How exposed are your Canadian trusts to a weakening North American economy? The answer is critical here in early 2008, both for dividend safety and ensuring your holdings will recoup any losses as conditions improve.

Unfortunately, when the public is fearful, the stock market can be a pretty rotten indicator of underlying health. To be sure, real crackups are reliably punished by breathtaking plunges. But all too often, the innocent are mauled along with the guilty, leaving investors to wonder if they’ve missed the real reason their holdings are losing value.

Numbers are the only real antidote to market emotion. Unfortunately, they, too, have their shortcomings.

For one thing, earnings are only released quarterly. That leaves too much time for rumors of impending doom to circulate in the market. And even the most effective executive can have trouble countering them. The problem for Canadian income trusts this year was made immeasurably worse by the fact that many filed their fourth quarter and 2007 statements in late February and March.



The reason was smaller trusts and those with complex businesses—for example Provident Energy Trust (NYSE: PVX, TSX: PVE-U)—needed more time to dot the i’s and cross the t’s. But the result was an information vacuum that was quickly filled by fear. And although Provident eventually reported blockbuster results, investors had to suffer through gut-wrenching volatility while they waited for the numbers.

In addition, the time needed to complete earnings filings diminished their impact when they were ultimately released. For example, by the time Yellow Pages Income Fund (TSX: YLO-U, OTC: YLWPF) showed its very strong 2007 results in mid-February, it was already caught up in a selling wave triggered by US directory companies with which it has little in common.

Shares rallied briefly on the earnings news before the selling resumed. Those who filed later fared much worse.

The second shortcoming of earnings numbers is the market reacts most to those that fit its current mood. In a bull market, bad news is often ignored. But in a fear-drenched environment such as this one, the consensus is invariably focused on the negative.

The report overall may clearly paint the picture of a company becoming more valuable for investors. But if it’s accompanied by a worry the market is fixated on, the shares can still sell off, sometimes dramatically.

Numbers are the best and only true gauge for determining the health of an underlying business. That makes them the only reliable measure of distribution safety, which is the single most-important factor governing what happens to Canadian trusts’ share prices.

As long as the US economy is a major global worry, we can count on fear to rule the stock market. There will be up days, sometimes glorious ones. But they’ll invariably be followed by selling waves, and the line between perceived and real risk will be imperceptible.

The most important thing to keep in mind on such days will be the numbers. Shares of any trust that holds its distribution steady will recover whatever ground is lost to fear now. And any trust that continues to increase distributions will ultimately move to higher highs.

The timing is uncertain, and patience will be required. But those who stick with good businesses now won’t always be under water. And watching the numbers—no matter how violent market emotion gets—will keep us in the good businesses and away from the bad and ugly.

How They Fared

So what are numbers saying about Canadian Edge Portfolio members? The last to report fourth quarter and full-year tallies was Atlantic Power Corp (TSX: ATP-U, OTC: ATPWF), which is highlighted in High Yield of the Month.

Its strong news came nearly two months after the first reporter, Bell Aliant Regional Communications Income Fund (TSX: BA-U, OTC: BLIAF), issued its equally powerful results. And the rest of the 15 Conservative and 13 Aggressive holdings were spread out in between.

The February issue focused on Bell Aliant’s numbers. The March issue featured the following 10 from the Conservative Portfolio: Algonquin Power Income Fund (TSX: APF-U, OTC: AGQNF), AltaGas Income Fund (TSX: ALA-U, OTC: ATGFF), Canadian Apartment Properties REIT (TSX: CAR-U, OTC: CDPYF), Energy Savings Income Fund (TSX: SIF-U, OTC: ESIUF), GMP Capital Trust (TSX: GMP-U, OTC: GMCPF), Keyera Facilities Income Fund (TSX: KEY-U, OTC: KEYUF), Macquarie Power & Infrastructure Income (TSX: MPT-U, OTC: MCQPF), Pembina Pipeline Income Fund (PIF.UN, PMBIF), RioCan REIT (TSX: REI-U, OTC: RIOCF) and Yellow Pages Income Fund, as well as new crossover TransForce Income Fund (TSX: TIF-U, OTC: TIFUF).

March also tracked the following seven Aggressive Portfolio holdings: ARC Energy Trust (TSX: AET-U, OTC: AETUF), Boralex Power Income Fund (TSX: BPT-U, OTC: BLXJF), Enerplus Resources (NYSE: ERF, TSX: ERF-U), Newalta Income Fund (TSX: NAL-U, OTC: NALUF), Penn West Energy Trust (NYSE: PWE, TSX: PWT-U), Peyto Energy Trust (TSX: PEY-U, OTC: PEYUF) and Vermilion Energy Trust (TSX: VET-U, OTC: VETMF).

