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Dow hits 19,000, price target hikes galore for RBC, and bets against pot stocks skyrocket

An electronic billboard displays a marijuana hashtag at Times Square in New York on Monday.


"Dow 19,000" doesn't have quite the ring of other milestones that the blue-chip Dow Jones industrial average has achieved in recent years. But investors aren't complaining: The index touched a fresh record high of 19,043.90 on Tuesday, continuing a remarkable rally that began with the conclusion of the U.S. presidential election earlier this month.

With these recent gains, the blue-chip index is now up about 9 per cent this year, powering ahead of the broader S&P 500, which is up 7.6 per cent.

As the year ticks down, though, don't lose track of Canada's benchmark index, which has outshone the world's other benchmarks in 2016. The S&P/TSX composite index has risen nearly 19 per cent this year, putting it on track for its best annual performance since 2009. And that's without hitting a record high (yet).

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-- David Berman

Three big numbers to note

100%  That's the market-implied odds of a rate hike at the U.S. Federal Reserve's Dec. 13-14 meeting, the first time it has reached that number, according to Bloomberg calculations based on futures.

1.09% The yield on the two-year Treasury note on Tuesday, according to Bloomberg Bond Trader Data. That is the highest level since December.

9.5 years  That's the last time -- February, 2007 -- that U.S. home resales were at an annual rate of 5.6 million units.  The National Association of Realtors said on Tuesday that existing home sales rose 2.0 per cent in October as homebuyers, buoyed by an improving labor market, took advantage of still-low mortgage rates to snatch up properties after many were shut out during the busy summer selling season.

Stocks to ponder

Killam Apartment Real Estate Investment TrustThe units recently displayed a "death cross," writes Jennifer Dowty. This is a bearish signal. With respect to Killam Apartment REIT, the unit price appears to have stabilized, finding support around $11.50, near the 50-per-cent retracement level. To illustrate, the unit price rallied from around $10 at the start of the year, peaking at just over $13 in July. After which, the unit price came under pressure, finding support halfway between $10 and $13, around $11.50 (the 50 per cent retracement level). From a fundamental perspective, analysts are forecasting solid gains for this REIT. There are 10 "buy" recommendations and one "hold" recommendation. There are no "sell" recommendations. One-year target prices range from a low of $13.50 to a high of $15, implying there is upside potential of between 13 per cent and 26 per cent.

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Royal Bank of Canada. This bank stock has had 7 recent target price increases, writes Jennifer Dowty.  The bank stock closed at a record high on Monday, but may have room to rally further. The company pays shareholders a quarterly dividend of 83 cents per share or $3.32 on a yearly basis. This equates to an annualized yield of 3.7 per cent. There are 10 analysts with 'buy' recommendations, seven analysts have 'hold' recommendations, and there are four 'sell' recommendations. The average one-year target price is $87.18, implying the share price is fully valued.

Fairfax Financial Holdings. This stock was on the S&P/TSX composite oversold list last week, writes Scott Barlow.  It was the most oversold benchmark constituent and the real estate sector, still struggling with rising bond yields, is well represented. Boardwalk REIT, Smart REIT and Allied Properties REIT are all on the list. In his opinion, Fairfax shares are falling too quickly now to be attractive – it looks like the proverbial 'falling knife'. But, once the price stabilizes, investors can be reasonably confident in an at least partial recovery.

The Rundown

Trump and tumultuous markets: A reality check on what's really going on

"Nobody knows anyone, not that well" said Tom Regan, protagonist in the Coen brothers' Miller's Crossing, Scott Barlow's favourite movie of all time. The quote has come to mind repeatedly in the past week in reference not only to the U.S. electorate, but to the forecasting ability of experts in politics and markets. The lesson of recent weeks is that no one knows anything, not really. And, while there are always unknowns in markets – Federal Reserve policy has been a big market driver in recent years, for example – the sheer number of powerful market forces that could break in different directions in the weeks ahead threaten to overwhelm and paralyze investors. For clarity, and maybe sanity's sake, his strategy is to separate the things we do know from the important information we've yet to receive.

