2007 Q4 Newsletter December 31, 2007
The fourth quarter of 2007 proved even more turbulent than the third quarter. All of the major indices registered declines as the subprime mortgage lending default forced American banks and other financial companies to take huge losses. Actions have been taken by the Federal Reserve Bank and the US government to mitigate the impact of housing foreclosures. The Fed has reduced interest rates twice by 25 basis points and 50 basis points. The U.S. government has intervened to extend concessionary mortgage rates and reduce foreclosures. The Bank of Canada also reduced interest rates though not as much as the Fed.
Overall, Lawrence Decter Investment Counsel Inc. (LDIC) performance was up 0.95% in the fourth quarter. This outperformed the S&P TSX which declined by 1.89% or 2.84 points. For 2007 LDIC had a gain of 9.50% and outperformed the S&P TSX by 33%. The S&P TSX outperformed both US indices. The Dow Jones Industrial Average was down 4.54% and the broader S&P 500 declined 3.82% in the fourth quarter.
On average, our top 15 positions experienced a 5.7% gain during the fourth quarter. Eight securities were up with a 48.5% gain for Armtec Infrastructure Income Fund and a 38.7% gain for Migao Corp. Seven securities were down lead by Hudbay Minerals Inc with a 24.3% decline.
Major Portfolio Changes
Axia NetMedia (AXX)
Brilliant Mining (BMC)
SXC Health Solutions (SXC)
Verenex Energy (VNX)
In the fourth quarter of 2007 LDIC took a disciplined approach to tax planning. Where appropriate, equities were sold for tax loss realization purposes. These equities included Axia NetMedia, Brilliant Mining, SXC Health Solutions, and Verenex Energy. We continue to believe in the fundamentals of these companies and their longer-tern growth prospects although, we did not believe there to be sufficient near-term catalysts to lift these equities higher. In 2008, we will re-visit the potential of reinvesting in these companies.
Royal Bank of Canada (RY)
Although Royal Bank’s fourth quarter net income rose 4.9%, primarily due to a gain from its investment in Visa it also took a C$160 million writedown to the value of its holdings in subprime residential mortgage-backed securities and collateralized debt obligations. Although a lesser writedown compared to other Canadian financial institutions, we believe the risk of further writedowns going forward outweighs potential growth. We have focused on non-bank financials such as Power Financial that have no exposure to subprime mortgage or asset backed paper.
Altius Minerals Corporation (ALS)
Altius Minerals Corporation is engaged in the generation and acquisition of interest in projects related to natural resources in the Province of Newfoundland and Labrador. Altius holds a 10% interest in the return royalty in the Voisey’s Bay, a small investment in Aurora Energy Resources and a 37% interest in the Newfoundland and Labrador Refining Corporation (NLRC). NLRC is a private company developing a 300,000 barrel a day advanced oil refinery in southeastern Newfoundland with a strong provincial government support for the project. Altius will be increasing its ownership in NLRC up to a maximum of 51%. The refinery is poised to be the first slated for construction in North America in three decades. We anticipate value-creation as Altius’ management continues to source new opportunities while focusing on developing the refinery.
CAE Inc (CAE)
CAE designs, manufactures and supplies simulators and integrated training solutions for the civil aviation industry and defense forces globally. The Company operates a network of 24 aviation training centers worldwide equipped with over 110 full-flight simulators and trains more than 50,000 pilots annually. We like the global aerospace sector and CAE specifically for three main reasons. Firstly, training backlogs which will continue to drive demand for simulators training. Secondly, CAE has significantly higher revenue after expenses compared to its peers. Thirdly, the Company continues to win lucrative contracts globally. Therefore, we believe given CAE’s attractive valuation, strong balance sheet and near-term hedge against foreign exchange volatility, the Company is well positioned to take advantage in the growing global aerospace sector.
Franco-Nevada Corp (FNV)
In November 2007, Franco Nevada raised $1.2 billion in an Initial Public Offering (IPO). This deal stands to rank as the largest mining IPO in North American history and the third-largest stock listing ever on the TSX. Founded in 1982 by Seymour Schulich and Pierre Lassonde, Franco Nevada was among the top performing stocks in the 1980’s and 1990’s. Franco Nevada holds roughly 190 mining royalties and interests and 100 oil and gas royalties around the globe. Its royalty structure is attractive because of the steady stream of income and it allows us to increase our exposure to metals and energy while insulating us from increasing production and construction costs associated with these sectors.
New Flyer Income Trust (NFI.UN)
New Flyer Industries Inc. is the leading manufacturer of transit buses in the United States and Canada. Headquartered in Winnipeg, New Flyer has 42% market share and a 77 year operating history and relationships with 250 transit authorities. The average customer relationship is approximately 8 years old, which has translated into 83% of New Flyer’s revenue being recurring. New Flyer is one of the industry’s lowest-cost manufacturers and as of October 2007 and held a $3.1 billion backlog or 72% increase over December 2006. Further, New Flyer uses fixed-cost contracts to minimize the risk of profit loss due to fluctuations in material costs. Higher energy prices result in greater demand for public transportation and a greater push for investments in public infrastructure. New Flyer also pays an attractive 9.2% yield while successfully reducing its payout ration which, now stands at a conservative 72%.
Power Financial Corp (PWF)
During the quarter, we added to our Power Financial position which is a diversified international management and holding company. It holds interests in financial services companies in Canada, US and Europe, and a controlling interest in Great-West Lifeco and IGM Financial Inc. In 2007, through its Great West Lifeco subsidiary, Power Financial acquired Putnam Investments, one of the oldest and largest investment managers in the US with US$192 billion in assets under management. Over the past 15 years, Power Financial has demonstrated a significant ability to create value for shareholders with a 23% ten-year annual compounded return and a 1,400% increase in market capitalization. Earlier in the year, Power Financial increased its dividend by 2.25 cents or 7%. Power Financial has proven to be insulated from the credit crunch problems that have weighed down other financial institutions and it continues to be one of our top picks.
Although the recession word is being heard more frequently, The Economist Survey of Forecasting is still finding a consensus of 2% economic growth in both the United States and Canada. Goldman Sachs are forecasting a recession but with 0.8% overall growth for 2008. Our outlook for 2008, while moderately positive for the Canadian economy, anticipates a more difficult American economy and continuing negative and turbulent equity markets. The disconnection between the US economy and the US equity markets is likely to be resolved by a decline in US equity prices in 2008. Due to
China demand supporting oil and metals prices and the stronger fiscal and trade circumstances of Canada, it is our expectation Canadian equity markets will have a modest but positive year in 2008. China’s growth is not export dependent. Net exports are responsible for only 20% of China’s growth. China is becoming an economy more focused on its growing domestic market.
Our response to a more pessimistic view of 2008 will be to shift investments towards a more defensive stance and to emphasize protection of capital. These shifts will seek to benefit from strength in particular sectors such as energy and gold while avoiding risk posed by a recession. We will also continue to hold income generating equities and trusts that will benefit from lower interest rates.
Michael Decter President and CEO
In an effort to be a good corporate citizen we recognize the need not only to manage your personal financial investments but to also manage our corporate responsibility of our global community, and to do business in a different way. The Holiday Season we redirected the Christmas party costs to purchase Anti-Malaria Nets for children in Africa through UNICEF. We believed, act and recognize the importance and would like to share with you other contributions LDIC has made in 2008.
The National Ballet of Canada
Providence Healthcare Foundation
The Chirdren’s Aid Foundation
Father Murray Foundation
Canadian Women’s Foundation
Canadian Safe School Network
The Loft Community Services