The remaining three Conservative and six Aggressive picks reported after the March issue went to press. As a result, I recapped them in flash alerts last month, which can be accessed on the Canadian Edge Web site in the Archives section.

In the March 10 flash alert, I focused on Aggressive Portfolio holdings Advantage Energy Income Fund (NYSE: AAV, TSX: AVN-U) and Arctic Glacier Income Fund (TSX: AG-U, OTC: AGUNF). In the March 12 flash alert, I analyzed three more: Conservative Portfolio holding Northern Property REIT (TSX: NPR-U, OTC: NPRUF) and Aggressive Portfolio holdings Paramount Energy Trust (TSX: PMT-U, OTC: PMGYF) and Trinidad Drilling (TSX: TDG, OTC: TDGCF), which now converted to a dividend-paying corporation. Finally, the March 20 flash alert took apart the numbers for Aggressive Portfolio holdings AG Growth Fund (TSX: AFN-U, OTC: AGGRF) and Provident Energy Trust (NYSE: PVX, TSX: PVE-U).

That leaves Artis REIT (TSX: AX-U, OTC: ARESF), which released its earnings on March 24 only a few days before Atlantic. The good news is, like Atlantic’s, its report was definitely worth the wait.

Fourth quarter revenue surged 93.2 percent, triggering a 111.8 percent jump in net operating income (NOI). Distributable income soared 145.7 percent, funds from operations (FFO) surged 167.9 percent and—despite more than doubling outstanding shares to finance growth—FFO per share soared 30 percent.

Acquisitions remained the lifeblood of Artis, and 2007 was a banner year, with CAD566.9 million in deals completed. Nonetheless, the balance sheet actually strengthened as mortgage debt-to-book value fell to 49.2 percent from 52.1 percent a year earlier.

In addition, the trust was enormously successful increasing the profitability of existing properties. Fourth quarter same-property NOI—which factors out the impact of acquisitions—was up a robust 9 percent. Portfolio occupancy rose to 97.4 percent, a giant step up from 95.8 percent in fourth quarter 2006. Finally, the trust enjoyed an explosive average increase over expiring rents of 50 percent in the fourth quarter, a testament to the robust health of its markets as well as wise property selection.

The best thing about Artis’ results is the fact that they’re likely to be equally strong in 2008. CAD45.8 million in new acquisitions have already been completed this year. Moreover, lease maturities for 2008 average 38.6 percent below prevailing market rates, meaning the REIT can expect sizeable rent increases as well.



The company remains heavily concentrated in Alberta (55.4 percent of property), which continues to thrive amid growing global demand for its bounty of oil sands, potash, uranium and other resources. Should the province’s growth slow, Artis would also be affected. The impact, however, would be muted by its expansion outside Alberta, as well as by diversification among property types: office (42.5 percent of the portfolio), retail (32.5 percent) and industrial (25 percent).

The REIT hasn’t been much for distribution increases in recent years, preferring instead to plough available funds to growth. But with a fourth quarter payout ratio of just 66.7 percent and more growth ahead for 2008, that could change anytime. Meanwhile, the yield of nearly 7 percent is basically twice that of many US REITs that lack Artis’ prospects for growth. Trading for just 1.35 times book value, Artis REIT is a strong buy for those who don’t already own it up to USD18.

In the Clear

So what did the numbers tell us? In some cases, they were far better than we reasonably had a right to expect.

Artis’ profits prove it’s obviously not feeling any ill effects from the problems in the US. In fact, growth actually accelerated in the fourth quarter of 2007. More important, the results confirmed management is enjoying great success with its long-term growth strategy.

The bottom line is the REIT is definitely becoming a more valuable holding. Moreover, its distribution is secure, come what may with the North American economy.

The numbers were also extremely bullish for Atlantic Power. And they tell the same positive tale for Conservative Portfolio holdings AltaGas, Bell Aliant, Keyera Facilities, Northern Property REIT, Pembina Pipeline, RioCan REIT and Yellow Pages Income Fund.

By their very nature, Aggressive Portfolio holdings are volatile, particularly those involved in energy production. Nonetheless, earnings at Vermilion Energy should lay to rest any worries this oil and gas producer isn’t built to last or that it wouldn’t be able to maintain its distribution almost no matter what happens to oil and gas prices.

These trusts were all strong performers last year. This year, they’ve held their own and should surge in the second half as macroeconomic conditions improve.

The only one of the 10 holdings noted above to really take a market pounding has been Yellow Pages. Investors have generally ignored its strong fourth quarter results and management’s positive statements about 2008; instead, they’ve sold off shares in sympathy with so-called “comparables” in the battered US directory sector.



