Weekly Market Strategy ScotiaMcLeod Portfolio Advisory Group January 14, 2015 In this issue… Canadian Equity Strategy Prudent Moves – CNQ and SU Reduce Capex In this Weekly Market Strategy comment we review recent Scotiabank GBM comments on CNQ and SU. This week, both companies announced F15 capex budget reductions in response to lower oil prices, prudent and logical moves in our view. U.S. Equity Strategy NextEra Energy – Clean and solid growth through renewables We believe the electric distribution utilities will benefit from low fuel and purchased power costs, rate increases and expectations for a warmer summer in 2015 vs. 2014. Fixed Income Strategy Weaker Oil and Softer Inflation Expectations Led Bonds Higher Last Week Bond buying paused last week but finished stronger as softer oil and inflation expectations helped firm the market’s tone. So far this week US retail sales figures have taken center stage with a weak print stirring a strong rally in bonds – the balance of the week will be centered on inflation data. Portfolio Advisory Group
Canadian Equity Strategy
Prudent Moves – CNQ and SU Reduce Capex Warren Hastings, CFA, MBA – Associate Director, Portfolio Advisory Group In this Weekly Market Strategy comment we review recent Scotiabank GBM comments on CNQ and SU. These two companies remain among the high quality E&P names we hold in portfolios owing to balance sheet strength and dividend sustainability. This week, both companies announced F15 capex budget reductions in response to lower oil prices, prudent and logical moves in our view. Year‐End North American Benchmark Information January 9
2014E 2015E
14,384.92
$776.27
18.53
$420.47
2.92%
14,632 $920.00 15.90 N/A N/A 15,000
$900.00
16.66
N/A
N/A
2,044.81
$115.18
17.75
$40.22
1.97%
2,058 $117.00 17.59 N/A N/A 2,225
$126.00
17.66
N/A
N/A
1.00%
1.00% 1.00%
S&P/TSX Composite Index TSX Level/Target
TSX Earnings
TSX P/E
TSX Dividends
TSX Yield
S&P 500 S&P 500 Level/Target
S&P 500 Earnings
S&P 500 P/E
S&P 500 Dividends
S&P 500 Yield
Fixed Income & Currency BoC Overnight Rate
Canadian Natural Resources Limited (CNQ‐
1.655%
1.79% 2.30%
Canada 10‐Year Bond
TSX) ‐ On Monday (Jan. 12/2015), CNQ $1.19
U.S. Dollar/ Cdn Dollar
$1.16 $1.20
reduced its 2015 capex budget from $8.6B to 0.25%
0.25% 1.25%
U.S. Fed Funds Rate
$6.2B (‐$2.4B, or 28%). Most cuts related to 1.94%
2.17% 2.75%
U.S. 10‐Year Treasury
and conventional North American U$1.18
Euro/U.S.Dollar
U$1.21 U$1.13
international operations, and exceeded the Commodities previously noted $2B in flex capital. Kirby U$1,222.52 U$1,266.00 U$1,150.00
Gold
North Phase 1 will see an indefinite deferral, U$48.36
Oil (WTI)
U$93.00 U$60.00
postponing $470M of spend until prices Source: Scotiabank GBM Portfolio Strategy, Thomson Financial, Bloomberg.
