Your questions have been flooding in at an unprecedented rate so let’s deal with some of your concerns.
Real Return Bonds
Q - I have wondered about this for some time, but your recent article in the Globe prompted me to write.
You, and other investment writers constantly refer to the “fact” that bonds rise and fall in price and are therefore may not be a good holding.
But if I buy a bond at issue (or any price for that matter) I will receive exactly the return that I expect if I hold it to maturity – the ups and downs of the asset price are irrelevant. I do have to rely on good credit checking, but that is a different issue.
My point is even more relevant for a Real Return Bond. Once I buy it, I receive the coupon rate plus inflation, and get the capital plus inflation when it matures. Again, the gyrations in price are irrelevant, particularly the changes in the Real Return Bond Index. Or am I missing something? - John D.
A - There are a few things to consider. First, most investors do not buy bonds directly. They buy bond funds, which do not have a maturity date, so there is no guarantee of what the market price will be when they sell.
For those who do invest directly, your argument is correct, to a point. You get what you pay for in terms of the interest on the security and your capital back at maturity - assuming you buy at par or below. But the purchasing power of the interest and repayment at maturity will be eroded by inflation.
So, are Real Return Bonds the answer? The principal and interest are adjusted for inflation. But what is the underlying return on the bond? According to the Bank of Canada, as of Feb. 14 the real yield on a long-term government Real Return Bond was 0.53 per cent. Do you really want to tie up your money for a decade or more for that kind of payout? - G.P.
Q - Going forward into retirement years, are there advantages to owning blue chip preferred shares over common shares? Would it matter if the shares were in a RRIF, or an investment account? – Dave S.
A – Preferred shares were always somewhat complicated, but they have become much more so since the introduction of rate reset issues. They now account for well over half the market and are responsible for the increase in volatility in what used to be a rather tranquil investing backwater.
Look at the iShares S&P/TSX Canadian Preferred Index ETF (CPD-T). It had double-digit gains in 2017 and 2021, low single-digits gains in 2019 and 2020, and a loss in 2018. The average annual compound rate of return since the fund’s inception in 2007 is only 2.39 per cent.
If you want to buy individual preferreds instead of a mutual fund or ETF, you’ll need the guidance of a broker who is very experienced in this area.
Blue chip common stocks are much more transparent and several of them offer yields in excess of 4 per cent. Examples include BCE Inc. (BCE-T), TC Energy Corp. (TRP-T), Enbridge Inc. (ENB-T), Telus Corp. (T-T), and Emera Inc. (EMA-T).
Unless you have a great broker or have developed a profound knowledge of preferreds, I would stay with the common stocks.
As for a RRIF or investment account, my preference would be the latter. Canadian dividends are eligible for the dividend tax credit, which significantly reduces applicable rate. That tax break is lost in a RRIF– G.P.
3M not performing
Q - What are your thoughts about the stock of 3M (MMM-N)? I find it’s not doing so well these days, and I am wondering why. – Claude V.
A – 3M Company is a Minnesota-based manufacturing giant, producing a wide range of products from building materials to medical supplies. Its brands include N95 masks, Scotch Tape, and Post-It notes. The company is included in the Dow Jones Industrial Average and has a market cap of about US$84 billion.
The stock has been in a downward trend since May of 2021. There is no obvious reason for this, beyond the fact it’s a slow-growth company and doesn’t seem to be taking any steps to improve that.
The company recently released fourth quarter and year-end results. Sales were up 9.85 per cent for the year while earnings gained 8.66 per cent. The dividend yield is 4 per cent and the p/e ratio is14.52.
None of these are bad numbers. But investors are showing little interest and I don’t see a catalyst that will change that. I have never recommended the stock. – G.P.
Premium Income Fund
Q - My daughter is in grade 11, and I’ve been gradually shifting her RESP holdings to GICs as she approaches university. I’m finding it very difficult to put any more into GICs at the current rates.
I’m using BMO Cover Call Utilities ETF (ZWU-T) and Enbridge (ENB-T) as relatively safe choices, paying decent dividends, and have stop limit orders on them so that I can’t lose the initial investment.