As I’ve pointed out repeatedly, Yellow has little in common with US directory companies. For one thing, it has a virtual monopoly on the business in an economy that’s stronger than ours, Canada. It’s much further ahead in transitioning to the Internet and is allied with Google rather than competing with it. Finally, it has far lower debt and grew cash flow per share by more than 10 percent in the fourth quarter, versus the huge profit declines of the US companies.

Last week, my views received solid confirmation from none other than credit rater Standard & Poor’s, which upgraded its distribution profile assessment of the trust from “moderately conservative” to its highest rating of “conservative.” S&P went on to forecast both dividend growth and improving cash flow coverage of the payout because of the trust’s “strong sustainability” and “substantial growth opportunities” from the Web and other “vertical media.” That assessment came the same day as Yellow announced a plan to buy back up to 5 percent of its outstanding units.

Yellow’s first quarter 2008 earnings are due out in about a month. And there’s every indication they’ll be just as bullish as those for the fourth quarter.

Even that may not convince the trust’s most shrill skeptics in what’s likely to still be a fear-drenched market. But the prospect is yet another good reason to hang in there with Yellow Pages Income Fund; for those who don’t own it yet, it’s a buy up to USD16.

Based on the numbers, these 10 trusts are the Portfolio picks I’m most comfortable buying and holding now, both for near-term safety and long-term growth. But although they lacked the standout growth numbers, eight other CE Portfolio picks also continue to show their verve.

Canadian Apartment Properties REIT, for example, posted another solid quarter of rising rents and lower vacancies, even as it further diversified and strengthened its residential portfolio. Macquarie Power & Infrastructure lifted its distribution as it reported strong cash flow growth at its carbon-neutral power plants and retirement home portfolio.  

In the oil patch, the Big Three of ARC Energy, Enerplus and Penn West all had strong returns, with the promise of even better numbers as their realized selling prices for oil and gas rise toward today’s lofty spot rates. Peyto Energy demonstrated its unmatched ability to control costs when gas prices are low, pointing the way to robust prices this year as those prices rise. Provident Energy, meanwhile, fired on all cylinders for the first time, as infrastructure assets and oil and gas production in the US and Canada all thrived.

More aggressive Advantage Energy and Paramount Energy cut distributions and suffered big losses in the stock market last year, largely the result of depressed natural gas prices on their bottom lines. A sharp drop in their fourth quarter payout ratios, however, is a clear sign they’re both protected from weak gas prices and poised to profit from rising prices this year.

As the Feature Article points out, energy trusts have surged this year, even as last year’s winners—nonenergy trusts—have lagged. I look for both groups represented above to be on much higher ground by the end of 2008 and continue to recommend most investors maintain a balance between them.

What’s Exposed

The remaining 10 CE Portfolio trusts didn’t all have bad numbers—far from it. But unlike the trusts listed above, there were items that bothered me.

As evidenced by the fact that there are no sells this issue, I didn’t see enough to convince me to unload any yet. In fact, this is the group that’s likely to shine the most when the overall environment improves. Until it does, I’ll be keeping an eye on them for further potential weakness.

Algonquin Power Income Fund, Arctic Glacier and Energy Savings all posted strong fourth quarter earnings to cap solid years. All three, however, saw their earnings nicked slightly by the drop in the US dollar over the past year. And although there was no evidence in the fourth quarter that slower US growth was affecting sales, this remains a concern because all three have large operations in this country.



Note that I’ve moved Arctic to the Aggressive Portfolio to reflect the additional risk from a series of antitrust lawsuits filed in both the US and Canada. On the plus side, the trust remains cooperative in the US Justice Dept’s investigation of the packaged ice industry, and management maintains it’s still on track for solid growth in 2008.

I fully expect the cases to be resolved in a benign way for Arctic. And the shares are now pricing in a lot of bad news that’s still unlikely to happen. Unfortunately, where the legal system is involved, there’s invariably a lot of uncertainty. And until this is settled, Arctic should be considered a great business selling cheap but with event risk. Hold Arctic Glacier Income Fund.

GMP Capital Trust shares are acting like a dividend cut is already a done deal. Fourth quarter results did show a slowdown from the full year’s robust growth. But the trust still managed a reasonable 87.7 percent fourth quarter payout ratio. And despite a drop in mergers and acquisitions revenue, there were bright spots, particularly on the investment side.

The trust’s first quarter results, conference call and webcast aren’t scheduled until May 8, leaving plenty of time for rumors to percolate through the market and keep the stock volatile. Already down 30 percent this year and still the premier investment house in Canada, it’s hard to see a lot more downside from here. I’m sticking with GMP Capital Trust—a sure bet to hit new highs once the overall economic picture brightens.



