Like every other income investing group, Canadian income trusts have had a difficult month. And although they’ve held up better as a group than almost anything else, the stalling of the recovery rally has led at least some investors to stand aside and wait to see what happens.

There’s certainly nothing wrong with being cautious in an environment like this one. For those who rode trusts down last fall and up again this spring, it’s been quite an emotional rollercoaster.

Moreover, although today’s inflation figures are relatively mild—a 1.9 percent annualized rate of the “core” rate—it’s still not entirely clear that this year’s summer rate spike is definitively over. Should we get another spike to, say, 5.5 percent, there will be more selling of income investments, which very likely will include trusts.

Historically, the trusts with the least amount of operating risk have been the most affected by volatile interest rates. That includes electric power and pipeline trusts, as well as Canadian real estate investment trusts. Thus far, that’s proven to be the case with this spike, with these ultra-safe trusts sometimes fluctuating several percentage points in a day.

On the higher-risk end of the spectrum are oil and gas producer trusts, along with drillers and service trusts. These are heavily impacted by energy prices, which in turn are affected by economic growth and a host of other factors. As long as energy prices are in an uptrend, volatile interest rates shouldn’t affect this group. Rather, it’s all about energy prices.

Of course, when energy prices dip and interest rates are volatile, both the aggressive and the conservative can be affected. That’s what happened on some June trading days.

Finally, as we’ve been discussing throughout the month in Canadian Edge’s weekly companion, Maple Leaf Memo, the Canadian parliament at last signed off on the Conservative Party’s budget, including the provision to begin taxing income trusts in 2011. That news did induce a few weak hands to fold. It had little or no impact on prices overall, however, as the affected trusts quickly bounced back.

Looking ahead to July, we could well see a reversal of the negative interest rate trend, with the benchmark 10-year Treasury yield moving back below 5 percent. And with oil again pushing $70 a barrel and air-conditioning season ready to fire up demand for natural gas, energy prices may be heading higher as well.

Alternatively, we could see faster-than-expected economic growth push up interest rates and energy prices dip again. That would almost certainly keep prices of trusts in a flat to downward trajectory, even if, as I expect, the best turn in another quarter of strong earnings.

The key thing to remember in times like these is at Canadian Edge, we’re buying businesses—not super high yields, not fancy tax avoidance schemes and not takeover targets. Rather, our goal is to seek and buy well-run companies that are gaining value as we own them, even as they reward us with big distributions going forward.

Sure, the yields are great, and there are plenty of ways for well-run trusts to keep them that way well after 2011, as I pointed out in the June CE Feature Article. But fundamentally, we’re looking for good businesses generating good cash flows that will stand the test of time.

Trusts are still cheap relative to corporations, and I look for many more takeovers of trusts by private capital and other entities at high premiums. The opposition Liberal Party has made a reduction in the 2011 tax on trusts to 10 percent a part of their campaign platform. And with elections scheduled no later than October 2009—and almost certain to happen much sooner—there’s a solid chance they will get the chance to do so.

Takeovers and actions in Ottawa, however, aren’t actions we can count on, any more than we have 100-percent assurance interest rates will fall or energy prices will rise in July. Any of these developments would send trusts soaring across the board. The point is we can’t count on them to happen, and we certainly shouldn’t bet on them.

The good news is the market is pricing in full 31.5 percent taxation—as it has since mid-November—so there’s no risk to us if the taxation situation doesn’t change. Equally, trust takeovers are still coming off at big premiums, a sure sign that the overall market isn’t pricing in the possibility, even for the surest potential targets.

Not every trust is in good shape. In fact, more than a few are still failing, though there were no dividend cuts in June. The bottom line is, however, that good businesses will do well even if none of these good things happen. And if they do, it’s off to the races.

Here’s the roundup of relevant news for Canadian trusts over the past month. Note that these items have been posted already in our weekly updates, which come with the complementary Maple Leaf Memo, for Canadian Edge subscribers. If you haven’t yet signed up for this free service—a vital part of your subscription—please do so by going to www.mapleleafmemo.com.

Oil & Gas

Harvest Energy Trust’s (HTE.UN, NYSE: HTE) CD110 million cash bid for Grand Petroleum is being opposed by Montreal-based Montrusco Bolton Investments, which owns 12 percent of Grand’s shares outstanding. Harvest offered CD3.84 per share for Grand, a premium of almost 7 percent to Grand’s closing price the week before the June 18 offer.

