What we're looking for
The best forestry stocks, as chosen by a StarMine award-winning analyst.
What we found
We consulted Daryl Swetlishoff, head of research and forest products analyst at Raymond James, ranked by StarMine this year as one of Canada's top stock pickers. The stocks he chose generated 22 per cent more in returns than the comparable benchmark last year.
"This sector should be attractive to investors because it doesn't get the same amount of attention as other resource plays such as oil and gas or mining," he said. "It's all about spotting inefficiencies in the market and pricing discrepancies and trusting your instincts and saying, 'The market is wrong, you have to buy this.'"
Mr. Swetlishoff, an economist by training, said that the first part of his analysis considers factors that affect commodities underlying the forestry sector - wood, pulp and paper. The next step is to consider company-specific aspects.
"For example, Fortress Paper made an unbelievable acquisition, paying next to nothing for an idled hardwood pulp mill," Mr. Swetlishoff said, adding that he expects the converted mill in Thurso, Que., to generate earnings before interest, taxes, depreciation and amortization (EBITDA) of $188-million next year.
Fortress Paper Ltd. gained 370 per cent in 2010. Mr. Swetlishoff rates it a "strong buy," highlighting the potential for "enormous near- to medium-term cash flow" from its Thurso pulp mill.
"In Domtar, we saw very high free cash flow yield, it was de-leveraging rapidly, and we saw the potential for cash to be returned to shareholders in the future - and the stock did very well," he said. Domtar Corp. gained 37 per cent in 2010.
Investors also have to consider a company's balance sheet to ensure that debt refinancing or covenant issues are not a serious concern.
"The key thing is looking at an undervalued situation and looking for tightness in the underlying commodity," Mr. Swetlishoff said, pointing out that supply often has a much more powerful impact than demand. For now, he believes pulp prices are robust and is more cautious about the outlook for lumber.
He points to Sino-Forest Corp. as a "strong buy," saying it is "an undervalued stock poised to capitalize on burgeoning Asian wood fibre demand and pricing."
For capital appreciation, he recommends Domtar and Mercer International, rating them both "strong buy." He also likes Canfor Pulp for yield and rates it "outperform."
Read more about the StarMine award winners and their picks: tgam.ca/starmine