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S&P 500 Valuation Dashboard – December Update

Summary 5 key fundamental factors are calculated across sectors. They are compared to historical averages. It results in a value score and a quality score for each sector. This article is part of a monthly series giving a valuation by sector of companies in the S&P 500 index (NYSEARCA: SPY ). I follow some fundamental factors for every sector and compare them to historical averages, so as to create a synthetic dashboard with a Value Score (V-score) and a Quality Score (Q-score). The choice of the valuation ratios has been justified here . The Q-score uses the Return on Equity (see why here ). In this series you can find numbers that may be useful in a top-down approach. There is no individual stock analysis or recommendations. You can refine your research reading articles by industry experts here . Methodology The median value of 4 valuation ratios is calculated for S&P 500 companies in each sector: Price/Earnings (P/E), Forward Price Earning for the current year (Fwd P/E), Price to sales (P/S), Price to free cash flow (P/FCF). It is compared to its own historical average Avg. The difference is measured in percentage (%Hist). For example, %Hist= 10 means that the current median ratio is 10% overpriced relative to its historical average in the sector. The V-score of a sector is the average of %Hist for the 4 factors, multiplied by -1, so that the higher is the better. The Q-score is the difference between the current median ROE (return on equity) and its historical average. Why and how using median values Median values are simpler than capital-weighted averages or aggregate ratios on each sector considered a mega company. They are also better reference data than averages for stock-picking. Each number in the table below is the middle point of a sector data set, which can be used to separate the good elements and the bad ones for the sector and the factor. Median values are also less sensitive to outliers than averages. A note of caution: for ETF investors, the most relevant valuation ratio would be the result of an aggregate calculation, neither a median value nor a capital-weighted average of individual stock factors. Example The next chart shows an example: the median P/E for all S&P 500 companies (updated on the week of publication). (click to enlarge) The latest value is compared to the average of the reference period to calculate %Hist. Sector valuation table on 12/14/2015 The next table reports the median valuation ratios. For example, the P/E column gives the current median value of P/E in each sector. The next “Avg” column gives its average between January 1999 and August 2015, which is my arbitrary reference of fair valuation. The next “%Hist” column is the difference between the historical average and the current value, in percentage. So there are 3 columns relative to P/E, and also 3 for each ratio. The first column “V-score” shows the value score as defined above. V-score P/E Avg %Hist Fwd P/E Avg %Hist P/S Avg %Hist P/FCF Avg %Hist All -18.48 21.15 19.18 10.27 16.6 14.83 11.94 2.16 1.58 36.71 28.41 24.7 15.02 Cons.Disc. -19.48 20.07 18.7 7.33 15.99 14.56 9.82 1.61 1.12 43.75 27.52 23.52 17.01 Cons.Stap. -31.01 25.6 20.48 25.00 19.57 16.27 20.28 2.33 1.54 51.30 50.06 39.28 27.44 Energy -7.36 20.31 17.8 14.10 25.89 14.38 80.04 1.48 1.94 -23.71 18.05 30.59 -40.99 Financials -36.60 18.19 16.16 12.56 14.77 12.38 19.31 2.81 2.03 38.42 21.59 12.26 76.10 Healthcare -6.04 27.92 23.76 17.51 16.3 16.85 -3.26 3.38 2.93 15.36 28.41 30.04 -5.43 Industrials -10.82 18.66 18.75 -0.48 16.15 14.52 11.23 1.47 1.24 18.55 29.25 25.66 13.99 I.T. & Tel. 2.22 24.79 27.16 -8.73 16.47 19.29 -14.62 3.17 2.72 16.54 25.48 26.02 -2.08 Materials -19.35 22.41 19.74 13.53 16.92 14.36 17.83 1.37 1.15 19.13 34.94 27.53 26.92 Utilities -27.66 17.63 15.21 15.91 15.81 13.15 20.23 1.63 1.11 46.85 Energy: P/FCF Avg starts in 2000 – Utilities: P/FCF not taken into account because of frequent outliers in this sector. V-score chart Sector quality table The next table gives a score for each sector relative to its own historical average. Here, only one factor is accounted. Q-score (Diff) Median ROE Avg All -0.50 14.43 14.93 Cons.Disc. 3.99 21.33 17.34 Cons.Stap. -2.86 21.2 24.06 Energy -14.14 0.75 14.89 Financials -2.38 9.93 12.31 Healthcare -4.71 12.89 17.6 Industrials 2.90 19.85 16.95 I.T. & Tel. 1.88 14.99 13.11 Materials 4.85 18.74 13.89 Utilities -2.25 9.1 11.35 Q-score chart Interpretation The S&P 500 looks overpriced by about 18.5% relative to the historical reference period. Since last issue’s statistics (11/10): SPY is down by more than 2.5%. Overpricing has increased by about 1%. Quality is stable globally and for every sector. 4 sectors have improved in valuation: Energy, Consumer Discretionary, Consumer Staples and Industrials. The only attractive sector regarding these metrics is Technology (including Telecom). It looks underpriced and has a median ROE above the historical average. The least overpriced sector among the rest is Healthcare. The most overpriced sector is Financials. For Materials, Industrials and Consumer Discretionary, a quality factor better than the historical average can justify at least a part of the overpricing. If you want to stay informed of my updates on this topic and other articles, click the “Follow” tab at the top of this article. Data: portfolio123

