The Red Hot Energy Sector

I acquired the shares of Encana, Suncor and Precision Drilling six months ago when the TSX Energy Index was in mid 2010 one of the worst performing sectors. At that time the “hot” sectors were Gold, Heath Care and Telecom. There were no investment sheep in the energy complex last summer and so I helped myself to the all-you-can-eat energy buffet. How the energy sector is enjoying a bullish stampede thanks to the crude risk premium due to the uncertain outlook for the larger crude producing Arab states.

I have always believed that when the sheep are hungry you should feed them. Now so far I see no reason to sell all of my energy positions but, I am reducing and moving the proceeds into another sector that the investment sheep are avoiding – the TSX Financial Sector. The sheep are avoiding the obvious crude risk losers like the airlines, transport companies, non-essential retail stores and travel to include fast food, hotels, theme parks and gaming. I think the Canadian Banks are winners either way if the crude risk trade either ON or OFF. Either way I like the Baa, Baa, Banks.

The Crude Risk Premium

The recent pop in the price of Crude is the risk premium the market tacks on due to the uncertain outlook for the larger crude producing Arab states. The problem for investors is this “risk premium” could persist for several months – so we may need to reposition our portfolio holdings

The “risk premium” beneficiaries would be the senior and junior crude produces and the oilfield service companies – names like Suncor Energy Inc, Canadian Natural Resources Limited, Cenovus Energy Inc, Precision Drilling Corporation and the BMO Junior Oil Index ETF (ZJO) Other beneficiaries in the consumer space, Dollarama Inc., Dorel Industries Inc and Tim Hortons Inc, .

The industries to avoid for now would be the airlines, transport companies, non-essential retail stores to include electronics and in and outdoor furniture, travel to include fast food, hotels, theme parks and gaming. Also anything auto manufacturing related. I would also avoid industrial metals like copper, nickel, aluminum and steel to exclude the precious metals. The most dangerous sector is the bases metals sector – the best strategy is to cut back and look for a buying opportunity in any of the above over the next several weeks

Silver vs. Gold

A picture is worth 1000 words - our silver - gold chart leaves me speechless

Covered Call Writing Myth

According to Investopedia “When to Use a Covered Call - There are a number of reasons traders employ covered calls. The most obvious is to produce income on stock that is already in your portfolio. Others like the idea of profiting from option premium time decay, but do not like the unlimited risk of writing options uncovered. A good use of this strategy is for a stock that you might be holding and that you want to keep as a long-term hold, possibly for tax or dividend purposes. You feel that in the current market environment, the stock value is not likely to appreciate, or it might drop some. As a result, you may decide to write covered calls against your existing position.”

I think I got it – you buy a stock but you think it will go down so you keep it and collect a few bucks selling calls and if it goes down you don’t lose quite as much. It the event the stock you own goes up (remember that long term hold) well it gets taken away from precisely when you want to own it. Call me old fashioned I always thought the only reason we own stocks is because they would go up.

Here is a shocker – a talking head on BNN recently said he makes 3% a month doing covered put and call writing. Now 3% a month is 42.6% annualized! I think Weizhen Tang (the Chinese Warren Buffett) promised 1% weekly returns. In my opinion covered call writing is a great strategy for generating commissions and sometimes the client will make as much as the option trader. Can a covered call writing strategy generate 3 per cent a month? We will soon find out because BMO Financial has just launched a new Covered Call Banks ETF (ZWB). BMO doesn’t claim 3% a month but they do claim they will “provide a tax efficient yield of dividend and capital gains (and) potential to outperform broad indices” Let us follow the ZWB over the next few months  

When to Buy

As a sub-advisor for the Union Securities Hybrid Investment Program there is always pressure to remain almost fully invested in spite of the worries of over-extended stock markets. I have learned from experience that bull markets always run higher and longer than expected and bear markets seem to operate the same way on the downside.

As the bull matures the only strategy I can employ is to remain long by gradually redirecting profits back to the market laggards. At this time in the long cycle I favour the technology complex and so I have to look under rocks for over-looked stocks in the information technology space. Currently Research In Motion RIMM is a good candidate – note the higher low posted during the earnings torpedoes of 2010 and note the pending intermediate cycle buy signal – Yahoo! YHOO has the same pattern.

When to Sell?

Last February 2010 I became a technical sub-advisor to Stonebrooke Asset Management Ltd. who manages the Hybrid Investment Program under the Elite Wealth Strategies program for Union Securities Ltd. The Hybrid Investment Program is a discretionary service managed by Stonebrooke Asset Management Ltd., using both “fundamental” and “technical” analytical tools to construct clients' portfolios. Our 12-month return is almost 19% vs. about 15% for the TSX60 index. Not bad considering we are only 80% equities and 20% fixed.

We had some big winners, Gerdau Ameristeel (takeover), Biovail (takeover) along with picking the lows on Agrium, Bombardier, Manulife and Precision Drilling. The problem is always when to take the money and run.  We bought Precision Drilling in the low $7 range last October because it was a beaten up former trust that was displaying early relative out perform vs. the TSX60. The energy sector was also moving up in our weekly MOM tables. So far at $10.94 there is no reason to sell with the price well above the 10-week lowest low price channel and well above the average true range (ATR). The selling trigger is quite different on the shorter daily chart with a sell on the ATR and 10-day lowest low at just under $10

The “Echo” Tech Boom

As noted before our anticipated A-B-C correction is postponed as the U.S. FED continues to throw dollars at the capital markets with QE causing the U.S. to export food inflation which will likely end with a bubble. The hot commodity space has pushed the Reuters/Jefferies CRB Commodity index above the pre-crisis 2008 peak. Don’t let the hot commodity space distract you from other opportunities out there

Did you know that the Nasdaq 100 index is also trading above the pre-crisis 2008 peak? 

This recovery beats the Dow Industrials, the Dow Transports, the S&P500, the TSX Composite and the Russell 2000 and the red hot TSX Small Cap Index. Our monthly chart of the Nasdaq 100 displays the first technology boom & bust of the late 1990’s and now the second or “echo” boom. Note the break up from that huge 2008-2010 inverse Head & Shoulders bottom.
The recovery price target of 2860 is 61.8% retracement of the first boom and bust. That gives us about 20% upside from here – have fun but be nimble

Me see bond, Me run away

Our anticipated A-B-C correction is postponed as the U.S. FED continues to throw dollars at the capital markets with QE causing the U.S. to export food inflation which will likely end with a commodity bubble. The Double Dip Recession Issue is dead and the recovery is on thanks to the US Fed and QE2. A strong recovery may be pending as U.S. private payrolls increased 50,000 but in spite the smaller-than-expected increases, the headline unemployment rate fell sharply to 9.0% from 9.4% in December. Fed Chairman Bernanke just stated that the economic recovery hasn't been strong enough to significantly reduce unemployment

Not strong enough? Be careful what you wish for - the Fed won’t let up until the recovery gets out of control – inflation is the next big problem. Keep an eye on the US 10-yr T-Note which is now breaking up to the 4% level almost back to pre-financial crisis peaks – yes interest rates are rising in spite of QE2! Our weekly 10-yr T-Bond yield chart displays a bullish higher 18-month low (bullish for yields – bearish for bond prices) positive departure analysis and early positive relative outperform vs. the S&P500.