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Buildings are seen in the financial district in Toronto, on Jan. 28, 2013.MARK BLINCH/Reuters

Moody's Investors Service issued a shot across the bow for Canadian investors by downgrading the long-term credit outlook for domestic banks. This can be disconcerting for investors unaccustomed to questioning the financial health of our apparently bulletproof bank stocks.

The Moody's report highlighted rising consumer debt and the potential for mortgage defaults as the reason for the downgrade but I still don't see anything that would put a significant dent in bank balance sheets.

That view, however, is distinct from the income statement. In other words, if Canadian households begin the deleveraging process by consistently paying down more debt than they assume, lending activity will slow and bank profits could be scarce.

It is also the case that bank earnings are far more pro-cyclical (sensitive to market conditions) than during the last post-real estate bubble period in the early 1990s. Large brokerage and wealth management operations weren't there and overall profits were less dependent on capital market activity. This isn't to say this revenue is going to collapse when the credit cycle rolls over, only that it's market-dependent.

Importantly, attempting to adjust portfolios for a broad credit deleveraging trend is a form of timing the market, which is always a mug's game – no one has proven an ability to identify market tops, credit or equities, consistently. Investors should wait for evidence of slower profit growth before reacting, and besides, the dividend yield will still be there.

-- Scott Barlow

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Stocks to ponder


Martinrea International Inc
. This stock has positive price momentum. It's been a strong performer, rising over 31 per cent year-to-date, writes Jennifer Dowty. In fact, it is the top performing stock in the S&P/TSX composite consumer discretionary sector, which is the best performing sector in the TSX Index so far this year. The stock has sharply outperformed its peers given its operational improvements, and insiders are scooping up shares. The average 12-month target price is $13.18, implying the share price has approximately 17 per cent upside potential over the next year.


Brookfield Renewable Partners L.P.
This stock has has delivered a respectable price return of approximately 7 per cent year to date, writes Jennifer Dowty. From a technical perspective, the chart for Brookfield Renewable looks interesting with a bullish "golden cross" pattern. In addition, the unit price recently broke above a major resistance level, around $42, which is now a key support level.


New Flyer Industries Inc.
  This security is seeing positive price momentum, writes Jennifer Dowty. The stock has been a strong performer for investors, rising over 30 per cent year-to-date, soaring 44 per cent in 2016, more than doubling in value in 2015, and rallying 27 per cent in 2014. In addition, the company offers investors a quarterly dividend, which has been growing, and is currently yielding 1.8 per cent. The average 12-month target price is $57.33 (Cdn), implying the share price has 7 per cent upside potential over the next year.


Richelieu Hardware Ltd.
It's not a glamorous business – but this stock's a gem, says Gordon Pape. The Montreal-based company is an importer, distributor and manufacturer of specialty hardware products. It sells a huge range of products, from kitchen cabinets to lighting supplies to power tools. He says he's impressed by this company. Its earnings are solid, and another attraction was its pristine balance sheet. As of the end of February, the company had cash reserves of $36.4-million, while total debt was only $3.8-million. And the company has been growing through acquisitions. But it's not cheap with a  price-to-earnings ratio is 27.9 on a trailing 12-month basis.


5N Plus Inc.
  This stock is up over 33 per cent year-to-date with analysts forecasting a further 29 per cent upside. All analysts covering the stock have buy recommendations. Furthermore, insiders have been stepping into the public market and purchasing shares, writes Jennifer Dowty. Montreal-based 5N Plus produces specialty metal and chemical products with manufacturing facilities in North America, Europe, and Asia.



The Rundown


Bombardier becomes the most shorted stock on the TSX

The number of Bombardier Inc. shares sold short over the six weeks to April 30 doubled from 37.7 million to 74.1 million, according to TSX Datalinx. As a result, Bombardier is the most shorted company on the Toronto Stock Exchange, writes Larry MacDonald. What's behind this sudden escalation? It could be chalked up to a bout of bad news, for a start. Among the items were: the arrest of a Bombardier employee on bribery charges in Sweden, a notice of intent to cancel a Bombardier light rail contract by Toronto-based Metrolinx, the announcement of an increase of nearly 50 per cent in compensation for Bombardier executives, and finally, a call by Boeing Co. for an anti-dumping probe into the sale of Bombardier jets to a U.S. airliner.


Tempted to sell your Canadian bank stocks? Just stay put

Moody's Investors Service is concerned about Canadian banks, but investors should relax: Every dip is a buying opportunity, writes David Berman. The credit-rating agency downgraded its long-term ratings for the Big Six banks, arguing that they face a challenging operating environment this year. The report picked at two raw nerves: Surging Canadian house prices and indebted consumers pose a threat to bank asset quality and profitability if there is an economic downturn.