stabilize. CNQ noted its thermal resource Please note for Currencies and Commodities, 2014E and 2015E prices are yearly averages. growth plans are on hold until commodity prices stabilize at levels sufficient to justify further investment. Scotiabank GBM analysts see potential for a further round of cuts by mid‐year, estimating an additional $800M‐$1.0B would bring capex in line with cash flow at current crude oil strip pricing. CNQ also reduced its production forecast by 3% to 840‐887 mboe/d (from 869‐916 mboe/d previously). Reductions were driven almost exclusively by conventional North American oil & gas, with oil properties taking the largest hit, seeing a 6% decline in volumes versus prior guidance. Gas production estimates were reduced by 3%. Q4F14 Production at the company’s key Horizon asset was quite strong, averaging 128,200 bbl/d, ahead of the analyst’s 120,000 bbl/d expectation, and the company estimated 2017 all‐in operating costs for synthetic crude oil at just $25‐$27/bbl, with production viable at lower prices. Suncor Energy Inc. (SU‐TSX) – On Tuesday (Jan. 13/2015), SU reduced its 2015 budget ~13% in response to current oil prices to a range of $6.2B‐$6.8B. The reduction was achieved primarily by way of deferral of long‐lead projects MacKay River 2 and the White Rose Extension. Megaprojects like Hebron and Fort Hills continue to proceed as planned, with first production est. for 2017‐2018. Unlike CNQ, SU made no changes to its production forecast for 2015 given capex cutbacks are largely related to non‐sanctioned long‐lead projects. Scotiabank GBM analysts note there is meaningful (40,000 bbl/d) upside in the event of an improvement in SU’s Libyan assets. The analyst believes Suncor stands to benefit from a soft market for energy services, actively accelerating prior opex reduction work and aiming to save $600M‐$800M over 2 years. A future oil price recovery would boost overall economics of the Hebron and Fort Hills projects. January 14, 2015
1
Weekly Market Strategy
U.S. Equity Strategy NextEra Energy – Clean and solid growth through renewables Marco Martin – International Equity Consultant, Portfolio Advisory Group NextEra Energy Inc. provides sustainable energy NEXTERA ENERGY INC
generation and distribution services in the U.S. NEE Bloomberg
Cons. Rating :
4.2 / 5
is the leading producer of green energy and the company specializes in wind and solar energy Summary Data
production. Through its subsidiaries, NextEra Energy Current Price $106.85
Fiscal Year-End:
Dividend:
also operates multiple commercial nuclear power 12-Month Target: $111.06
Total Return:
7%
Yield:
units. NextEra Energy’s subsidiary Florida Power and 52-Week High: $110.84
52-Week Low:
Light is one of the largest and most efficient U.S. ROE
11%
Market Value
utility companies. FPL has developed and operates Earnings Per Share
one of the most advanced and reliable grid Annual
2013A
2014E
networks, resulting in lower customer bills compared EPS:
$3.67
$5.30
P/E Multiple:
18.8
20.2
to the national average. Ticker:
NEE
Date: 14-Jan-15
12/2013
$2.90
2.7%
$86.10
$37,245
(mil)
2015E
$5.65
18.9
On June 27, 2014, NEE spun‐off a portion of its now Source: Bloomberg
82.6% owned NextEra Energy Partners (NEP). NEP is a growth‐oriented limited partnership that owns, operates and acquires contracted clean energy projects with stable, long‐term cash flows. NEP owns interests in ten wind and solar projects, nine of which are operational and one of which is in the final stages of construction. As general partner of NEP, NEE could receive incentive distributions in the future that could materially increase cash flows from NEP. NextEra recently acquired Hawaiian Electric, which is expected to add $0.02‐$0.04 in EPS in 2017 and EPS growth potential of ~9% per year longer term. Management will have the ability to leverage NEE's renewables expertise for Hawaii's clean energy goals. It is expected that NextEra will further evolve its leading renewables/smart grid capabilities in Hawaii and take this knowledge to the mainland. We see NEE benefiting from its sizable capital spending plans which are focused on transmission & distribution investments. As a result of higher than average capital expenditures, NEE’s valuation and leverage is higher than peers. However, we believe this is justified by its higher‐than‐peers earnings growth outlook. NEE trades at a forward P/E of 18.8x, a premium to its 10 year historical average of 14.5x and 17.7x for its peers. NEE earnings are expected to grow 7% over the next three years which compares favourably to the 2% to 3% expected from peers. We believe the electric distribution utilities will benefit from low fuel and purchased power costs, rate increases and expectations for a warmer summer in 2015 vs. 2014. The Bloomberg consensus ratings are 16 Buys, 6 Holds and 2 Sells recommendations with a 12 month target price of $111.06. 2
