Advice for investors bracing for the post-election fallout

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A conversation in 1990 with a prominent mutual fund manager has helped me understand market behaviour into major events like the U.S. election ever since.

Bill Wilby, then a top-performing manager with Oppenheimer Funds, was discussing market volatility in the lead up to the first Persian Gulf War. He explained that the unknowable consequences of the military conflict formed a metaphorical wall that prevented accurate stock valuation.

Effective stock analysis requires estimating future cash flows and applying a discount rate reflecting the probable accuracy of the cash flow forecast, and interest rates. Events like The Persian Gulf War, and the U.S. election, make this impossible to accomplish with a high degree of confidence. Markets in these cases flop higher and lower based on rumour and headlines.

Starting Wednesday, the investing environment will return to normal. Markets will likely move significantly but it will be less a reaction to the new president than the fact that analysts and investors will be able to forecast business performance knowing the likely policy initiatives that will come from Washington.

My main takeaway from Mr. Wilby's explanation was to never invest ahead of major events -- the information vacuum means it's usually no wiser, and often less wise, than gambling heads or tails on a tossed coin.

-- Scott Barlow

The Rundown

David Rosenberg: Clinton or Trump? Why you should never invest based on emotion
What you see isn't always what you get, says David Rosenberg, adding that he's referring to the U.S. election campaign. He says he can understand how the population feels about these two candidates — both have the worst unfavourable ratings of all time. But when it comes to government, we invest around policies, not personalities. While Hillary is the safer bet, she also is the candidate that offers up the least change. Lots of tweaking from the Obama White House. And seeing as she will likely face a more hostile and Tea Party-hardened GOP-led House, she likely won't end up getting much accomplished. So four more years of gridlock in exchange for the safer bet.

Why investors should tune out this U.S. election
When the FBI is driving Canadian stocks, perhaps it's time to tune out the noise, writes David Berman. Stocks rallied on Monday, but not after a particularly upbeat piece of economic news or a strong round of corporate earnings. Instead, the Federal Bureau of Investigation announced that it saw no reason to lay charges against U.S. presidential candidate Hillary Clinton, after recently discovered e-mails raised the possibility that she had been sloppy with classified information when she was secretary of state. The tempting conclusion here is that rational markets, fearful of Mr. Trump, are now pricing in a Clinton victory – instantaneously recalibrating which sectors will do well, or suffer, under Ms. Clinton's approach to issues such as corporate taxes, health care and clean energy. Or, more likely, the whipsaw stock market moves reflect investor anxiety that is best ignored.

Market outlook does not bode well for next U.S. president
At last report, it still appears as if someone has to win the U.S. presidency despite ample evidence that both leading contenders are doing their level best to fumble away the opportunity, writes Ian McGugan. But they may want to consider why everyone else stared at their shoe laces when the job came up for grabs. One possible reason – just to put it out there – is that the position carries risks you haven't fully grasped. For instance, have you looked at the stock market? At least two highly regarded money management firms are warning that U.S. stocks offer dismal prospects.

These are the stocks to watch the most following the election
Markets will almost certainly be volatile in the days after the U.S. election, but most investors should just sit it out, and wait for relative calm, writes Scott Barlow. There could, however, be profitable exceptions to this general rule – companies that were attractive anyway that become available at more attractive prices. The most likely source of these opportunities is the health care sector in the event of a Hillary Clinton victory. Stocks on his radar include Stryker Corp., Valeant Pharmaceuticals International, Mylan N.V., Endo International PLC, Medtronic PLC, and Quest Diagnostics Inc.

How advanced investors can play this election
Sophisticated investors may consider using the volatility-based securities such as the iPath S&P 500 VIX ST Futures ETN (VXX), the Horizons BetaPro S&P 500 VIX Short Term Futures Index ETF (HUV), or Horizons BetaPro S&P 500 VIX Short Term Futures Bull+ ETF (HVU) – for a short period (days to weeks) to help protect portfolios in the aftermath of the election, writes Larry Berman. The VIX itself spiked to 26.5 following Brexit, I would expect it to spike above 30. The January VIX futures contract is trading at about 19, so there is potential for a 50-per-cent plus rally in the unleveraged VIX ETFs. On the other hand, a Clinton win would likely see volatility futures fall at least 10 per cent on  Nov. 9.

Can factor-based ETFs reduce volatility – and beat the market?
Andrew Hallam looks at factor-based ETFs and how they can be used to reduce volatility and beat the market. These ETFs focus on specific types of stocks, such as value stocks, small-cap stocks or momentum stocks.

Skittish about bonds? Here's a sensible option for your portfolio
Rob Carrick says he hates it when investing strategists trash bonds. It spooks investors who have made the rational and appropriate decision to diversify their portfolio with bonds. No matter how much bonds are bad-mouthed, there's no getting around the fact that the vast majority of investors should not have all their money in stocks. Bonds generally do well when stocks are getting pounded. That's pretty much the whole reason to hold bonds right now. The iShares 1-5 Year Laddered Corporate Bond Index ETF (CBO) is a decent choice for adding bonds to a portfolio in today's environment. Unless this investor's personal situation has changed since the time of purchase, there is no need to dump this ETF.