Montrusco has characterized Harvest’s offer as a “premium for a distressed company” but believes Grand’s growth potential justifies a more lucrative offer. Harvest’s offer has the support of Grand’s board of directors. Hold Harvest Energy Trust.

Paramount Energy Trust (PMT.UN, PMGYF) closed its previously announced bought deal financing for 20.45 million subscription receipts at CD12.25 each for gross proceeds of CD250.5 million. CD75 million in 6.5 percent convertible extendible unsecured subordinated debentures were also issued.

The proceeds from the issuance of subscription receipts have been deposited in escrow and, subject to certain conditions, will be used to fund a portion of the purchase price of the indirect acquisition by Paramount of oil and gas properties located in east central Alberta. Paramount Energy Trust is a buy up to USD13.

PrimeWest Energy Trust (PWI.UN, NYSE: PWI) and Shiningbank Energy Income Fund (SHN.UN, SBKEF) have mailed the joint information circular and proxy statement detailing the previously announced plan to merge the two companies. The special meetings of Shiningbank unitholders and PrimeWest unitholders to vote on the deal are to be held on July 10, 2007, at 9 am and 10 am CDT, respectively.

Shiningbank unitholders will receive 0.62 of a PrimeWest unit for each Shiningbank unit held upon unitholder approval. At least 66.67 percent of the votes cast at each of the PrimeWest and Shiningbank special meetings must be in favor of the arrangement, and the deal is also subject to the approval of the Court of Queen’s Bench of Alberta as well as other regulatory bodies.

The merger is expected to be completed on or about July 11. PrimeWest Energy Trust and Shiningbank Energy Income Fund are holds.

Provident Energy Trust’s (PVE.UN, NYSE: PVX) subsidiary Provident Energy Resources has closed its acquisition of 96.2 percent of the issued and outstanding common shares of Capitol Energy Resources at CD8.16 per share. The acquisition was financed through existing credit facilities and a bought deal offering of 29.3 million subscription receipts of Provident at a price of CD12.75 per receipt for gross proceeds of approximately CD373.75 million.

The acquisition gives Provident a resource play from a very large oil pool, which is expected to reach production of 7,000 barrels of oil equivalent per day (BOE/d) by 2009. Provident now anticipates 2007 capital spending in its Canadian oil and gas business unit of CD122 million, up CD34 million from the previously announced CD88 million.

The company currently expects total upstream oil and gas 2007 production to be in the range of 33,800 to 36,400 BOE/d, with Canadian production between 24,500 to 26,400 BOE/d and US production between 9,500 to 10,000 BOE/d. Provident Energy Trust is a buy up to USD14.

Thunder Energy Trust (THY.UN, THYFF) unitholders and debenture holders have approved an offer from Aston Hill Financial and Infra-PSP Canada, a wholly owned subsidiary of the Public Sector Pension Investment Board, to acquire all of the outstanding trust units of Thunder for CD4 in cash per trust unit. The arrangement has also received the approval of the Court of Queen’s Bench of Alberta.

The closing of the arrangement was completed June 25 in escrow pending the filing of the articles of arrangement on June 26. Thunder units and debentures will be delisted within several business days following closing. Thunder will be restructured into a private entity under the name Sword Energy. Sell Thunder Energy Trust.

Vermilion Energy Trust (VET.UN, VETMF) subsidiary Vermilion Oil & Gas Australia has acquired an additional 40 percent interest in the offshore Wandoo field. Vermilion Australia now holds a 100 percent operated interest in the field.

The acquisition has an effective date of Jan. 1, 2007, and has received all regulatory approvals. The cost to close the transaction was CD116 million and was financed using existing credit facilities. Buy Vermilion Energy Trust up to USD35.

Electric Power

Countryside Power Income Fund (COU.UN, COUUF) has reached an agreement with Fort Chicago Energy Partners LP to support its cash takeover offer of CD9.60 per unit, for a deal valued at about CD199.8 million (USD188.5 million).

The bid represents a 6.1 percent premium over Countryside’s June 19 close and a 10.9 percent premium to its pre-February 9 announcement that it was putting itself up for sale. Countryside’s board of trustees is supporting the Fort Chicago bid, which requires approval of Countryside’s unitholders.