Viewed in the context of the past year, Newalta’s fourth quarter results were actually quite positive as the trust continued to transition its waste/cleanup business away from the still-weak oil patch. The company announced a new foray into the oil sands, arguably the dirtiest industry in Canada. And management also affirmed its intention to hold the dividend at least for the rest of 2008 to allow rising cash flow to bring down the payout ratio.

I’ve been a fan of Newalta’s core business and strategy since I began writing Canadian Edge in mid-2004. Even a confirmed bull like me, however, feels the need to impart a note of caution on any trust paying out more than 100 percent of cash flow. Newalta Income Fund still rates a buy up to CAD25, and I believe it will hit that price and much more. But until the payout comes down, Newalta is for aggressive investors only.

Both TransForce and Trinidad were affected by the weakness of the North American economy in late 2007, and both took it on the chin a bit earlier this year. The good news is their early conversions to corporations have dramatically enhanced their financial flexibility and their lowered distributions are basically as safe as anything else on the market.



As corporations, they’ll have to post consistent growth in earnings; both managements appear to be geared up for the challenge. And despite this volatile environment, both companies have strong franchises. Trinidad Drilling remains the best high-yielding bet in the world on energy services and is a buy up to USD14. For more on TransForce, see High Yield of the Month.

Of all the Portfolio recommendations, only two put up fourth quarter numbers that really disappointed me. The first was entirely expected: Boralex Power Income Fund.

Still yielding well more than 10 percent even after the recent dividend cut, Boralex Power is hardly dead money. Its parent and operator Boralex is still very healthy and growing rapidly, which eliminates any solvency risk. And the lower dividend rate apparently takes into account the challenges management cited for 2008 and is sustainable. The shares even trade at just 82 percent of book value.

So why is Boralex Power’s share price unable to hold USD5 a share? For one thing, even power generation trusts that have held and increased distributions have slid this year. And investors have been very slow to forgive any trust that has cut.

My read is that downside risk is low here, and as long as that’s the case, some recovery is assured. That makes Boralex Power Income Fund worth holding. But I’m not recommending you buy it unless the trust gives me a real reason to anticipate a turnaround.

The second disappointment, unfortunately, wasn’t expected: AG Growth Fund. The manufacturer and seller of farm equipment had been tearing up the track for several quarters, adding new assets with acquisitions, improving efficiency of its operations and otherwise enjoying the ongoing boom in North American agriculture.

All that screeched to a halt in the fourth quarter. Activity and orders were still very strong, but AG’s facilities had a real problem meeting the demand, which drove up costs and squeezed margins. Profits were also crimped by the strength in the Canadian dollar, which depressed the value of US dollar sales (75 percent of overall revenue).

The good news here was in management’s robust outlook for the rest of 2008. The production problems will apparently impact first quarter results as well but have now been fixed. Newly acquired and expanded assets will be adding to income. And most important, North American agriculture remains strong.

As such, I expect a full recovery for AG this year, in both earnings and share price. Neither do I see a lot of risk from these levels. I am, however, taking my buy target down for AG Growth Fund to USD32 to reflect the urgent need to improve fourth quarter numbers. This, too, is a buy only for aggressive investors who don’t already own shares.

On a final note, readers frequently ask me about mutual fund alternatives to the individual trusts in the CE Portfolio. I currently recommend three: EnerVest Diversified Income Trust (TSX: EIT-U, OTC: EVDVF), Select 50 S-1 Income Trust (TSX: SON-U, OTC: SFYIF) and Series S-1 Income Fund (TSX: SRC-U, OTC: SRIUF).

These funds each hold a mix of trusts. They’re closed end, meaning they trade a fixed number of shares like stocks. And their prices are all at substantial discounts to the value of their assets. All pay big distributions, though the figures listed from our live feed are exaggerated by including the annual “special” dividends.

Of the three, I can say I’ve been most disappointed by the showing for EnerVest. That’s mainly because it still trades at such a wide discount to net asset value (17.7 percent) and management shows no interest in closing the gap with share repurchases.

On the other hand, selling at a big discount means a huge yield based on the market price and considerable downside protection. As a result, I still recommend buying EnerVest Diversified Income Trust anytime it trades under USD6.

As for the other two, Series is the least weighted toward energy and most actively managed, which should limit volatility to the portfolio overall. It also trades at the biggest discount to net asset value. Select 50 is the steadiest and most blue chip oriented. Buy Series S-1 Income Fund up to USD10 and Select 50 S-1 Income Trust to USD13.