The best investing books for novices – as chosen by our readers
John Heinzl says Globe readers are a well-read bunch. He asked people to send in their picks for the best investing books and other resources for novice investors. He received dozens of suggestions and goes through some of the best ones, including The Single Best Investment: Creating Wealth with Dividend Growth, by Lowell Miller.

Tackling how your portfolio options get taxed
Tim Cestnick talks about how the taxman will tax profits and losses on options strategies. The tax treatment, in a nutshell, will depend on the type of income, and the timing of the income you earn. Will your profits and losses from options strategies be taxed as capital gains and losses (referred to as "on capital account"), or business income and losses (on "income account")? It's an important question because just one-half of capital gains are subject to tax. Business income is fully taxable, although you may be entitled to claim some deductions against business income that you won't be able to deduct against capital gains. As a rule, if you're making profits, you'll likely prefer capital gains treatment.

Number Crunchers

Regardless of U.S. election outcome, these 10 stocks are strong defensive plays

Ten S&P/TSX stocks showing growth at a reasonable price

Stocks to ponder

Boyd Group Income Fund. This stock appears on the negative breakouts list and will report earnings this week on Wednesday morning, writes Jennifer Dowty. According to Bloomberg, for the past 10 quarters, the unit price has advanced during the trading session immediately after it reported its quarterly results. However, this quarter may be a challenging one for the company. This security is one to watch. If we see an earnings disappointment, this may result in further price weakness, representing a potential buying opportunity. Boyd Group operates a network of non-franchised collision repair centers across North America, mostly in the U.S., under banners such as Boyd Autobody & Glass, and Gerber Collision & Glass. Management has targeted doubling the size of its business by the year 2020. Boyd pays its unitholders a monthly distribution of 4.2 cents per trust unit, or 50.4 cents on a yearly basis. This equates to an annualized yield of 0.6 per cent. Management has increased its distribution 15 times over the past eight years. There are 10 are 'buy' recommendations and two are 'hold' recommendations on the stock.

Wajax Corp. This dividend stock appears on the positive breakouts list and has experienced a parabolic move after it reported better-than-expected third quarter financial results. The stock's valuation has become stretched with the stock's positive price momentum appearing due for a pause, writes Jennifer Dowty. Wajax is an industrial products and services provider of equipment. The company reported better-than-expected third quarter financial results on Nov. 1, which sent the share price soaring over 11 per cent that day. The company's outlook is cautiously optimistic. Its dividend of $1 a year equals a yield of 4.7 per cent. There are four 'buy' and two 'hold' recommendations on the stock. The average one-year target price is $19.20, implying the shares are fully valued at current levels.

Suncor Energy Inc. and Vermillion Energy. These two stocks were able to maintain their dividends despite the squeeze on their bottom lines from lower revenue due to plunging oil prices, writes Gordon Pape, and are worth a look for investors interested in the oil patch.

Redknee Solutions Inc.  Investors in the software provider are bracing for the outcome of a review to potentially sell the company, which has seen its shares plummet amid lacklustre growth, writes Brenda Bouw. Shares of Mississauga-based Redknee, whose business is largely providing billing software for the global telecommunications sector, have dropped by about 50 per cent over the past year. The company is now the target of activist investor Crescendo Partners, which delivered a letter on Aug. 11 to Redknee's board of directors urging the company to put itself on the block.

Ask Globe Investor

The Question:

A question from two readers about the same stock:

On the GlobeInvestor stock quote page for Brookfield Infrastructure Partners it says the "dividend may not be sustainable; the company has paid out more to shareholders over the past 12 months than it has earned." Is this a reason to avoid the shares?

You've written that Brookfield Infrastructure Partners is a solid  stock to own. However, I note that the forward price-to-earnings ratio ratio is more than 40, which is extremely high. Can you explain how a stock with such a high P/E ratio can be a recommended stock?

The Answer:

First, it's always prudent to ask about the sustainability of a company's dividend, but in this case I can put your mind at ease. As the GlobeInvestor quote page for BIP.UN goes on to state: "Interested investors should perform additional due diligence to see if cash flows or balance sheet assets are enough to secure future dividends." Because BIP.UN's accounting earnings are reduced by non-cash charges including depreciation, it's more useful to judge the distribution's sustainability based on BIP.UN's actual cash flow. According to a recent note by Raymond James analyst Frederic Bastien, BIP.UN's cash flow payout ratio -- that is, distributions as a percentage of "funds from operations" or FFO -- is an estimated 69 per cent for 2016. So, the distribution appears to be quite safe; in fact BIP.UN has been increasing it every year. For similar reasons, the P/E ratio -- which has earnings in the denominator -- can also be misleading. A better valuation ratio in this case is price-to-FFO, which, as of Mr. Bastien's Sept. 26 note, was a more reasonable 13 times 2016 estimated FFO.

-- John Heinzl

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What's up in the days ahead

David Milstead looks at the investment case for Molson Coors; Jennifer Dowty examines Canadian stocks that pay U.S. dividends; and John Heinzl looks at three stocks that have fat, and growing, dividends.

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Compiled by Gillian Livingston