Trust correction on its way?
Watch out for a correction in the income trusts sector. Not only is it coming but at least one money manager thinks it would be healthy.
The people who run the various GGOF income funds held a conference call for financial professionals last week to consider the state of the income trusts market. The main message was that, while the sector is generally healthy, a correction of 8 per cent to 10 per cent is likely some time this year.
“It’s no big deal in the longer term,” said John Priestman, GGOF’s senior income trust expert. “The big picture for income trusts looks very good.”
He cited three major factors that should protect the trust sector from a precipitous market drop: continued demand from aging baby boomers seeking income, growing foreign interest in Canadian trusts, especially among Americans, and increased buying by institutions such as pension plans.
High returns unlikely
Priestman warned that the high returns of the past couple of years, when the market prices of most trusts soared, will not continue. But unless there is a sharp rise in interest rates and/or a sudden drop in commodity prices, he feels the sector wl do all right.
Nonetheless, GGOF has been positioning its mutual funds for the correction they think is coming. In December, they implemented a “buyer’s strike” and started to raise cash levels. Since November, the cash position in their income funds has moved from 2 per cent to 8 per cent. They are also concentrating their holdings. “We expect future demand to be selective and institutional-driven,” he said.
From a strategy perspective, they are emphasizing economically-sensitive trusts such as ARC Energy Trust, Canadian Oil Sands Trust, and StarPoint Energy, a new trust that was created in January. They have reduced positions in interest-sensitive trusts, particularly in the power and pipelines sectors.
As for REITs, co-manager Kevin Hall says they are “fully valued”, trading at premiums of 14 per cent to 15 per cent of NAV. As a result, the GGOF funds are not adding to their positions at this time. “We’re waiting for a lower risk entry point,” he said.
Another GGOF manager, Michelle Robitaille, described the new trust issues that are appearing as “mediocre to pretty terrible” for the most part, although they did take a position in Keystone North America, which operates funeral homes in the United States. Among existing business trusts, there is not a lot to buy right now, she said, but they have added to their positions in BFI Canada Income Fund (a waste management company) and Connors Bros. Income Fund (seafood). Trusts they have sold include VersaCold, Chemtrade Logistics, and IAT Air Cargo.
Time to take profits
The GGOF view on trusts is very much in line with my own. I have been warning for some time that the sector is very expensive and that a correction is coming. In anticipation of this, we have recommended taking profits on some trusts in our newsletters, most recently in Davis + Henderson Income Fund (TSX: DHF.UN) which I advised buying in January 2003 at $12.80. We sold in January this year at $22.39 and the shares are now trading below that level.
At this stage, I can find very little in the sector that I am comfortable buying. So unless I find something I really like trading at a reasonable valuation, I do not plan to recommend new income trusts for the time being. After the “healthy” correction, we’ll see.