Portfolio Advisory Group
Fixed Income Strategy Weaker Oil and Softer Inflation Expectations Led Bonds Higher Last Week Andrew Mystic – Director, Portfolio Advisory Group Canadian Bond Yields ‐ Weekly Change Bond buying paused last week but finished stronger January 9 January 2 Change (bps) as softer oil and inflation expectations helped firm the market’s tone. Bonds sold off Wednesday and Canada 2‐Year Bond
0.95
1.00
-0.05
Thursday in anticipation of strong jobs data at the Canada 10‐Year Bond
1.65
1.74
-0.09
end of the week, while oil seemed to find a bottom. Canada 30‐Year Bond
2.22
2.29
-0.08
As the week wore on, downward pressure on oil BoC Target Overnight
1.00
1.00
0.00
resumed sending bonds higher once again. Oil 3.00
3.00
0.00
Prime
finished the week down 8.22% to close at $48.36/bbl U.S. 2‐Year Bond 0.56
0.67
-0.10
after bouncing off a $47.00 low on Wednesday and U.S. 10‐Year Bond
1.95
2.11
-0.17
holding in for the remainder of the week. Despite U.S. 30‐Year Bond
2.53
2.69
-0.16
the selling midweek, both Canadian and US curves Federal Funds 0.25
0.25
0.00
flattened over the week with buying focused in the 3.25
3.25
0.00
Prime
Source: Bloomberg belly (5‐10 years) of the respective curves. The strongest buying pressure was seen in Canadian 7 Bond Index Performance (YTD)
years and US 5 years with rates down 0.056% and 0.145% respectively. On Friday, US December January 9 January 2 Change 0.81%
0.26%
0.55%
change in nonfarm payrolls beat expectations DEX Universe Bond Index (252k vs. 240k exp.) and previous data was DEX All Government Bond Index 0.87%
0.28%
0.59%
revised upward 353k vs 321k (prior print). 0.64%
0.20%
0.44%
However, the market looked past this headline DEX All Corporate Bond Index data and focused on US December average Source: PC‐Bond hourly earnings which missed expectations (‐0.2% m/m vs 0.2% m/m exp.) and fuelled reduced inflation expectations which led to a firmer tone in rates markets. So far this week US retail sales figures have taken center stage with a weak print stirring a strong rally in bonds – the balance of the week will be centered on inflation data. US December retail sales figures (‐0.9% m/m vs. ‐0.1% est. m/m) missed estimates by a wide margin as did the ex‐auto‐and‐gas numbers (‐0.3% m/m vs. 0.5% m/m). There will be no significant Canadian economic data for the remainder of the week, but all eyes will be on US inflation numbers for December. US December PPI is expected to print at ‐0.4% m/m (prior print was ‐0.2% m/m) and CPI at ‐0.4% m/m expected (prior print was ‐0.3% m/m). The PPI print is expected on Thursday while the CPI print will come on Friday. January 14, 2015
3
Weekly Market Strategy
Current PAG Recommendations (changes in blue) 1.
2.
3.
4.
Term Call – We continue to view the risk reward trade off of extending term as insufficient and continue to suggest investors remain defensively positioned within the 1‐5 year term. Having said that, a weaker European backdrop, the impact of lower oil, a softer outlook for Canadian banks and mounting risks in Asia do suggest that rates are likely to remain well contained in the near term. As well, risk embracing investors could potentially benefit from some longer term tactical trades in liquid, government paper. Sector Call – Underweight Canada bonds, overweight provincials, municipals and corporates. With credit spreads having seemingly stabilized recently, we’d suggest there may be some selective value in the BBB sector at the moment. Currency Call – We recommend Canadian investors remain in Canadian dollars for their fixed income holdings. Alternative Strategies – Underweight high yield, underweight emerging markets debt, market weight inflation protected debt. Canadian Curve: Scotia Economics’ January 8, 2015 forecast suggests that Canadian 5-year rate will rise to
2.10% by Q1/16. 10-year and 30-year bonds are expected to rise to 2.45% and 2.90% respectively.
Source: Scotia Economics Forecasts; ScotiaMcLeod PAG 1.
