The Canadian equity market continued its strong performance with a 3.9% gain in April, bringing the 2016 return to 8.8%. Commodity companies led the charge, with metals and energy producers gaining 70% and 28%, respectively.

In US dollar terms, the Canadian market has added 20.4% so far in 2016 compared to 1.1% for the S&P 500 index and 0.5% for the MSCI World Equities Index. At least the Canadian market (and currency) is giving something back to US based investors after a terrible 2015!

The Dividend Champions portfolio added 17.7% in US dollars or 6.4% in Canadian dollars so far in 2016, although the returns for April was considerably lower than the more volatile commodity-heavy benchmark. Over the 12 months since inception of the portfolio, the Dividend Champions managed to beat its benchmark by 4.2% as indicated in the table below.

Highlights from our selections in April include the sharp gains from two commodity-related stocks, namely Shawcor Ltd. (TSX: SCL, OTC: SAWLF) and Finning International Inc. (TSX: FTT, OTC: FINGF) gaining 20% and 17% respectively. We published full reports on the two companies in the March and April editions of the Canadian Edge highlighting the quality of the operations and the potential for capital gains when commodity prices recover. We are mainly interested in the ability of these companies to sustain and grow their dividends but accept that capital gains can be a welcome addition (or unwelcome subtraction) to overall returns.

TMX Group Ltd (TSX: X, OTC: TMXXF) gained a further 11% in April, bringing the total return to 39% since inclusion in the portfolio in January. The recent pace of appreciation is unlikely to continue, but we are comfortable holding the stock for its 3.5% dividend yield while we wait for the strategic plan of the new CEO to deliver results.

The performance of K-Bro Linen Inc. (TSX:KBL, OTC: KBRLF) remains disappointing, with a further 9% decline in the share price in April. We will get a further update on the state of the business when the company reports first-quarter results on 11 May. We’ll be particularly interested to see how the new Regina plant is progressing.

The cash holding in the portfolio currently amounts to around 8.5%. We intend to hold the cash until we find additional buying opportunities.

Portfolio Changes

Sell our full holding in Royal Bank of Canada (TSX:RBC, NYSE: RBC). As described in the article “Red Hot Spells Danger” elsewhere in the newsletter, we are concerned about a sharp correction in the Canadian housing market and especially in Toronto and Vancouver.

Royal Bank holds a C$274 billion residential mortgage book, which makes up 52% of their total loan book. Sixty percent of this book is loaned to borrowers in Ontario and British Columbia, and one can safely assume that the bulk of the loans are extended to homeowners in Toronto and Vancouver. The book is conservatively managed, and 39% is insured by external parties, but there will be no place to hide if the housing market undergoes a sharp correction. In addition, the mortgage business has provided secure income growth in the past but will create a negative impact on the bank’s profit growth should the mortgage book start to shrink. Other headwinds that the bank is currently facing: declining net interest margins in the low-interest-rate environment and a C$8 billion drawn exposure to energy companies. Therefore, despite a reasonable valuation of 11 times profits and a 4.3% dividend yield, we have decided to sell the holding. 

Increase the holding in K-Bro Linen. The share price of K-Bro has declined by 26% since the peak in June 2015 and now offers a much more reasonable valuation. We first included a small holding in the portfolio in September 2015 and extended the holding to 2.5% in March of 2016 when the valuation became more appealing. This will now be our third purchase in this high-quality operator, which is currently out of favour as the commissioning of the Regina processing plant is temporarily putting profits under pressure. A word of caution: investors may wish to see the first quarter results on 11 May deliver before making a commitment.