2010 Q4 Newsletter December 31, 2010
The final quarter of 2010 provided a strong finish to a solid year in equity markets. Difficulties in Europe and slow job growth in the United States led most central banks to hold interest rates at historic low levels. As well in the United States the Federal Reserve added further quantitative easing to support fragile growth and Congress extended tax cuts to 2012.
LDIC’s performance was +7.5% in the fourth quarter (Q4). Our annual performance of +18.4% exceeded the S&P TSX which gained +14.4% during 2010 and the United States S&P 500 which gained +12.8%.
Seven of our top ten holdings gained during Q4. The average gain was +7.66% with the best gain on HudBay at +22.66%, Keyera at +11.62% and Crescent Point at +16.57%. The three holdings that dropped in value had very modest losses, Canfor Pulp -0.35%; H&R REIT -1.62% and TransCanada -0.47%
Major Portfolio Exits
We exited three equity positions in the fourth quarter.
We sold our position in Aecon following very disappointing Q3 results. Earnings were less than our expectations and their industrials division was surprisingly weaker than management’s guidance. Their buildings division, which had been challenged in recent quarters due to taking on low margin business during the financial crisis, continued to perform poorly. The overall low margins didn’t impress us and we aren’t convinced management has a full grasp of the causes, so we decided to go elsewhere with our money.
Armtec Infrastructure Income Fund
Armtec (formerly known as Armtec Infrastructure Income Fund) had a challenging 2010. Margins were lower than in 2009 due to management bidding on projects at lower margins during the financial crisis of 2008. Cost over-runs, not typical of Armtec in previous years, plagued results throughout the year. We have also been concerned that Armtec will need to raise equity, as the company’s debt levels have continued to climb, especially relative to its cashflows. We decided to exit and will wait until signs of improvement to reenter.
Victoria Gold is a Canadian junior gold company focused on the Eagle project in the Yukon and the Cove project in Nevada. These two main assets have the ability to transform this company from an exploration and small-scale mining story to a meaningful mid-cap gold producer over the next few years. Following the $28M financing in August we accumulated a position in the company. Unfortunately, in November of 2010 the company announced that there had been an “apparent error calculation” at their Cove property in Nevada. Although not seriously material to the company’s overall assets we believe the damage to management’s credibility as well as ability to raise capital have been significantly impaired and thus we exited our position.
Major Portfolio Additions
We added four equity positions during the quarter.
The price of uranium was up 40% in 2010 triggered by investment in nuclear plants from China and India to reduce air pollution and power their economies. It is estimated that approximately 250 million pounds of new uranium production is required to meet reactor demand over the next ten years and with little new capacity coming online we believe prices are going to continue to rise. As a result we added a weighting to Cameco. Cameco is one of the world’s largest and lowest-cost uranium producers accounting for about 16% of global uranium production from its mines in Canada, the US and Kazakhstan.
We decided to add to our holdings in Power Financial during the quarter to increase our exposure to the financial sector. Power Financial is a holding company 66.3% owned by Power Corporation. The company’s major holdings are Great-West Lifeco (68.4% owner), IGM Financial (aka Investors Group, 56.6% owner), and Pargesa Holdings (27.1% owned), a European Holding company which holds several well known companies including Total, the French oil giant, Lafarge, the international cement and concrete company, and Pernod Ricard, a multinational maker of spirits and wines.
Wajax Income Fund
Wajax Inc, formerly known as Wajax Income Fund, owns and operates dealerships for heavy equipment. Wajax is mainly located in western Canada and benefits from the large investments being made in mining, oil & gas, oilsands, and forestry in Alberta and BC. Although margins on sales through the financial crisis varied for Wajax, the company has maintained high operating margins on servicing equipment - in excess of 50% in some cases. Wajax also has a great business selling and maintaining forklifts of all sizes. Rapid expansion of oilsands projects in 2010 and into 2011 should continue to benefit equipments sales for Wajax, which is supported by our view that oil prices will stay high throughout the year, justifying construction of these multibillion dollar projects.
Petrobakken is a light oil producer with most of its assets in Saskatchewan and Alberta. One of their main drilling areas known as the Bakken in southeast Saskatchewan is one of the most economic places to drill wells in western Canada. We decided to buy Petrobakken because it has underperformed the oil price this year and we feel it is undervalued relative to its cashflow potential at current oil pricing. Investors have been concerned that the company will have to raise equity to fund its capital expenditures in 2011; we are much less worried about a potential equity raise with oil floating around $85-$90 where it is currently. The higher oil prices provide additional cashflow from the 40,000+ barrels of oil per day it produces and should solve any financing issues, warranting a higher valuation.
Our outlook for 2011 is positive for the economy and for equity markets. The extension of the Bush tax cuts into 2012 the United States added fuel to the stimulus of low interest rates and Quantitative easing by the Federal Reserve. It is also clear that Fed Chair Ben Bernanke will take further action to stimulate economic recovery and job creation. We expect a gradual recovery in the American economy with evidence of significant job growth by third quarter.
The only obstacles to a recovery may be high energy and metal prices brought on by Asian demand. With oil above $90USD per barrel and copper up 27% to over $4 a pound, there is a possibility that United States recovery may be hampered by high energy prices. Rising interest rates are likely as economic recovery accelerates. This will put downward pressure on bond prices as 2011 progresses.
We anticipate shifting our emphasis from a defensive position to one that is more growth oriented in 2011. We will continue to emphasize energy metals and materials. We will likely shift some of our utility and pipeline trust weighting to growth equities early in 2011.
President and CEO