4
Term Call – We continue to view the risk reward trade off of extending term as insufficient and continue to suggest investors remain defensively positioned within the 1‐5 year term. Having said that, a weaker European backdrop, the impact of lower oil, a softer outlook for Canadian banks and mounting risks in Asia do suggest that rates are likely to remain well contained in the near term. As well, risk embracing investors could potentially benefit from some longer term tactical trades in liquid, government paper. Portfolio Advisory Group
Forecasts Returns: We continue to recommend investors remain short duration (1-5year range) although current
market conditions are suggesting that the belly and longer end of the Canadian curve could find some stability
going into 2015 as lower oil prices, a softer outlook for Canadian banks, and broader geopolitical risks could
provide some medium term support for bonds.
Source: Scotia Economics Forecasts; ScotiaMcLeod PAG 2
Sector Call – We recommend investors look to the provincial, municipal, and corporate sectors for yield enhancement. Credit spreads (the yield pick‐up over Canada bonds) still remain relatively attractive. With credit spreads having seemingly stabilied recently, we’d suggest there may be some selective value in the BBB sector at the moment. January 14, 2015
5
Weekly Market Strategy
3 Currency Call – Scotia Economics’ and consensus forecast expectations are for a mixed Canadian dollar performance in the next year, with the major exceptions being the Mexican Peso and USD – which are expected to outperform the CAD. With expectations for Canadian rates to potentially hold in better than the US in the coming year, we continue to believe most investors will benefit from Canadian dollar exposures, as the expectation of rising rates in the front end of the US curve will likely offset the benefit of US currency exposures. Currency Comments: Scotia’s January 8, 2015 forecast is suggesting that the Canadian dollar should outperform
most major currencies by Q4/15, save the Mexican Peso, GBP and USD. Consensus forecasts differ on the
outcome for the Canadian dollar versus the USD with Scotia suggesting the USD will modestly outperform CAD
(+1.12%) while consensus expectations are calling for a modest CAD underperformance of about 1.41%.
Source: Scotia Economics Forecasts; Scotia McLeod PAG 4. Alternative Strategies: Within a broadly diversified portfolio our recommendations are as follows: a) High Yield – We continue to view the high yield sector as carrying risks at this time – particularly given the recent rout in oil and energy stocks. We continue to believe that liquidity and duration extension issues remain a potential concern and that retail investors should remain underweight the sector at this time. b) Emerging Markets – We remain cautious about EM corporates. We recommend reducing bond exposure by shortening duration and staying in the short end and the belly of the curve. We favour corporates with solid fundamentals, minimal government intervention, and low local currency revenue exposure. c) Inflation Protected Bonds – With current real yields in the area of 0.53%, and nominal Canada bonds pricing in an effective long term inflation rate of 1.7% (versus November headline CPI of 2.0% y/y), there does appear to be some modest inflation protection value in RRBs at the moment. 6
January 14, 2015
07/16/09
01/16/10
07/16/10
01/16/11
07/16/11
01/16/12
07/16/12
01/16/13
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01/16/12
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01/16/14
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01/16/09
600
01/16/09
800
07/16/08
1,000
07/16/08
1,200
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1,400
01/16/08
1,600
07/16/07
1,800
07/16/07
2,000
01/16/07
2,200
01/16/07
‐ S&P 500 Index 07/16/06
07/16/06
01/16/06
01/16/06
07/16/05
07/16/05
01/16/05
01/16/05
07/16/04
01/16/04
Index Level
Index Level
Portfolio Advisory Group
Equity Index Returns ‐S&P/TSX Composite Index 17,000
15,000
13,000
11,000
9,000
7,000
5,000
7
8
01/16/11
07/16/11
01/16/12
07/16/12
01/16/13
07/16/13
01/16/14
07/16/14
07/16/11
01/16/12
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07/16/14
07/16/06
01/16/06
07/16/05
01/16/05
07/16/04
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01/16/11
5,000
07/16/10
7,000
07/16/10
9,000
01/16/10
11,000
01/16/10
13,000
07/16/09
15,000
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17,000
01/16/09
19,000
01/16/09
‐Dow Jones Industrial Average 07/16/08
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01/16/08
01/16/08
07/16/07
07/16/07
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07/16/04
01/16/04
Index Level
Index Level
Weekly Market Strategy
‐NASDAQ 5,000
4,500
4,000
3,500
3,000
2,500
2,000
1,500
1,000
Portfolio Advisory Group
