Andras Group Annual Report for 2008
January 9, 2009
Andras Group Annual Report
December 31, 2007 to December 31, 2008
The Markets
We are of the opinion that the worst of the recession will be realized in the fourth quarter of 2008 and first quarter of 2009. The stimulus already in the system and infrastructure spending already announced and to be announced will start to flow into economies in the first quarter and beyond. As economies begin to recover, we anticipate a revival of inflationary pressure. Equity markets should start to stabilize by the end of the first quarter as infrastructure spending begins to have an impact. We may see a considerable bounce back in the second quarter as markets look ahead to recovery in 2010.
The hope that growth in the Developing World would offset recession in the United States and Europe is now dashed. Although economies such as China and India may still be expanding, growth numbers have slowed dramatically as consumers, especially those in the US, retrench. Equity markets around the world have sold off.
The new administration in the United States has inherited an economy in deep recession. The US GDP is estimated to be down 5.5% on an annualized basis in the 4th Quarter, the lowest since 1982. Unemployment is growing. Housing prices in the US continue to fall while mortgage defaults continue to rise. Providing stimulus in the US will lead to sizable deficits for at least the next two years.
Over half of the $700 billion pledged under the Emergency Economic Stabilization Act has been spent on providing liquidity to the US banking system. Credit needs to be made more readily available to individuals and businesses. US Banks are still reserving cash to offset balance sheet hits caused by write downs. Banks in Europe have also been forced to write off huge investments in toxic debt, mostly emanating from the US. Some European banks have become partially nationalized. One leading indicator that credit markets may be starting to thaw is that LIBOR rates have dropped. It is important to remember that a great deal of the negative news is being released at the end of 2008 and the news will get worse before it gets better. Layoffs often jump to frightening levels just as the market begins to get set to move higher. All things considered, if you were told a year ago that Citigroup would be trading in the range of 3$ it is likely that one would have believed that the S&P 500 would be in the 600 range, however we are holding around 800.
The US Dollar has benefited from a fear premium as funds from around the world have flown into the Dollar, widely seen as a safe haven investment. The amount of stimulus being pumped into the US economy and the resulting extreme fiscal deficits should devalue the US Dollar over time. In addition, a combination of low commodity prices and lack of credit have led to the cancellation of some exploration and development projects. These projects represent the new supplies of oil, natural gas, and base metals which will be required to replace reserves being used. Suncor alone has cut back its 2009 capex spending to $3 billion from $10 billion. Once economies begin to recover and demand for raw materials pick up, there will be a limited new supply coming into the system meaning prices could rise as quickly as they fell. A rebound in commodity prices combined with a debased US Dollar would be inflationary. This higher inflation due to higher commodity prices should be beneficial to the Canadian economy. Gold also looks poised to strengthen.
President Obama has stated that the US must become less dependant on Mid-East oil. The move to alternative energy will take at least a decade to make any real impact on the demand for oil. To become independent from non-North American energy sources the US will have to rely on strategic investment in the Canadian oil sands. Programs involving CO2 sequestration, accelerated reclamation, and an emphasis on SAGD extraction vs. strip mining could make bitumen extraction more palatable.
The fourth quarter resulted in lower valuations for equities around the world. North American indices, as represented by the S&P/TSX and the S&P 500 fell 23.53% and 22.56%. However, the flight to perceived quality led to the appreciation of the US Dollar by 15.4% against the Canadian Dollar. This resulted in the S&P 500 falling only 7.16% in Canadian Dollar terms
2008 found markets sharply lower with much of the damage having been done in the fourth quarter. The S&P/TSX fell 35.03% for the year and the S&P 500 fell 38.4%. Every sector of the economy was lower. The only bright spot was the US Dollar which rose 22.03%.
Strategy
We believe the equity markets on both sides of the border are over sold. It should be kept in mind that most of the troubling economic figures being published (especially employment numbers) are lagging indicators. Leading indicators and longer futures are indicating a potential recovery in 2010.
Easing credit conditions and lower write downs levels should be experienced by the global banking system as the subprime debt fiasco works it way through. Canadian banks claim that dividends are safe and will be maintained. As recovery becomes apparent, the share prices should appreciate in value.
The banking system in the US and UK is in crisis and fears of nationalization have spread. The steps taken in the UK to insure bank debt and the proposed “Bad Bank” solution in the United States are creative and should provide the necessary liquidity to avoid socializing the system. The banks have rallied sharply recently.