The declining price of government bonds shouldn't leave investors worried

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Safe investments get pounded sometimes, writes Rob Carrick. That's a lesson to be drawn from the recent rout in bond markets. Government of Canada bonds have been trounced much harder than corporate bonds, which are flat out riskier. A government can always resort to tax increases to meet its debt obligations, while corporations are constrained by the need to price their goods and services competitively. If you own government bonds, get used to seeing your holdings fall in price.

Why TSX REITs are poised for double-digit returns

The recent sell-off in the domestic real estate investment trust sector is way overdone based on the yield advantage over government bonds. The 10-year performance history of the market segment suggests an average annual return above 10 per cent for the next two years, writes Scott Barlow. Fears that rising bond yields would attract investor funds away from the real estate sector have seen the S&P/TSX REIT index fall 12.3 per cent since July 12. The average distribution yield in the sector, however, remains more than five percentage points above the government of Canada five-year bond yield, a level that suggests strong returns for REIT investors for the next two years.

Short-sellers piling into Canopy Growth and other marijuana stocks

Cannabis stocks have shot upward, led by industry leader Canopy Growth Corp.'s gains of 60 per cent this month and 337 per cent over the past 12 months, writes Larry MacDonald. The trigger, for the most part, was recent voting in several U.S. states legalizing marijuana and Prime Minister Justin Trudeau's 2015 election pledge to legalize pot. But short-sellers' bets are also skyrocketing, suggesting the run-up in stocks has gone too far too fast.

Why investors cheered as DH Corp. slashed its dividend

DH Corp. slashed its quarterly dividend on Monday and the shares rallied – making it clear that investors are now approaching this beaten-up stock with a fresh perspective, writes David Berman. Forget about buying into a story of stable profits and steady dividends. This has become a stock for bargain-loving turnaround enthusiasts who believe the news can't get much worse – and Monday's 8-per-cent pop looks like a good start. DH Corp., formerly Davis + Henderson, is best known as a company that prints cheques. This was a good business to be in when everyone relied upon them to pay bills and transfer money, but it is not so reliable today.

Gordon Pape: This income stock bucks the trend of falling interest-sensitive equities

Interest sensitive stocks have taken a beating since the election of Donald Trump. The market has made the assumption that his policies will stimulate growth, leading to rising interest rates and higher inflation. As a result, we have seen across the board declines in the share prices of REITs, utilities, and other dividend stocks, writes Gordon Pape. But a few have bucked the trend. One of them is Exchange Income Corp., which Mr. Pape recommended to readers of his Income Investor newsletter just over a year ago at $26.89. It closed on Nov. 21 at $42.48. Here are the details.

How to identify 'super forecasters' when it comes to market predictions

It is a discussion in a Woody Allen movie, but it is also a line from the Greek poet Archilochus, who described foxes as self-critical thinkers who can adjust their beliefs and hedgehogs as people with one big idea who try to persuade others to follow along, writes John Reese.  It's the same idea Philip Tetlock, a psychology and management professor at the University of Pennsylvania, studied over decades as he tried to determine what gives one so-called expert more credibility than any other, well, so-called experts. Most of them are wrong. In his 2005 book, Expert Political Judgment: How Good Is It? How Can We Know?, Prof. Tetlock posed hundreds of questions about political and economic events to an array of experts and non-experts, generating some 80,000 predictions. The so-called experts could explain only 20 per cent of the variability in outcomes in their predictions, regardless of their educational backgrounds, experience and access to information. The more famous the expert, the less accurate he or she tended to be.

In these uncertain times, investors need to start looking for 'equity bonds'

The past few weeks in the United States have been like an erupting volcano. A new political administration is rolling in with huge changes promised in economic and foreign policy. With policy changes come a host of unknown outcomes that we will be dealing with during the next several months and years. Amid all this turmoil, what is an investor to do? Fund manager Larry Sarbit believes the answer is to stick with the tried and true. His bedrock idea: search for "equity bonds." It's a term Warren Buffett introduced back in 1977.

