Attractive energy stocks abound

Along with the two balanced funds, Frost's responsibilities at AGF include the $1.6-billion AGF Canadian Stock, the firm's domestic-equity flagship fund, as well as the $54.6-million AGF Canada Class.

Bonds, says Frost, have had a strong run since the start of this year, as a result of the steady decline in bond yields (which move inversely with bond prices.) These yields peaked last December. Then in January, the picture changed, he says, when the U.S. Federal Reserve Board started to reduce the amount of its monthly bond purchases.

"Accompanying the beginning of this program, bond yields fell sharply and equities fell in tandem in January," says Frost. This reaction, he says, reflected the initial shock in financial markets to the start of the Fed's tapering program."

In the subsequent months, he says, "investors became more comfortable with Fed tapering and bond yields declined further, albeit at a more modest pace."

Taking advantage of this bond rally, Frost reduced the equity component of the balanced funds and boosted the fixed-income weighting, buying mainly Government of Canada bonds and U.S. Treasuries. As well, he used, the cash balances in the funds to purchase these government bonds.

Peter Frost

Frost considers that bond yields have bottomed and will remain at these levels for the time being, which is why he is now rebalancing back into equities. "The U.S. economy is among the strongest in the western world, and there are concerns about the resurgence of inflation; this puts a floor on interest rates."

Whatever his short-term asset-mix changes under his tactical approach, Frost underscores that he still believes that "equities are more attractive than fixed-income securities in the longer-term, as equities are likely to continue to deliver superior long-term returns."

In their respective equity sleeves, AGF Monthly High Income emphasizes stocks with a high dividend yield, while AGF Traditional Income focuses on stocks of companies with above-average dividend growth.

At the end of July, AGF Monthly High Income had 56.7% in equity (with 71 names of more or less equal weighting) and 33.3% in fixed income. At that date, the asset mix for AGF Traditional Income was fairly close at 58.6% in equity (63 names also of more or less equal weighting) and 40.4% in fixed income.

Energy was by far the largest sector in the equity component of AGF Traditional Income, followed by financials, materials and industrials, at the end of July. Of energy companies, Frost says that "management teams are increasingly focused on profitable growth and increasing their companies' dividends."

A U.S. energy producer that he first purchased in early February for AGF Traditional Income "as the stock was cheap," is   Noble Energy Inc.  NBL. He has since been adding to this stock.

"Noble is both an oil and natural gas producer, with production slightly skewed to the latter." The company, says Frost, is a "disciplined operator." It is expected to grow its production at a compound annual rate of some 18% to 20% over the next five years and grow its dividends by 15% to 20% on a compound annual basis over that period. "This fits the fund's mandate of investing in companies with above-average dividend growth rates.

When it comes to the major Canadian energy producers, Frost reports that he has trimmed his holdings in   Suncor Energy Inc.  SU and   Canadian Natural Resources Ltd.  CNQ and has used the proceeds to add to   Cenovus Energy Inc.  CVE. Suncor and CNQ reached his target prices, he says. "Cenovus' stock had lagged and offered better relative value; the stock has more room to run."

Frost notes that all three of these Canadian energy companies have a "rising dividend profile."

		Canadian Natural Resources Ltd.	Cenovus Energy Inc.	Suncor Energy Inc.
	Aug. 25 close	$46.62	$33.87	$44.30
	52-week high/low	$49.57-$31.14	$34.79-$28.25	$47.18-$34.70
	Market cap	$50.9 billion	$25.6 billion	$64.9 billion
	Total % return 1Y*	52.3	15.7	25.2
	Total % return 3Y*	11.9	3.4	16.1
	Total % return 5Y*	8.6	n/a	6.2
	*As of Aug. 25, 2014 Source: Morningstar

On the energy services side, Frost likes mid-stream companies (which process and transport oil and gas resources), such as Gibson Energy Inc. GEI. He is also enthusiastic about the drillers given the "increasing activity in the oil patch." One such holding in the fund is Precision Drilling Corp. PD.

Another services company that is benefiting from this increased oil patch activity, says Frost is Newalta Corp. NAL. "Newalta recycles and recovers saleable products from industrial wastes, with energy companies comprising an important source of its business," says Frost. "The company offers a full range of environmental services and is well positioned for increased environmental regulation," he adds. He expects Newalta to grow its dividend in the mid-teens over the next several years.

Turning to other sectors, Frost notes that, AGF Traditional Income remains substantially underweight in the financial services sector and that he has not been materially adding to it for a while.

A prominent holding in this sector is Brookfield Asset Management Inc. BAM.A, he says. This company, with its significant global reach, "offers a well-diversified suite of assets and is well placed to benefit from growth in the world economy." Besides Canada, areas in which it operates include the United States, Australia, Brazil and Europe. The company's publicly traded interests include real estate, infrastructure and renewable energy. "Some of these companies are in industries with high barriers to entry."

Brookfield Asset Management also has a significant private equity segment and a money management arm. "In all, it is a significant cash flow generator," says Frost.