Market Outlook

We are quite cautious on risk assets right now, especiallystocks.  Stock markets are almost at all-time highs, yet U.S. corporate earnings are declining at rates not seen since 2009.  The most recent rally has been led by yet more central bank easing, or at least dovish comments.  What we have seen the past few years is a move toward global competitive currency devaluation where most central banks saw the opportunity to devalue their currency to export their deflation to the shores of the U.S.A. as the U.S.A. was arguably one of the only economies showing any sort of growth.  Well in the 1Q16, the Fed decided the U.S. dollar was just too strong and it moved to a slightly more dovish stance thereby weakening the U.S. dollar as well.  The question for the markets should be, “Is the U.S. economy strong enough to import all of the world’s deflation and turn it into inflation?” We are not so sure it is and think there is an unexpected risk of deflation, which central bankers are scared spitless about. 

TOP PICKS:

Athabasca Oil 7.5% 11/19/2017 

This senior secured second lien bond moves from a call price of 103.75 to 100.00 on 11/19/16.  ATH will have about $900mm of pro forma cash after a jv with Murphy Oil and only about $800mm of debt, making it likely the only Oil and Gas E+P company on the continent in a net cash position.  About $250mm of that debt is effectively Bank Debt (TLB) that doesn’t mature until after the bonds in May 7, 2019, but interestingly, the TLB has what is called a “springing maturity” built into it.  What this means is that if the bond is still outstanding at all 6 months before it is due (May 19, 2017) then the TLB becomes due immediately.  Effectively, ATH will need to either refinance this $550mm bond, call it and retire it with their substantial cash position, or a combination of both.  The company has said they will pay down about $350-400mm of debt this year.  We feel very confident that this bond will be called on Nov 19, 2016 at $100.00.  With a purchase price of $92.25, we see a total return of about 23 percent, with little execution risk.

Canexus (CUS.TO)

Superior Plus made a formal bid for 100 percent of chemical maker Canexus back in October 2015.  The ratio is .153 SPB shares for every CUS share owned.  This transaction is waiting on regulatory approval from US and Canadian Competition Regulators/Bureaus, which we expect any day.   Currently, CUS is trading at about a 15 percent discount to the deal value.  We see little risk in this deal not going through as the Sodium Chlorate business of CUS that SPB covets is largely a Business-to-Business product and consumers are not likely to be negatively impacted at all.  So we see about a 15% lift in our CUS position once the deal goes through and then we see further upside in holding the new SPB shares for two reasons: 

1) We feel SPB is under-promising and will over-deliver on the cost savings inherent in CUS once acquired and merged

2) We think SPB is a well-run company that will eventually split up or sell off their three distinct divisions. 

Government of Canada Bond 3.5% 12/01/2045 

This is the on-the-run 30yr Government of Canada bond.  We recommend owning some, not so much for capital gains, but rather as a protective measure as part of your portfolio.  Although these bonds only yield about 2.10 percent, they provide some portfolio insurance in case there is a big sell-off in risk assets, like stocks, as there will likely be a flight to safer assets, like Government Bonds, if risk assets sell off.  The other big reason to look at owning them is that if there is an unexpected deflation shock, long bonds will rise substantially…if inflation is the enemy of long bonds, then deflation is the friend of long bonds.  Too few people own a healthy weight in long-dated government bonds as part of their portfolio diversification and risk management.   Being long government long bonds is arguably the most simple form of portfolio risk management that we know of.  Unlike options where you need to pay ongoing premium, not to mention their complexities, government long bonds actually pay you to be long!  It may not seem like much but at least you are getting paid and there may be upside potential for capital gains too.

Past Picks: This is Mr. Tepsich's first appearance on Market Call. He has no prior picks.