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Income and Yield

Eight bond picks to consider for the new year

By Andrew Allentuck
Globe Investor Magazine Online, December 27, 2007

The bond market has turned into a seller's nightmare - just ask anybody who holds locked up asset-backed commercial paper. But that means it's a buyer's once-in-a-decade dream.

There are bargains lying around for investors who are prepared to bet that none of Canada's chartered banks will walk away from their senior debt obligations, that big global banks have the moxie to pay their debts and that senior telecommunications and industrial companies can weather the storm.

Institutional investors have been selling bonds of major banks just to clean up their books by the Dec. 31 end of year reporting date. "Insurance companies and pension funds want to offload their bank bonds to get their exposure down," says Ed Jong, a vice-president and portfolio manager at bond specialist Majorica Asset Management in Toronto. "There are a lot of sellers and not many buyers." Here are eight bond picks to consider:

1. Bank of Nova Scotia 4.93 per cent of June, 2010 deposit notes yielding 4.9 per cent to maturity. "These AA-rated senior deposit notes offer 114 basis points over Government of Canada bonds that pay 3.76 per cent. "I guarantee absolutely that the Bank of Nova Scotia will not go up in smoke before these bonds are due and probably not even after," says Tom Czitron, vice-president and head of fixed income and structured products at Sceptre Investment Counsel Ltd. in Toronto.

2. GE Capital senior note, 5.1 per cent due June, 2016.
This nine-year, AAA rated bond offers 120 basis points over Government of Canada bonds at 3.9 per cent. Their yield to maturity is 5.25 per cent. "GE is a great credit and you are picking up 100 basis points," Mr. Czitron says.

3. Merrill Lynch & Co. 4.5 per cent due January, 2012.
These yield 6.22 per cent to maturity, compared to a five-year Government of Canada at 3.85 per cent. A so-called Maple bond issued outside of Canada, but sold in Canadian dollars for Canadian investors, it has an A+ rating from Standard & Poor's Corp. "S&P has given the rating a negative outlook, but it's still an investment grade bond from a great name," albeit with a negative outlook, says Craig Allardyce, vice- president and portfolio manager at Mavrix Fund Management Inc. in Toronto.

4. Manulife 6.24 per cent due February, 2016, with a 5-per-cent yield to maturity.
A double A bond from a non-bank financial services company, its 105 basis point yield premium over three-year Government of Canada bonds has widened along with banks. "It offers an attractive valuation for investors," says Michael McHugh, portfolio manager at Dynamic Funds in Toronto.

5. Mortgage-backed securities resell home loans from Canada Mortgage and Housing Corp.
These bonds, in scores of identical issues, yield 29 basis points over five-year Canada bonds that pay 4.14 per cent to maturity. They are also fully guaranteed by the Government of Canada. Why should one set of Government of Canada bonds pay more than another set?

"There is a perception that they are mortgages," Mr. Jong said. "In this market, that is a reason for some investors to sell them. But these bonds present good value and should do well."

6. Highway 407 International Inc. 4.9 per cent of October, 2010.
These bonds trade at 88 points over a three-year Canada that pays 3.8 per cent to maturity. Rated single A by S&P, it is closely held by SNC Lavalin and partners. "There is little risk of a leveraged buyout and the usual consequence of increased debt to pay for the purchase," Mr. Allardyce says.

7. Shaw Communications 5.7 per cent of June, 2017.
These bonds are rated BB, which is below investment grade. But the bond has a yield to maturity of 6.25 per cent. The company is a regulated business, so its cash flows are stable, explains Barry Allan, president of high-yield bond specialist Marrett Asset Management Inc. in Toronto.

"They have to increase borrowing as Telus begins to compete with them in video and Shaw competes with Telus on wireless," he explained. "But Shaw's free cash flow generation is very strong."

8. Sherritt International Inc. 8.25 per cent of October, 2014.
The yield to maturity on these bonds is 8.25 per cent. Sherritt has no net debt, Mr. Allan notes. "This bond is rated BB, which is below investment grade," he said. "But the company has huge upside to the commodity cycle over the next 10 years."

Sherritt has political risk because of its mining operations in Cuba. That, Mr. Allan explains, pushes this bond down from BBB, which is marginal investment grade, to BB, which is just below it. Special to the Globe and Mail

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