I now need to move more money out of active stock trading and am confused by Premium Income Corp A (PIC.A-T). It is currently paying a whopping dividend, over 9 per cent. Generally, I see a big yield as a red flag, because that usually happen when a stock drops. But this stock seems to have been paying such a dividend for a long time, and the stock is rising. Too good to be true? Could you address the sustainability of its dividend yield? – Mel B.
A – Premium Income Corp. is a split share security, managed by Mulvilhill Capital Management. It invests in the shares of Canada’s Big Six banks, splitting them into common and preferred. Mulvihill charges a management fee of 0.9 per cent.
The preferred version trades under the symbol PIC.PR.A. It’s the first security to receive any dividends paid by the banks, to a limit of $0.215625 per quarter, or $0.8625 annually. At the time of writing, the shares were trading at $15.26 to yield 5.65 per cent. The market price of the preferreds may occasionally fall when bank stocks falter, but generally they trade in the $15 range, which was the original issue price. There is little upside, but little risk either. The dividend is secure.
Excess payouts accrue to Premium’s A shares, which trade in Toronto as PIC.A. They benefit from the growth in the value of the underlying bank shares and any increase in the dividend payouts from those shares. Since the banks are now raising dividends after being constrained for two years by the Office of the Superintendent of Financial Institutions, we could theoretically see an increase in the dividend. There’s no guarantee of that, however.
According to the Mulvihill website, the A shares currently pay 20 cents per quarter (80 cents annually), to yield 9.6 per cent based on the price of $8.32 at the time of writing. The distribution looks safe, but the A shares can be volatile at times. The original issue price was $10, but they dropped as low as $3.14 in October 2020 according to the TMX website.
It appears the dividend yield is sustainable for both classes of shares. I don’t think there is much downside risk to the price of the A shares currently, but these are uncertain markets, especially given the situation in Ukraine, and we have seen volatility in the past.
Since you’re investing for an RESP where the money will be needed within a few years, the preferreds are the lower risk choice – although you are sacrificing some yield. – G.P.
Saving for condo
Q - I am hoping to buy a bigger condo in 1-3 years and have started saving for that. I have a modest amount in my TFSA sitting in cash towards this purchase. Given that I am going to need that cash in the near term, I have opted to not invest the funds in stocks or bonds because of the risk.
I was wondering if there is a money mart where I can park the cash in a TFSA and get a better return. Even a negligible amount of interest is still tax free income, and assists in a rising inflationary environment. – Martha D.
Hi - EQ Bank is a good choice in your situation. You can open a TFSA with them and arrange a direct transfer from the cash in your current plan. Just don’t make the mistake of withdrawing the money and the redepositing it; the CRA would consider that as a new contribution and you could end up facing overcontribution penalties.
EQ Bank’s current TFSA rate is 1.25 per cent interest, which will be tax sheltered. It’s not much in the way of return, but you say you want safety above all else. Your money will be protected by the Canada Deposit Insurance Corporation, up to $100,000. - G.P.
Q – I purchased PHN Total Return & Short Term Bond Funds years ago. I never did switch to bond ETFs. Is it too late? Should I hold them? Sell? – W.D.
A – If you’re going to own bond funds right now, staying short-term is the best way to mitigate risk. But even quality funds like the Philips, Hager and North Short Term Bond and Mortgage Fund are in the red right now. The fund dropped 2.1 per cent in the year to Jan. 31. That’s about the same loss incurred by the iShares Core Canadian Bond Index ETF (XSB-T) so there is no reason to sell the PHN fund to buy an ETF.
The PHN Total Return Bond Fund was off 4.8 per cent in the year to Jan. 31. That was to be expected because it holds bonds with longer maturities, which are more sensitive to interest rate movements.
What should you do? It depends on your goals and time horizon. If you’re a long-term investor, you might want to retain your positions, although the next couple of years could be rough. Alternatively, consider moving to a modified GIC ladder. - G.P.
If you have a money question for me, send it to firstname.lastname@example.org and write Globe Question in the subject line. I cannot guarantee a personal response but I’ll answer as many questions as possible in this space.
Gordon Pape is Editor and Publisher of the Internet Wealth Builder and Income Investor newsletters. For more information and details on how to subscribe, go to www.buildingwealth.ca/subscribe
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