Posted By: Eugene Taylor
By Amran AbocarFri Nov 3, 10:44 PM ET
TORONTO (Reuters) - Bay Street may be winded after the
government blindsided it with plans to tax the popular income
trust sector, but don't expect it to remain floored for long.if (window.yzq_a == null) document.write("");if (window.yzq_a)
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The Street is already looking around for other ways to lure
investors.
"Never underestimate the ingenuity of investment bankers
and lawyers to generate some product," said Gavin Graham, chief
investment officer at the Guardian Group of Funds.
Yield-seeking investors flocked to income trusts in recent
years, funding an explosive growth in the sector that appears
to be over thanks to the government's decision to tax new
trusts beginning in 2007 and existing ones in 2011.
Under the trust structure, companies avoid paying most
corporate taxes by passing on their cash flows to investors,
who are then taxed on the distributions.
"It's been a unique investment vehicle for Canadians,
giving high income at a time when the traditional higher-income
vehicles such as bonds haven't been yielding as much," said one
analyst.
Now that those glory days are ending -- or will be four
years from now -- investors are casting about for the next, hot
investment trend.
"There is a huge wealth of opinion on what in particular
the next yield vehicle is going to be," said Conor Bill, a
managing director at BluMont Capital. "There is a growing sense
that people may actually start to turn back toward government
bonds, God help us, which we haven't looked at in years."
Before that dire day comes, some on Bay Street think the
next big play could be high-yield corporate bonds, a tiny
segment of the Canadian market estimated at less than C$10
billion ($8.8 billion).
Popular in the United States among high debt or former
investment grade companies, and as a way for growth firms to
attract capital, high-yield debt has not taken off as much in
Canada, partly because of the dominance of the roughly C$200
billion income trust market.
That has led some Canadian companies, like telecoms firms
Shaw Communications and Rogers Communications, to issue
high-yield bonds in the bigger and more liquid U.S. market.
"Maybe now we'll see a development of a Canadian high yield
bond market," Graham said. "People who might otherwise have
done the trust structure now say, OK, we'll actually issue
non-investment grade debt, and therefore there's more choices
in the Canadian high-yield bond market."
Until that happens, the immediate choice for investors is
to revert to familiar yield options, ranging from high-paying
dividend stocks -- mainly in the financial sector -- to that
most vanilla of bland investments: government of Canada bonds.
"My best guess is that, since yields in four years time are
going to disappear to a large extent, your next two options
are: one, to go back into fixed income to get that yield, which
of course is nowhere near as strong as it was for income
trusts," said John Aiken, analyst at Dundee Securities Corp.
"Or, look toward companies that pay relatively high
dividends with strong potential for growth."
Yields on government bonds range from 4.025 percent to
4.158 percent across the curve. In contrast, trusts have
yielded anywhere from 7 percent to 11 percent.
Some investors might cling to the income trust bandwagon in
the real estate segment -- REITs are not affected by the
government's tax move -- although high demand is likely to pull
longer-term yields down.
Others yet may look to Bay Street to develop another
vehicle.
"You might see the investment dealers come out with a whole
new industry to de-trustify things and turn them back into
corporates," Harry Koza, senior analyst at Thomson IFR. "Which
would be kind of cute."
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