Sept. 26, 2006 post, ‘Daddy, look at the cute mortgage lenders,’ issued a warning and, for dramatic effect, equated CDO-enamored financial firms to the little girl who mistook baby skunks for kittens (as shown in a photo link). There is a huge moral hazard built into the U.S. financial and corporate system when executives who screw up end up so well off. That O’Neal and Prince are departing with such riches only reinforces the perverse message to the rest of Corporate America that it’s OK to bet the farm with a mentality of "après moi le deluge." It extends the likelihood of more corporate blow-ups and financial panics (and even possibly something as calamitous as another Great Depression). 

Identity theft and other frauds

One day, Mr. Dougherty received a phone call. After identifying himself as Peter from the Security Department of MasterCard, the caller went on to say: “Our records show your card has been flagged for an abnormal purchase pattern, and I’m calling to authenticate …. Did you purchase an anti-telemarketing device for $397.55 from a marketing company based in California?”  “No.” Mr. Dougherty replied. “Then we will be issuing a credit to your account for that amount,” said Peter. Next, Mr. Dougherty was asked if he could verify that the card had not been lost or stolen by reading the three numbers following the 16-digit number. He obliged Days later, Mr. Dougherty began to notice numerous charges on his credit card that didn’t make sense. It was then he realized he had been the victim of a telephone fraud. This is a true story of what happened to one of the authors of a new book entitled The Canadian Guide to Protecting Yourself from Identity Theft and Other Fraud. Just substitute for Mr. Dougherty the name of either Graham McWaters (a mortgage offer at a Canadian bank and author of personal finance books) or Gary Ford (vice president of sales and marketing at an insurance firm). The book, written with a good sprinkling of first-person accounts to keep a potentially dry topic interesting, was an eye opener. Of course, we don’t click on attachments in unfamiliar email anymore but I wasn't fully aware you shouldn’t do it on links in email messages. Or the yes or no button on downloads from unfamiliar sources. There are numerous other ways scammers can get at our personal information, both online and offline. The effect of the book was such that I was roused out of my complacency to invest some time in taking some preventative steps. Chances are many readers will feel a similar motivation.