A Comment -- General Comments From an Expert (A Commentary)

Markets. When reality sets in, Trump will not be able to sustainably increase US growth. We will still live in a slow growth world with an aging population and high debt levels. Talk of tax cuts is positive for the markets. Tax cuts are nice but there is a lot of rhetoric about trade barriers and that is negative for markets. He would take profits on the banks because they had a huge, huge run up. The avenues for growth are not obvious. The opportunities are sectors that got pummeled. Alternative energy, utilities, companies with growing dividends, and spots within infrastructure look promising.

Market. Fixed income has been a risk on trade since Trump won. When you look at this as a whole, fixed income is one area where investors stand to be shocked in 2017. Given that yields have been so low, investors had been pushed to take more and more risks to get any sort of net positive yield. For many investors, especially retail ones, it has often meant going from provincials and governments to investment grade, and from investment grade to high yields. Many investors confuse the word bond with safety, even in the high-yield space, which is very much correlated to the equity market. He has been short on the duration curve for a while, and his message to clients is that fixed income is going to get you 2%-2.5%, and it doesn’t get any more exciting than that. It is very difficult to add value, trading fixed income in this market unless you are a large institution. The best thing he would suggest is to use a passive strategy for fixed income, and look to make extra returns on the equity. As soon as you start stretching, you get into the lower quality debt, which has a whole slew of issues itself.

Market. Everybody was surprised that there was a Trump win, but there was also supposed to be gridlock. There is now an opportunity for 3.5%-4.5% of GDP growth at the end of the stagnation, and that is what the markets are really cheering here. Interest sensitive stocks are definitely vulnerable here. Thinks pipelines are maybe going to 18 or 19 times, and banks, etc. going more to 13 or 14 times. There are tons of opportunities both on the US and Canadian markets.

Market. Trump has some very good economic policies, which is positive for the economy. The issue we are going to face is, are we going to have the candidate Trump in the president’s office or are we going to have a president Trump. He assumes that he is what his family says he is. If so, his policies on the economy are very good. He will get tax cuts through fairly quickly. Believes that in his first 100 days he will stop regulations in their tracks, and do a review department by department to find out how many of those regulations they actually need, and which ones they can get rid of. Corporate tax cuts are going to be important for the bottom line of earnings, and the economy may actually pick up some steam next year. The first 3 or 4 weeks following the election was a sector rotation moving out of dividend paying. The banks along with everything else are starting to react, and he thinks that is the shift that is coming out of the bond market. The credit quality of borrowers has improved. We have now been 6 years since the financial crisis. There has been massive deleveraging going on in the US. People that couldn’t get loans 3 years ago, actually qualify today. Banks are now loaning pretty close to where they were at the time of the financial crisis, which has been a short-term phenomenon within the last 6 months. A 1% rise in interest rates has a 16% hit to the bottom margins of a bank, an amazing leverage factor. The banks are well positioned and well capitalized.

What do you think of Scotia Bank Split Shares? Scotia essentially bought their own stock and managed it as a fund. They basically split their shares in half, which means investors can buy capital shares which participates in the growth of the bank and any growth in the dividend; or they can buy the preferred shares which captures the excess dividends that the company pays. The preferred shares are very safe in this product. Think of them as a deep in the money covered call write. The capital shares are effectively a Call option, and the way you make your money on that is that they distribute the excess gain and dividends to the unit holders, on a monthly basis, which is why there is a fairly hefty dividend. He likes the banks.

Is Black Scholes still relevant? Black Scholes is the model used to price options. One of the factors in this model is interest rates. In theory, if interest rates are declining, you would suspect option premiums to be lower. That is not exactly true. Interest rates are only one factor in the equation. The other offsetting factor is dividends. So really, when you are pricing an option, you are pricing a Call versus a Put. That is the arbitrage Play. If he buys a stock, collects the dividend, and sells a Covered Call against it, he is getting a dividend and that is part of the pricing of what affects that Call option. He can write a Put option, and put the money that he would’ve put into the stock into cash, which is exactly the same position. The Put option needs to pay him more in today’s environment, because if the underlying stock has a 4% dividend, the risk-free rate of return on that cash is actually only 1% or less. Because of this, he gets a higher value for the Put and a lower value for Calls. If interest rates rise, one would think that that parity would start to narrow.

An ETF that tracks the Russell 2000 or one that tracks US regional banks? In a stronger economy, small caps are going to benefit. One would look at a number of regional banks in the US, and they would actually fall into that small-cap category. Neither one of these is a bad play on the US economy. His inclination would be to move to the Russell 2000, as he thinks it is more diversified.

A strategy for a retail investor to play a lower Cdn$ vs the US$? There is a US currency ETF that trades on the Philadelphia exchange. You can buy a Cdn$ one and buy puts on it. He is not sure that there is going to be a problem with the Cdn$, and would encourage you to look at the performance of the dollar since the election. The US$ has been on fire, and of course the world hears that, and tends not to hear too much else. The Cdn$ has actually held in pretty decently against the US$, and many other currencies have not. It leaves him to think that 1) we have some strength in the value of oil, which has been a reason it has bounced up just recently, and 2) he doesn’t think Trump is going to come down hard on NAFTA, but is going to tweak it.

A dividend ETF with some growth for a retiree? If you are a retired person drawing income, then he would look at something like the Premium Income Corp Preferred A (PIC.A-T). However, if you are looking for dividend growth, you could look at iShares Cdn Dividend (XDV-T).

Strategies behind selling Puts? This is an interesting concept. If you were selling a Put, what you are really doing is taking out an obligation to buy an underlying security at a specific price. EG. If he sold a Put option at $110 on a stock trading at around $111 today, all he has really done is committed to buying the stock at $110, and he gets a premium for doing that.

Options versus Leaps? The problem you have with Leaps is that the liquidity is not as strong as it is on shorter term options, and the Bid/Ask spread can be quite wide. Rising interest rates won’t have an impact on the premiums as a whole. The only impact it will have is the value of a Call relative to a Put, which is nothing more than the arbitrage which creates the structure that allows you to take a position with Calls or Puts in exactly the same position. If he buys a Call he is going Long, it is exactly the same as buying a stock plus a Put to protect his downside.

Markets. He is a picker of asset classes and countries. The US election was viewed by markets as the outcome being very binary. Then look what happened. The markets did not tank. Both candidates were united on fiscal expansion. Both platforms were built on massive spending. He would challenge the view that people should overweight US equities now that Trump has gotten in. That stock market is one of the most expensive in the world. There are better opportunities elsewhere. New emerging market crisis have not materialized. Emerging markets have already had a big slow down. He is bullish on emerging markets.

Biotech after the election. There has been a lot of damage already to the biotech sector and with Trump it is still wait and see.

He has been rotating out of US bonds. If you are rebalancing away from income you want to look globally. The options are slim for retirees. Look at emerging market bonds. He would not rotate out of the asset class. Emerging market debt space is very attractive. LEMB-N is an attractive ETF.

Market. Everything is going up. At this stage, the rally is getting pretty mature. December is typically a good month. The Santa Claus rally probably came early this year. It is pushing some of the sectors, like financials and cyclicals, quite a bit. If the scenario unfolds as the optimists assume, then he thinks the rotation would be justified, but there is a lot of work to be done yet. Expects there will be a correction early in the new year. The 1^st quarter might be a different story, partly as the market is a little stretched. Also, in last 2 years, the 1^st quarter there has been some seasonal weakness in the US economy, which would be a good place for a correction.