What you need to know about alternative lender GIC and savings accounts

The problem with people waking up to risks in the financial system is that they can swing in a heartbeat from obliviousness to unfounded suspicion, writes Rob Carrick. There are signs this is happening with customers of Home Trust, Home Bank and Oaken Financial, all part of alternative mortgage lender Home Capital Group Inc.'s corporate family. Some of these clients are wondering if it makes sense to pay a penalty to redeem GICs issued through the Home Capital family before maturity. Rob dishes out what you need to know here, and then check out this table that details current rates on GICs and savings accounts, as where as who's providing depositor protection.


Here's why Scott Barlow just bought this sector ETF

When the most profitable U.S. market sector is trading at a discount to the S&P 500, investors should take notice, writes Scott Barlow. The biotechnology sector has the highest gross profit margins – 84 per cent – of any of the more than 100 major market sector groups in the S&P 500. The industry is basically a machine for turning revenues into bottom-line earnings. Here's the ETF that tracks the sector that he just bought.


Why the volatility index's rock-bottom levels signal real peril for investors

Wall Street's favourite fear gauge has tumbled to some of its lowest levels in almost a quarter-century, raising concerns that investors have become too complacent about the risks surrounding today's frothy stock prices, writes Ian McGugan. The pervasive lack of worry may signal that the market is underestimating the potential for economic mishaps. With Donald Trump in the White House and Vladimir Putin in the Kremlin, as well as a still dysfunctional euro zone and a slowing China, the potential for accidents is high. Yet none of that distress is reflected in the volatility index compiled by the Chicago Board Options Exchange.


Three stocks with fat – and growing – dividends

A company with a fat dividend doesn't interest John Heinzl. He looks for companies with above-average dividends that will grow over time, supported by rising sales and earnings. Here are three stocks that are worth a look.


Looking for alternatives for your parked cash? Consider these ETFs

The ETF world has a few options for investors who are parking cash and want to squeeze at least a modest return out of this money, writes Rob Carrick. Here are three options for ETFs that are alternatives to investment savings accounts.


Here's a solution if you're looking for dividend growth

Need a way to generate a reliable flow of dividend income? Consider a dividend-focused exchange-traded fund or mutual fund, writes Rob Carrick. If you want dividend growth, forget the fund and look to individual stocks.


Others:

Yield Hog Video: Restaurant royalty stocks can give you some juicy yields

The week's most oversold and overbought stocks on the TSX


Number Crunchers

These dividend-paying stocks offer a low-risk way to play rising cannabis demand

These 15 stocks put analysts' growth projections put to the test


Ask Globe Investor


Question:
I was going through the annual report for Telus Corp. (T) and noticed its payout ratio has climbed to a whopping 89 per cent as of the fourth quarter of 2016, up from 73 per cent in 2015 and 66 per cent in 2014. Should I be worried about the dividend's sustainability?


Answer:
I'm not worried. If you read further in the management's discussion and analysis section of the annual report, you'll see that Telus's guideline is to pay out 65 per cent to 75 per cent of "sustainable earnings per share on a prospective basis." In other words, it sets the dividend based on expected earnings for the following year, excluding any one-time items that might cause earnings to fluctuate in the short term. In 2016, Telus's net earnings were depressed by an unusually large restructuring charge and other costs recorded in the fourth quarter, which caused the payout ratio to soar. Using adjusted net earnings per common share, however, Telus's payout ratio was a more reasonable 77 per cent in 2016. That was still slightly above the target range on a trailing basis, but the company said it expects "that we will be within our target guideline on a prospective basis." It's also worth mentioning that Telus has indicated its intention to raise its dividend twice a year – at an annual rate of 7 per cent to 10 per cent – from 2017 through the end of 2019. Dividend hikes aren't official until the board approves them, but Telus probably wouldn't be signalling dividend hikes if it was uncomfortable with its current payout ratio.

--John Heinzl

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What's up in the days ahead

The stock market is starting to look more like an ETF market. Every year, the ranks of exchange-traded funds listed on the Toronto Stock Exchange get more crowded, and every year, the roster of publicly traded stocks thins out. If those trends continue at their current pace, within the next two years, structured products such as ETFs will outnumber operating companies on Canada's senior exchange. Tim Shufelt takes a look at the explosive rise in ETFs - and the challenges that represents for market players - in this weekend's Globe Investor.

Click here to see the Globe Investor earnings and economic news calendar.


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Compiled by Gillian Livingston

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