Algonquin Power: U.S. Dollar Dividend, Canadian Dollar Share Price, And Huge Insider Ownership

Algonquin Power is getting lots of love from Canadian stock analysts. It has a unique structure of paying its dividend in US Dollars, removing foreign exchange risk for income investors. Insiders own 19% of the company. Algonquin Power and Utilities ( OTCPK:AQUNF ) (AQN.TO) is a Canadian-based electric, natural gas, and water utility serving 488,000 customers. US investors are offered an interesting combination of above-average dividend growth paid in US Dollars while gaining exposure to the benefits of a falling US Dollar with a company well liked by Canadian research analysts. Management expects 15% growth in assets, approximately 15% growth in adjusted EBITDA and greater than 10% growth in adjusted EPS. In Canada, the majority of assets are in renewable power generation while its US footprint is strong to utility distribution with 31 electric, gas, and water businesses. Algonquin Power’s cross-border structure provides an interesting twist for US investors: Income is paid in US Dollars and share prices trade in Canadian Dollars. While dividend growth investors may turn their heads at a huge dividend cut in 2009, an understanding of the company’s structure should overcome this stigma. Water will be a bigger part of Algonquin Power. AQUNF is working on acquiring the water utility assets of private equity firm Carlisle Infrastructure Group LLC. After the acquisition of California and Montana based Park Water is complete, Liberty Utilities will be the 6th largest US water utility by customer count. However, two municipalities, Missoula, MT and Apple Valley, CA are trying to purchase their respective water districts and have been aggressive in filing court documents seeking to force these businesses back into the public domain. Until these issues are resolved, the acquisition cannot proceed. The company recently expanded its Distribution footprint into New England with the purchase of New Hampshire’s Granite State Electric Company and Energy North Natural Gas. In addition, Algonquin Power announced its participation in the Northeast Energy Direct project, a $5 billion natural gas pipeline project that will connect Marcellus production to the Northeast. Algonquin Power went public during the Unit Trust craze in Canada and converted to a C corp. when the Canadian government clamped down on its abuses. In the conversion process, AQUNF cut its dividend in 2009 by 74%, but has been raising dividends since then. The current 5-year dividend growth rate stands at 15.5%. The dividend was most recently increased last June by 10.3%. Based on a $7.70 price for AQUNF (C$10.31 for AQN.TO) and a $0.384 dividend, the current yield is 4.98%. Algonquin Power is expected to earn C$0.43 this year and C$0.50 next. This is slightly less than its dividend, creating a payout ratio of over 100%, but the firm’s trends are positive. Based on its most recent 5-year, $4 billion capital expansion plan, the company is targeting growth in assets and EBITDA of 15% CAGR, EPS and cash flow growth of 7-10% CAGR, and 10% dividend growth rate. More information on its capital plans can be found in its most recent Investor’s Day Presentation pdf. Below is a graph of past and expected EPS, in Canadian Dollars. Source: S&P Algonquin Power is getting lots of love from Canadian stock analysts. For example, BMO Research (Bank of Montreal) recently issued a review reiterating its Outperform rating: Algonquin Power saw its target price increased to C$12.50 from C$11.50 at BMO Research, following an investor day it hosted on December 1. The broker reiterated its outperform view. BMO said Algonquin remains one of its best ideas in power and utility. It also noted that Algonquin is now comprehensively viewing its business from a horizontal and vertical lens to broaden and capture additional growth opportunities. Clear is that this strategy has been successful and expanded its secured opportunity set and provide further support to the 10% dividend growth guidance through 2020, the broker added. BMO increased its EPS estimate to C$0.52 for 2016 while reducing its 2017 forecast to C$0.59. The 2015 outlook remains at C$0.43. BMO is not the only broker who likes Algonquin Power. From Dakota Financial News : A number of other brokerages also recently commented on AQN. RBC Capital lifted their price target on shares of Algonquin Power & Utilities Corp from C$11.00 to C$12.00 and gave the company an “outperform” rating in a research report on Thursday. TD Securities lifted their price objective on Algonquin Power & Utilities Corp from C$11.00 to C$11.50 and