How former Lululemon CEO Christine Day invests her money

Christine Day's investment strategy was honed early in her career while working at a private-equity firm watching investors drop money into early-stage companies and then seeing it grow exponentially. Ms. Day accumulated wealth a similar way through stock options at growth companies where she has worked, including about 20 years at Starbucks Corp. and more than five years as the chief executive officer at Lululemon Athletica Inc. Today, Ms. Day is CEO of healthy frozen-food company Luvo Inc. and a partner in Campfire Capital, an early-stage venture capital firm. The Globe recently spoke with Ms. Day about her investing strategy and how she and her husband are managing the wealth transfer to their three kids.

Insulating your portfolio against a La Nina winter

Natural gas prices and gas-exposed stock prices on both sides of the border came alive last week and temperatures dropped. One thing is for sure: this won't be the end of cold weather. Long-term weather forecasts for this winter, recently released by the U.S. government, call for a La Nina. Winter temperatures during a La Nina are colder than average and snow fall is above average in the northern half of North America. As a result, demand for natural gas is expected to increase significantly in some of North America's highest population areas. Don Vialoux has some ideas on how investors can profit from the onset of winter weather.

Number Crunchers

Thirteen high-dividend TSX stocks with strong fundamentals

Ask Globe Investor

The Question:

My investment adviser is suggesting I "turbocharge" my returns by writing covered call options on my portfolio of blue-chip dividend stocks. What are the benefits and risks of this strategy?

The Answer:

As an investor focused on the long run, I'm not a fan of covered call writing. The strategy essentially sacrifices long-term gains for short-term income – not a good trade-off, in my opinion.

When you write – or sell – a call option, you give the option buyer the right to purchase your shares at a specified price by a specified date. In exchange, you collect a small payment or "premium." It seems like free money, but it isn't.

If the stock muddles along and doesn't rise above the "strike price," the buyer will not exercise the option and you will keep the shares and the premium. This is a win-win for you.

But if the market price of the shares rises above the strike price, the option holder will exercise his or her right to buy the shares from you. You keep the premium, but you lose your shares, which you must sell at a price below the market. The option premium will offset some or all of that loss, but now you'll have to redeploy your cash into something else. This makes selling calls incompatible with a buy-and-hold dividend-investing approach.

"Because the seller of the covered call may have to give up his stock, this strategy is more appropriate for investors who are seeking current income as opposed to those who are trying to build wealth via dividend reinvestment," writes Marc Lichtenfeld in his book, Get Rich with Dividends.

Over a time horizon of, say, 10 years, chances are good that some of your stocks will get called away, "disrupting the compounding dividend machine," Mr. Lichtenfeld says. Not only that, but you'll have to pay capital gains tax on both the option premiums and on any gains incurred when your shares are called away. In a rising market, selling covered calls can be especially dangerous because you risk missing out on some of the gains.

Let's compare the recent performance of two exchange-traded funds – one that uses covered calls and one that doesn't.

Over the past three years, the BMO Covered Call Dow Jones Industrial Average Hedged to CAD ETF (ZWA-TSX) posted an annualized total return – including dividends – of about 6.4 per cent. Its sister fund (ZDJ-TSX), which does not use covered calls, had an annualized total return of 7.6 per cent.

Clearly, an investor would have been better off simply buying the plain-vanilla Dow Jones index ETF.

For all of these reasons, I believe that buying and holding a portfolio of high-quality, dividend-paying stocks or low-cost funds is a better way to go.

If you need income beyond the dividends you receive, you can always sell a chunk of shares – and, unlike with covered calls, you'll control the timing.

--John Heinzl

Do you have a question for Globe Investor? Send it our way via this form. Questions and answers will be edited for length.

What's up in the days ahead

Looking to take advantage of the recent REIT sell-off? Dividend guru John Heinzl will discuss three rock solid names to consider. Alimentation Couche-Tard has impressed investors with a long track record of big profits, big deals and a big share price; David Berman takes a look at whether that track record will continue. And index investor Andrew Hallam will share his opinion on whether it is worth paying fees to a financial advisory firm.

Click here to see the Globe Investor earnings and economic news calendar.

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Compiled by Gillian Livingston

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