How will you bear this market?

During a bear market, consumer staples are one of the chosen few. Typically people buy what they feel are necessities and cut out the fat. According to Investorpedia, Consumer Staples are defined as “the industries that manufacture and sell food/beverages, tobacco, prescription drugs and household products”.

The consumer staples sector makes up about 3% of the TSX composite which represents $185 billion in market capitalization. Some of the companies included in the consumer staples sector include Alimentation Couche-Tard (ATD.B), Empire Co. Ltd (EMP.A), Metro Inc. (MRU.A), George Weston Ltd. (WN), Saputo Inc. (SAP), Loblaw Companies Inc. (L), Maple Leaf Foods Inc. (MFI), North West Company Fund (NWF.un), Shoppers Drug Mart Corp. (SC), and Cineplex Galaxy Income Fund (CGX.un).
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The Consumer Staples sector closed at $152.57 on Friday October 21, 2008. Over the last year the high was $184.80 reached on Dec 11, 2007 and the low was 142.80 reached on October 10, 2008. From a technical perspective the Consumer staples sector has been trading in a downward channel since last year. That trend appears to have reversed since October 10th this year. The current price has recently been bouncing above and below the 50 day moving average. Despite this, since the 10th of October the Consumer staples sector has rallied 6.2% unlike the TSX which has dropped -10% and the S&P 500 which has dropped -11%. The only other sectors on the TSX to post positive gains during this period are the Telecom, Utilities and Gold sectors.

When you look at the P/E ratio and dividend yield relative to the TSX composite, the Consumer Staples sector seems less attractive. The average dividend yield is 2.10 and the P/E ratio is 14.71 for the Consumer Staples sector vs. the TSX which is 4.61 and 9.57 respectively. Since the beginning of this bear market you might as well throw these fundamentals out the window. According to Thackray’s 2009 Investor’s Guide which provides research on seasonality October is traditionally a good month for Consumer Staples and evidence suggests you should sell Consumer Staples in favour of Consumer Discretionary stocks. I would argue, not this year. In a bear market, people will naturally substitute going out for dinner in favour of cooking for themselves and family entertainment may include going to the movies in favour of travel or other forms of entertainment. How will you bear this market?

Has the light turned green on Utilities?

The Utilities sector has a market capitalization of about $48 billion. Some of the names that are included in this sector in Canada include Algonquin Power Inc., Atco Ltd., Canadian Hydro Developers, Canadian Utilities, Emera Inc., Energy Savings Income Trust, Epcor Power L.P., Fortis Inc., Northland Power Income Fund and TransAlta Corp.

The high for the Utilities sector over the last year was $232.68 reached on October 30 2007 and the low was $156.72 reached on October 10, 2008. Since the low, the Utilities sector has increased 11.5 % while the TSX has stayed flat and the S&P 500 has dropped about -2%. Year-to-date the Utilities sector has declined -22.18% while the TSX has dropped -34.53% and the S&P 500 has dropped -40.53%. Since the low on October 10, 2008 we are seeing rising bottoms that are a bullish signal; however, there are also falling tops that are not a bullish indicator, rather a sign of a consolidating price. Nevertheless, it is a change from the ongoing downward spiral we have been used to seeing.

Like other sectors, a lot of steam has come out of the Utility sector. The P/E ratio is now trading at 18.64 times which is still substantially higher than the market as a whole. The average dividend yield is 5.05%. The yield varies with companies from 0% for Canadian Hydro Developers to 14.92% for Energy Savings Income Trust. Another measure to look at is the price-to-book value which has also fallen substantially. The down side to a utility is the debt that most utilities carry and the capital requirements to see them through new developments. Make sure you check out the contracts the company has in place and pay attention to debt-to-equity, free cash flows and payout ratios on your individual security choices. In this environment where credit has all but dried up you want to access the companies’ ability to finance its existing and future projects.

Utilities are an attractive industry in any recession because the have great cash flow and income streams. With Barack Obama as the President-elect in the United States there is a lot of talk/expectation that infrastructure and green energy will receive more attention and therefore the Utilities sector will stand to benefit. In The Economist magazine, an article entitled “Clean technology in the downturn, Gathering Clouds” argues that the economic slowdown casts a shadow over the prospects for clean technology. The NEX, an index that tracks clean-tech stocks globally, has tumbled even faster than the market as a whole, down about 60% in the last year. This suggests an orange light may be more appropriate than green on at least this segment of the Utilities sector given the tough credit market.

Dancing with Bears

The S&P/TSX Composite is the headline index and the principal broad market measure for the Canadian equity markets. It includes common stock and income trust units. These include members of the S7P/TSX Equity indices, the S&P/TSX Equity 60, the S&P/TSX Equity Completion, the S&P/TSX Income Trust, the S&P/TSX Capped REIT and the S&P/TSX Capped Energy Trust. The market capitalization is about $3.6 trillion. Excuse the misprint on the last TSX report where the market capitalization was reported much higher. For more information on the make-up of the S&P/TSX go to http://www.tsx.com/.

The S&P/TSX Composite closed at a price of $9596.21 on November 7, 2008. The high over the last year was $15, 154.77 reached on June 6, 2008. The low over the last year was $8,537.34 reached on October 27, 2008. From the peak to the trough that represents about a -43% drop. The S&P has dropped –37.6%, so not quite as much but still significantly. While there are no hard and fast rules to a bear market definition, one commonly accepted one is a decline of more than 20% for more than 2 months. This is one tough bear that may not go away for a while so it might be worthwhile to look at some short term trading strategies using the index. Here is one way to dance with the bear.

There appears to be a head and shoulder bottom forming. The first shoulder was formed on October 16, 2008 with a low of 8,761 followed by a sharp move up to 10,251 on October 20 and back down to 8,537 on October 27 to form the head and currently the second shoulder appears to be forming. At the top the point of resistance is at 10200. If it breaks through this we could see a short term rally in this bear otherwise there is a trading range forming with support at 8,500 and resistance at 10,200. This represents almost a 20% range to work within. A bear market rally generally gives you a 10-20% short-term return potential. If you can’t beat ‘em you might as well dance with ‘em.