gave the stock a “buy” rating in a research report on Monday, November 9th. Scotiabank lifted their target price on shares of Algonquin Power & Utilities Corp from C$11.00 to C$12.00 and gave the stock a “sector perform” rating in a research note on Monday, November 9th. CIBC boosted their price objective on shares of Algonquin Power & Utilities Corp from C$6.50 to C$7.00 and gave the company a “sector outperform” rating in a research note on Thursday, November 26th. Finally, Macquarie began coverage on shares of Algonquin Power & Utilities Corp in a report on Thursday, November 26th. They set an “outperform” rating on the stock. As most international investors know, the sharp spike in the value of the US Dollar has hurt the valuation of its holdings when converted back into USD. For example, the 26% decline in the value of the Canadian Dollar has caused a decrease in dividends paid in Canadian dollars by Canadian firms. When both were at parity, a $1 in Canadian dividends was worth $1.00 in USD. However, currently the same Canadian dollar would translate into $0.734 in USD. Algonquin Power’s unique dividend policy is to pay its dividend in USD for US investors as to make the income portion of an investor’s total return unaffected by the trials and tribulations of the international foreign exchange market. Algonquin Power is able to do this because 80% of its EBITDA is generated in the US and is paid to the company in US Dollars. This attribute should be both a comfort and an advantage to income investors. On the share price side of total return lies an interesting opportunity. If you believe the USD is overvalued compared to the Canadian Dollar, investing in Canadian-listed stocks could provide an interesting boost in potential capital gains. Below is a chart of the US-listed AQUNF (black line) and the Toronto-listed AQN.TO (gold line): The major difference is the slide in the exchange rate starting in Nov. 2013. Over time, if the current exchange rate moves back to parity, share prices should respond positively. However, in the short term, as the US Fed begins to raise rates while the Canadian Central Bank either loosens or maintains its low rates to combat its current commodity-generated economic weakness, the move towards higher exchange rates will favor the US rather than Canada. Insider ownership is substantially larger than most utilities. From Algonquin Power’s tear sheet pdf, insiders own 19.6% of the outstanding stock. Regardless of industrial sector, this level of insider ownership usually connects the retail investor and management at the hip, and should be viewed as a positive attribute. Over the medium term, Algonquin Power should continue to increase its US assets through expansion of alternative power generation and acquisition of smaller US utilities, almost in a roll-up type process. Management’s growing customer base covers the major types of utilities in electric, natural gas, and water services. This allows the company to review opportunities over multiple sub-sectors of the utility sector. Although a cursory review of its dividend history could prove unsettling, I would consider the current dividend supported by management’s growth plan as being a reliable source of income. Investors looking for comfortable utility dividend income and a play on both above-average industry growth and a rebound of the Canadian Dollar over time should review AQUNF. Previous articles on Algonquin Power can be found from Oct. 2014 and March 2015 . I have been long AQUNF since Sept. 2010. Author’s Note: Please review disclosure in Author’s profile. Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

3 Income Funds You Should Hold In 2016

Summary If 2015 has taught us anything it’s that there is a high degree of risk in individual high yield sectors such as master limited partnerships and junk bonds. My top income themes for 2016 are centered around large, diversified, and proven investment vehicles that circumvent the hit-or-miss proposition of individual sectors. I think you will find these actively managed mutual funds and low-cost ETFs offer attractive characteristics as core holdings for nearly every style of income investor. Forecasting where the market will end up in 2016 is a very difficult task, as innumerable variables will intercede over the course of the next twelve months. The actions of the Federal Reserve in particular are going to be a heavy influence on income investors as they seek to position their portfolios for capital preservation and dependable dividend streams. If 2015 has taught us anything it’s that there is a high degree of risk in individual high yield sectors such as master limited partnerships and junk bonds. These groups have erased years of accumulated gains in a manner of months as credit headwinds weigh on investors’ minds. In addition, the trendless direction of interest rates will likely lead to above-average volatility in high quality fixed-income holdings as well. My top income themes for 2016 are centered around large, diversified, and