January - Early Edition - CI Investments

Signature Market RoundupInterest ratesReal estate and income trustsJames DutkiewiczVice-President,Portfolio Managementand Portfolio ManagerIn early 2011, global interest rate markets are likely to see acontinuation of recent trends. Yields rose rather dramaticallyin the fourth quarter in response to improved economicdata and renewed fiscal and monetary stimulus in theUnited States. Consumer spending over the holidays wasup 5% over the previous year, job growth is reboundingand commercial and industrial loan growth has turnedpositive. These are signs of a strengthening cyclical expansionthat has led to a significant increase in consensus 2011 GDPforecasts. However, both core and headline inflation datacontinue to trend lower. Furthermore, the Federal Reserveat its December meeting indicated that economic growthwould have to meet a high hurdle rate before it would curtailthe $600 billion Treasury buying program.This presents a dilemma for bond investors. Where shouldlong-term yields be when overnight borrowing rates arefixed at 0.25%, the central bank is buying bonds and thereis no inflation, but growth is rebounding and equities lookattractive? We expect that 10-year U.S. yields will rangebetween 3.25% and 4.0% over the next few months andthat levels below 3.0% are highly unlikely. Canadian bondyields should track the same general pattern as the Canadianeconomy recovers from its third quarter swoon.Ryan FitzgeraldVice-President,Portfolio Managementand Portfolio ManagerWith the passing of 2010, we finally say goodbye to theincome trust. The income trust model required constantaccess to capital markets, something that was severelyimpaired following Federal Finance Minister Jim Flaherty’s2006 announcement that trust distributions would be taxedat corporate tax rates beginning in 2011. What did notchange was investors’ need for yield, especially following theprecipitous decline in interest rates with the 2008 financialcrisis. This resulted in massive fund flows into a select group ofincome trusts that market participants deemed would be ableto sustain their distributions after becoming taxable. Typically,these were the best companies to start with, companies withvery stable, long-dated cash flows. Favoured sectors such aspipeline operators, renewable power generators, and REITs(which are not affected by the new trust rules) benefitedfrom this fund flow and, in some cases, saw valuations rise toall-time highs.In 2011, we expect more of the same. The small set of“winners” will continue to be favoured by investors who havelimited options for achieving high yields elsewhere. Thiscreates an environment ripe for overvaluation. Currently, ourholdings are concentrated in these favoured sectors, but weare selectively taking profits and looking to re-deploy capitaloutside of Canada, where valuations are more reasonable.WINTER 2011 EARLY EDITION PERSPECTIVE AS AT DECEMBER 31, 2010 11