Fort Chicago owns 50 percent of the Alliance Pipeline, 42.7 percent of the Aux Sable and Alliance Canada marketing companies and 100 percent of the Alberta Ethane Gathering System. The Alliance pipeline is a 3,000-kilometer natural gas pipeline that runs from northeastern British Columbia to markets near Chicago.

Aux Sable operates natural gas liquids extraction, fractionation and delivery systems near Chicago. Alberta Ethane is a 1,324-kilometer ethane pipeline system, which delivers ethane feedstock to Alberta’s petrochemical industry.

Given the underlying weaknesses of Countryside, this is a very good deal that everyone should take if they don’t unload it beforehand. With the shares trading slightly above takeover value, Countryside Power Income Fund is a sell.

Macquarie Power & Infrastructure Income Fund (MPT.UN, MCQPF) reported Monday that 72 percent of Clean Power Income Fund’s (CLE.UN, CEANF) trust units outstanding had been tendered under the offer, making the deal official.

Under terms of the offer, Macquarie Power & Infrastructure (MPT) will issue 0.5581 of an MPT unit and one contingency value receipt (CVR) for each Clean unit. The CVRs represent a right of Clean unitholders to receive their portion of 80 percent of the remaining balance deposited in respect to the sale by a Clean subsidiary of one of its operating units.

But non-Canadian Clean unitholders aren’t entitled to receive MPT units as set forth in the offer unless “it is established to the satisfaction of MPT, whose determination shall be final and binding, that the MPT units and CVRs may be offered and delivered in the applicable non-Canadian jurisdiction on a basis acceptable to MPT in its sole discretion.” If MPT isn’t satisfied, it will aggregate the units that would otherwise be distributed and sell them on the Toronto Stock Exchange, the proceeds of such sale to be paid in accordance with each affected Clean unitholder’s pro-rata interest.

CVR interests held by non-Canadians will be handled in a similar fashion: They’ll be deposited into an escrow account if any contingency payments arise and will be distributed in accordance with each affected Clean unitholder’s pro-rata portion. Macquarie Power & Infrastructure Income Fund remains a buy up to USD12.

Versacold’s Income Fund (ICE.UN, VLCDF) prospective takeover by Eimskep looks more and more like a sure thing. The only thing that could derail it at the 11th hour would be a higher counterbid for the cold storage trust. But that looks a lot less likely than it did earlier this month.

As a result, the only real variable in the share price going forward for US investors is the Canadian dollar exchange rate, which shouldn’t vary by more than a few pennies in either direction. The shares currently trade less than 1 percent below the takeover value, which adds up to about a 2 percent further return from these levels (including likely distributions) at a steady Canadian dollar exchange rate.

I don’t see much risk to holding on until the deal is wrapped up, probably in mid- to late July. In addition, there’s no withholding on the proceeds, so US investors will get the full amount.

Some investors may want to lock in at this point. But unless you can sell it for at least USD11.35, the best course is just to hold on to Versacold Income Fund at this point.

Natural Resources Trusts

Fording Canadian Coal (FDG.UN, NYSE: FDG) will take an CD80 million charge against second quarter earnings to account for future income taxes to be levied by the Canadian government in 2011, a move dictated by accounting rules.

Fording will pay a 65-cent-Canadian-per-unit quarterly distribution July 16 to unitholders of record June 29. The distribution is unchanged from the first quarter. Buy Fording Canadian Coal up to USD30.

PRT Forest Regeneration Income Fund (PRT.UN, PFSRF) unitholders have been urged by PMI-Bancorp Strategic Partnership to vote for a new slate of independent trustees at PRT’s annual meeting. PMI-Bancorp hopes unitholder support for new trustees will allow the trust to move forward “with a plan to diversify and grow the fund’s business and increase the fund’s cash distributions over time.”

John Kitchen, a director of PMI-Bancorp, is also president and CEO of PRT Management, which has managed the fund since inception; he’s also president and CEO of Pacific Regeneration Technologies, the fund’s operating business. In his message, Kitchen noted that “PRT Management doesn’t earn a profit until all unitholders have benefited from an increase in distributions of at least 15 percent above the 2006 payout of CD0.956 per unit.”

A new slate would have a fiduciary obligation to PRT unitholders. PMI-Bancorp hasn’t ruled out a sale of the fund but doesn’t think such a move is wise based on market fundamentals. PRT Forest Regeneration Income Fund is a hold.