proven investment vehicles that circumvent the hit-or-miss proposition of individual sectors. That may seem boring to those who like to tempt fate with the glory of a turnaround story or make assumptions in continued strength of momentum names. Nevertheless, I think you will find these actively managed mutual funds and low-cost ETFs offer attractive characteristics as core holdings for nearly every style of income investor. Vanguard High Dividend Yield ETF (NYSEARCA: VYM ) If you are looking for an essential equity income fund to own in 2016, then VYM should near the top of your list. This exchange-traded fund houses 435 U.S. stocks with characteristics of consistently high dividend yields. Top holdings include well-known names such as Microsoft Corp (NASDAQ: MSFT ), Exxon Mobil Corp (NYSE: XOM ), and General Electric Co (NYSE: GE ). VYM has exposure to virtually every sector of the stock market, which means that it is a highly diversified and transparent investment vehicle. I like to think of this fund as the “S&P 500 of dividend stocks” because of its market-cap weighted structure and broad index construction methodology. Currently VYM has a 30-day SEC yield of 3.25% and income is paid quarterly to shareholders. The embedded expense ratio of this fund is just 0.10% and it has over $11 billion in total assets. I have owned this ETF as a core holding in my Strategic Income Portfolio for several years and expect that it will continue to add value in 2016 as well. It’s simply difficult to find a better investment vehicle for those that crave a low-cost, dividend-focused stock fund. PIMCO Income Fund (MUTF: PONDX ) Most bond investors have their core holdings in passive indexes such as the Vanguard Total Bond Market ETF (NYSEARCA: BND ). However, in my opinion, an over allocation to a passive fixed-income basket may lead to weak performance over the course of the next several years. One of my favorite actively managed bond funds to supplement or replace existing passive strategies is PONDX. This portfolio is governed by Daniel Ivascyn and Alfred Murata of PIMCO, who were named MorningStar’s 2013 U.S. Fixed-Income Managers Of The Year. The PONDX strategy is built on the foundation of a flexible, multi-sector approach with the goal of income and long-term capital appreciation. It takes a global slant by incorporating themes from overseas markets and has been known to use hedges to control risk and limit interest rate sensitivity as well. The effective duration of PONDX is just 3.09 years and it has a current 30-day SEC yield of 3.03%. This fund has an admittedly higher expense ratio than a comparable ETF at 0.79%. However, the performance over the last several years has well compensated investors for the superior security selection and risk management techniques. PONDX has gained 2.81% versus 0.81% in BND on a year-to-date basis in 2015. Over the last three years, PONDX has returned 17.02% versus just 4.02% in BND. The fund is rated 5-stars by Morningstar and has been consistently ensconced in the top of its peer group over the last 3 and 5-years. I own this fund in my own account alongside my clients and feel that the managers’ expertise navigating credit and interest rate volatility will make for a solid bond holding in 2016. Note: Larger investors or those working with an advisor may benefit from the institutional share class PIMIX, which charges an expense ratio of 0.45%. Vanguard Wellesley Income Fund Admiral Shares (MUTF: VWIAX ) For those seeking a conservative multi-asset income fund with a solid track record and low fees, look no further than VWIAX. This fund is one of the few actively managed offering from Vanguard that has been in existence for over 40 years. Yet true to the Vanguard approach of minimal cost, the expense ratio of VWIAX is only 0.18%. The fund invests in a mix of income generating assets that fluctuate between 35-40% stocks and 60-65% bonds. The stock allocation consists of 59 large-cap names such as Wells Fargo Inc (NYSE: WFC ) and Merck & Co (NYSE: MRK ) to name a few. The bond sleeve consists of high quality corporate and government securities with an average maturity of 6.5 years. VWIAX has a current 30-day SEC yield of 2.83% and dividends are paid quarterly to shareholders. In a world filled with aggressive income strategies trying to position themselves as high yield standouts, this stalwart mutual fund aims for a quality and dependable asset allocation mix that has survived the test of time. This helps keep volatility low and risks in an acceptable range that retirees or other capital preservation-focused investors can appreciate. Furthermore, it has been rated 5-stars by Morningstar over 3, 5, and 10-year time horizons. The bottom line is that these three income funds offer solid value in 2016 by sticking with investment themes that have historically provided dependable results. They can also be supplemented with tactical or alternative investment themes to enhance the overall yield of your portfolio or capitalize on a relative value opportunity.