The Federal Budget in Canada, although not offering any real surprises, did appear to address the flow of credit issues that have stagnated our banking system. These measures should allow credit to flow. The infrastructure spending announced should also offer an immediate jumpstart for the shorter term as well.
The equity value of shares of oil and gas companies could do exceptionally well as demand picks up with any recovery. Lack of new supply and a desire by the United States to break dependence on Mid East oil should benefit Canadian producers. Companies that focus on infrastructure should benefit from Government spending packages.
If the US Dollar falls against the Canadian Dollar an overweighting in Canadian denominated securities will pay rewards over the next several years.
Companies that are relatively well capitalized and have relatively high dividend yields should provide some level of downside protection. Interest rates should remain at historically low levels until there are clear signs of recovery. Once inflation becomes entrenched, interest rates could move much higher impacting the relative performance of interest sensitive equity issues. We do not believe there will be a dramatic increase in interest rates in the near future.
The opinions, estimates and projections contained herein are those of the author as of the date hereof and are subject to change without notice and may not reflect those of Mackie Research Capital (“MRC”). The information and opinions contained herein have been compiled and derived from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. Neither the author nor MRC accepts liability whatsoever for any loss arising from any use of this report or its contents. Information may be available to MRC which is not reflected herein. This report is not to be construed as an offer to sell or a solicitation for an offer to buy any securities. Member CIPF.
Giving back to our community: Toronto Star article
December 19, 2008
We received some positive coverage in the Toronto Star recently. John Andras was recognized for his ongoing anti-poverty work with Toronto’s poor and homeless. From the article:
For Andras, 49, the influential moment came nearly 30 years ago, when he took a year off university to work in a mine in Red Lake, Ont. “At that time a lot of the miners were ex-cons and people who couldn’t fit into the urban environment. A lot were illiterate. I had been to university so they called me ‘professor.’ I ended up teaching some of them how to read.” He learned something, too: that luck and circumstance can make a big difference in how life turns out. “It was eye-opening for me, because up to that point I’d lived a sheltered, privileged existence.” His prominent father, K.B. (Kenneth Bertram) Andras, was a founder of Care Canada. “Dad believed that one would be ultimately judged not by how wealthy and famous you were, but by how much you gave back to society,” says Andras.
Interested in the new TFSA’s?
December 4, 2008
Tax Free Savings Accounts
Now you can save and watch your investments and the income grow tax-free. And not just for retirement – the new Tax-Free Savings Account (TFSA) complements your RRSP by letting you save for any goal you choose, whether it’s a downpayment,a car, a trip or a cottage.
You can contribute up to $5,000 a year and enjoy the income free of tax. Contribution and withdrawal limits are generous and fl exible. It’s the perfect complement to your RRSP and it’s available to all Canadians over 18, even if you’re already retired.
Download our Tax Free Savings Account or contact us to learn more.
Third Quarter 2008
October 1, 2008
“Short Term Markets are unknowable, Long term they’re inevitable”
-Nick Murray
We are witnessing history and it is causing a great deal of uncertainty and it will take time for people to recover emotionally. At the time of writing, the US Senate and Congress have passed the $700 Billion Emergency Economic Stabilization Act. The US and Canadian equity markets, instead of trading higher in a relief rally, saw a broad market selloff to levels below anticipated. It appears likely that smaller investors, with 401K’s and self directed RRSPs in mutual funds, seeing their retirement plans uncertain, panicked and sold equities at any price. The redemptions caused mutual funds and hedge funds to liquidate at any cost. As often happens during Bear Markets, emotion takes control of decision making.
The Global banks cut rates across the board 5 basis points in an effort to put some confidence back in the marketplace and attempt to stave off a global recession. Historically moves such as this have rallied the markets and brought back buyers. The response was muted by the general market malaise, but it has shown the markets that the Central banks are poised to do whatever it takes in a unified effort to shore things up and get credit flowing again.
So far all sectors have sold off and it appears that the beginning of the capitulation phase in equity markets has overwhelmed fundamentals. Stocks are beginning to “return to their rightful owners” as some leveraged hedge funds face liquidation.
Second tier companies, especially those with stretched balance sheets, have been hit the hardest. Growth companies have found it increasingly difficult to fund growth and to roll over existing debt. Oilexco, for example, was a darling of the investment community. The shares were trading at $19.00+ as the company grew by the drill bit in the North Sea. Unfortunately, funding challenges have constrained growth and made the company’s future uncertain. The share price sold down to $3.94. The assets and reserves appear solid. Either the assets, or the company may well be taken over at a deep discount by a better capitalized major oil and gas company with free cash flow.