Important Disclosures The author(s) of the report own(s) securities of the following companies. None. The supervisors of the Portfolio Advisory Group own securities of the following companies. None. Thomas C. O'Neill is a director of Loblaw Companies Limited and is Chairman of the Board of The Bank of Nova Scotia. Loblaw Companies Limited Paul D. Sobey is a director of Empire Company Limited and is a director of The Bank of Nova Scotia. Empire Company Limited Scotia Capital Inc. is what is referred to as an “integrated” investment firm since we provide a broad range of corporate finance, investment banking, institutional trading and retail client services and products. As a result we recognize that we there are inherent conflicts of interest in our business since we often represent both sides to a transaction, namely the buyer and the seller. While we have policies and procedures in place to manage these conflicts, we also disclose certain conflicts to you so that you are aware of them. The following list provides conflict disclosure of certain relationships that we have, or have had within a specified period of time, with the companies that are discussed in this report. Scotia Capital (USA) Inc. or its affiliates has managed or co‐managed a public offering in the past 12 months. Metro Inc. Scotia Capital (USA) Inc. or its affiliates has received compensation for investment banking services in the past 12 months. Empire Company Limited, Loblaw Companies Limited The Fundamental Research Analyst/Associate has visited material operations of the following issuer(s): Loblaw Companies Limited, Metro Inc. Within the last 12 months, Scotia Capital Inc. and/or its affiliates have undertaken an underwriting liability with respect to equity or debt securities of, or have provided advice for a fee with respect to, the following issuer(s): Metro Inc. January 14, 2015
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Weekly Market Strategy
General Disclosures The ScotiaMcLeod Portfolio Advisory Group prepares this report by aggregating information obtained from various sources as a resource for ScotiaMcLeod Wealth Advisors and their clients. Information may be obtained from the Equity Research and Fixed Income Research departments of the Global Banking and Markets division of Scotiabank. Information may be also obtained from the Foreign Exchange Research and Scotia Economics departments within Scotiabank. In addition to information obtained from members of the Scotiabank group, information may be obtained from the following third party sources: Standard & Poor’s, Valueline, Morningstar CPMS and Bloomberg. The information and opinions contained in this report have been compiled or arrived at from sources believed reliable but no representation or warranty, express or implied, is made as to their accuracy or completeness. While the information provided is believed to be accurate and reliable, neither Scotia Capital Inc., which includes the ScotiaMcLeod Portfolio Advisory Group, nor any of its affiliates makes any representations or warranties, express or implied, as to the accuracy or completeness of such information. Neither Scotia Capital Inc. nor its affiliates accepts any liability whatsoever for any direct or consequential loss arising from any use of this report or its contents. This report is provided to you for informational purposes only. This report is not intended to provide personal investment advice and it does not take into account the specific investment objectives, financial situation or particular needs of any specific person. Investors should seek advice regarding the appropriateness of investing in financial instruments and implementing investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Nothing contained in this report is or should be relied upon as a promise or representation as to the future. The pro forma and estimated financial information contained in this report, if any, is based on certain assumptions and management’s analysis of information available at the time that this information was prepared, which assumptions and analysis may or may not be correct. There is no representation, warranty or other assurance that any projections contained in this report will be realized. Opinions, estimates and projections contained in this report are our own as of the date hereof and are subject to change without notice. Copyright 2012 Scotia Capital Inc. All rights reserved Additional Disclosures ScotiaMcLeod is committed to offering its valued clients a disciplined approach to investing. A hallmark of this approach is access to comprehensive research reports, including fundamental, technical, and quantitative analysis that investors can use to assist them in bringing informed judgment to their own financial situation and investment decisions. In addition to the reports prepared by ScotiaMcLeod through its Portfolio Advisory Group, we also offer our clients access on request to insights in the form of research from other leading firms such as Standard and Poor’s, which offers independent research of relevance to our investment process. Further