A Judicious Helping of Risk

08/25/2009 10:28 am EST


Roger Conrad

Chief Analyst/Managing Partner, Capitalist Times

Pairing a rock-steady hydroelectric earner with a supplier of sulphuric acid could yield explosive returns, writes Roger S. Conrad in Canadian Edge.

Over the past several months, I’ve focused almost exclusively on trusts and corporations operating in recession-resistant industries. Why recommend anything else when you can get 10%-plus yields with absolute safety and every promise of big-time capital gains when overall economic and market conditions improve?

One of this month’s selections, Great Lakes Hydro Income Fund (TSX: GLH-U, OTC: GLHIF), certainly fits that mold. However, my other pick, Chemtrade Logistics Income Fund (TSX: CHE-U, OTC: CGIFF), takes us a little further out on the risk spectrum for the first time in a while, reflecting the likelihood the economy is bottoming. Optimally, investors will want to own both. But for the most conservative yield seekers, Great Lakes Hydro is the higher-percentage bet.

The trust has announced a strategic repositioning consisting of two major steps. The first is the purchase of 15 hydroelectric facilities from a unit of 51%-owner Brookfield Asset Management (TSX: BAM/A, NYSE: BAM). The deal combines Great Lakes’ assets with Brookfield’s. The new company will own 42 hydroelectric facilities throughout a diversified base of watersheds in the US and Canada. It will also own two wind farms. The purchase is expected to be immediately accretive to Great Lakes’ cash flow.

The newly acquired plants operate under long-term contracts to creditworthy utilities and government entities and enjoy built-in rate increases. The popularity of carbon-neutral power production will only grow in coming years, as restrictions on greenhouse gas emissions kick in across North America.

Great Lakes [has also said] that it will convert to a corporation some time before 2011, without reducing its distribution. Management asserts it will be able to absorb any taxation [from] expanded profits, made possible in part by this asset purchase.

This adds up to a low-risk package with a high and growing yield and real upside from North America’s renewable energy investment boom. Great Lakes Hydro Income Fund is a buy up to US$17.

Chemtrade’s monthly yield is more than twice as high as Great Lakes’. The reason: The trust’s revenue and cash flow are infinitely more cyclical. [As of Monday's close Great Lakes yielded 7.1% yearly, vs. 14.2% for Chemtrade—Editor.]

The Sulphur Products and Performance Chemicals division saw a 39% drop in revenue and a 36% slide in operating cash flow from [the previous year’s] levels. Meanwhile, reduced demand for sodium chlorate sent revenue from that segment down 8.3% from 2008 levels.

Ironically, those scary figures, which were an improvement on first-quarter numbers, point up one of Chemtrade’s enduring strengths: Thanks to extremely conservative financial management, its monthly distribution remains well covered by distributable cash flow.

Chemtrade has weathered this horrific environment thus far with room to spare. An accelerated downturn for the global economy or some other unforeseen circumstance, however, could still force a payout reduction.

But if you can live with the risks, this is one recommendation that could easily double or even triple from current levels in addition to paying an exceptionally generous dividend. Chemtrade Logistics Income Fund remains a strong buy up to US$8.

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