Toxic debt much of it stemming from the US sub-prime market, strained many US and European banks’ capital ratios and their ability to provide loans. Banks have been hording cash and have been unwilling to lend even to each other. The freeze up in credit is reflected in record LIBOR (London Interbranch Bank Overnight Rate) spreads. The UK has recently pledged assets to shore up their banking system and this has had an impact on the share prices of their banks.
Well capitalized companies with free cash flow will ultimately be the beneficiaries of the current market sell off. Major oil companies, mining companies, financial service companies and industrial companies have an opportunity to purchase assets at a fraction of the values that would have been realized even a month ago. The big will get bigger and the strong will get stronger as it is predicted that there will be consolidation in most market segments. In the U.S. and European financial sector there appears to be emerging an almost Canadian, concentration of large, soon to be highly regulated financial institutions.
There is little doubt that the OCED countries are either in recession or on the verge of recession. Inflation fears are easing as commodity prices fall due to hedge fund liquidations and lower demand. Central banks appear to have room to lower interest rates even further if necessary. However, until some level of confidence returns, it is difficult to see how a further decline in central bank rates will stabilize the markets.
The process and timing of the US sub-prime “bailout” have yet to be determined. Potentially the fund could recapitalize the banking system by $400-$500 billion as frozen mortgage debt will be purchased at fair value (closer to 75 cents on the dollar). Assuming the banks use the recapitalized balance sheets to provide credit, it could result in $4-5 trillion in economic stimulus. Most of the mortgages in the toxic debt instruments are current and are paying interest. Mortgages that default still have the residual value of the underlying property behind them. As mortgages in the debt packages come due, the Fed should be able to recoup most if not all of the funds provided.It is unknown what debt will be taken up and what institutions will be involved but it is hoped, that once the process is made clear, there will be some stability is returning to financial markets and the global credit freeze will begin to thaw.
Moving forward, we anticipate there will be a back to basics approach to investing. Companies with strong balance sheets and stable cash flows that provide high dividend yields should lead the eventual market recovery. Canadian banks, life insurance companies and utilities should perform relatively well.
Strategy
Despite the incredible volatility, it is important to remember that historically Bear Markets decline in the range of 30-35% and that is where we find ourselves. The good news is that once the Bear sees itself through the volatility and a Bull begins the increase is in the range of 180-190%. This is why the historical market trend is up. Sir John Templeton, one of the greatest investors of the 20th century stated, “The four most costly words in the English Language are, this time it’s different. Since WWII there have been approximately 13 bear markets, each lasting anywhere from 12-16 months (one every 5 years or so). The last quarter of the century and the beginning of this century brought about some incredible challenges that caused Bear markets. In the 1970′s we faced rampant inflation, oil shortages and recession; in the 1980′s we faced the challenge of Black Monday; the 1990′s brought the Savings and Loan Crisis, the new millennium brought the bursting of the technology bubble and 911. Each cause has been different and seemed to be catastrophic. What Sir John meant was that althought the causes were different, the recovery from all these crisis was inevitable. We all have frayed nerves and the anxiety will likely continue for the short term, but longer term history has shown that we will make it through this. Attached is a chart which shows the volatility we have faced historically.
The equity investments in the accounts are primarily common shares of highly capitalized companies, that have the balance sheet strength to weather the current economic storm, benefit from the potential takeover of weaker competitors and should emerge stronger and more dominant when economies recover. Among equities, there is an overexposure in Canadian banks and utilities and relative underexposure to highly volatile commodity plays. The dividends should help insulate the portfolio on the downside and your income will remain relatively stable. We believe that there will be a flight to quality and these companies will help lead the indexes higher when the eventual recovery occurs.
As always, we are here to answer any questions and concerns that you have. Please don’t hesitate to call.
Ken, Will & John
The opinions, estimates and projections contained herein are those of the author as of the date hereof and are subject to change without notice and may not reflect those of Mackie Research Capital (“MRC”). The information and opinions contained herein have been compiled and derived from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. Neither the author nor MRC accepts liability whatsoever for any loss arising from any use of this report or its contents. Information may be available to MRC which is not reflected herein. This report is not to be construed as an offer to sell or a solicitation for an offer to buy any securities. Member CIPF.
Member CIPF
Andras Group brochure
September 3, 2008
We’ve published a brochure with some quick facts about the Andras Group. Download the two page .pdf file here.