to your request, please find attached a research report of Standard and Poor’s (or one of its research affiliates), a member of the National Association of Securities Dealers (or similar securities regulatory authority). As Standard & Poor’s is not subject to Canadian regulation, this research report does not conform to Canadian disclosure requirements. ScotiaMcLeod is a division of Scotia Capital Inc. Scotia Capital Inc. is a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada. Neither Scotia Capital Inc. nor its affiliates accepts any liability whatsoever for any loss arising from any use of this document or its contents, including for any errors or omissions in the data or information included in the document or the context from which it is drawn. The content may have been based at least in part, on material provided by Standard & Poor's (S&P), our correspondent research service. S&P has given ScotiaMcLeod general permission to use its research reports as source materials, but has not reviewed or approved this report, nor has it been informed of its publication. S&P’s Stock Appreciation Ranking System is used by S&P analysts to rate stocks within their coverage universe assigning one to five STARS – five STARS – five STARS indicating a “buy” and one STAR a “sell”. S&P’s analysts also provide earnings estimates for these covered issues. S&P’s Stock Appreciation Ranking System is a rank of the potential for future performance over a six to 12‐month period. The STARS selection process relies on a disciplined investment approach that combines fundamental and technical analysis, sector weightings, reasonable turnover, performance‐based bonus system, and a “top‐down” overlay with influence from the S&P's Investment Policy Committee. The overarching investment methodology is “growth at a reasonable price”. Unlike equity valuations from other financial firms, STARS is a forecast of a company's future capital appreciation potential versus the expected performance of the S&P 500 before dividends. ® Registered trademark of The Bank of Nova Scotia, used by ScotiaMcLeod under license. ScotiaMcLeod is a division of Scotia Capital Inc. Scotia Capital Inc. is a member of Canadian Investor Protection Fund. 10
Portfolio Advisory Group
Definition of Scotiabank GBM Equity Research Ratings & Risk Rankings We have a three‐tiered system, with ratings of 1‐Sector Outperform, 2‐Sector Perform, and 3‐Sector Underperform. Each analyst assigns a rating that is relative to his or her coverage universe or an index identified by the analyst that includes, but is not limited to, stocks covered by the analyst. Our risk ranking system provides transparency as to the underlying financial and operational risk of each stock covered. Historical financial results, share price volatility, liquidity of the shares, credit ratings, and analyst forecasts are evaluated in this process. The final ranking also incorporates judgmental, as well as statistical, criteria. Consistency and predictability of earnings, EPS growth, dividends, cash flow from operations, and strength of balance sheet are key factors considered. Scotiabank GBM has a committee responsible for assigning risk rankings for each stock covered. The rating assigned to each security covered in this report is based on the Scotiabank GBM research analyst’s 12‐month view on the security. Analysts may sometimes express to traders, salespeople and certain clients their shorter‐term views on these securities that differ from their 12‐month view due to several factors, including but not limited to the inherent volatility of the marketplace. Ratings Risk Rankings Sector Outperform The stock is expected to outperform the average total return of the analyst's coverage universe by sector over the next 12 months. Low Low financial and operational risk, high predictability of financial results, low stock volatility. Sector Perform The stock is expected to perform approximately in line with the average total return of the analyst's coverage universe by sector over the next 12 months. Medium Moderate financial and operational risk, moderate predictability of financial results, moderate stock volatility. High Sector Underperform High financial and/or operational risk, low predictability of financial The stock is expected to underperform the average total return of the results, high stock volatility. analyst's coverage universe by sector over the next 12 months. Caution Warranted Other Ratings Exceptionally high financial and/or operational risk, exceptionally low predictability of financial results, exceptionally high stock volatility. For Tender ‐ Investors are guided to tender to the terms of the takeover offer. risk tolerant investors only. Venture Under Review ‐ The rating has been temporarily placed under review, Risk and return consistent with Venture Capital. For risk‐tolerant until sufficient information has been received and assessed by the investors only. analyst. January 14, 2015
11