How I Choose Stocks

By the time you read this we might have had a nice rally, and maybe even a spectacular rally and then a setback. I say this because at this time, near the end of March, we still don’t know if the rally is a bear market rally or the start of a new bull market.

The U. S. administration says it will do whatever it has to do to keep the U. S. economy from sliding into deflation and a deep recession. The latest tool they have chosen to use is to print $1.1 trillion dollars and use them to buy toxic assets and U. S. bonds. Buying up more toxic assets is supposed to take the uncertainty of bad assets off the banks, so they could begin to lend. Buying U. S. bonds will drop interest rates to a level we haven’t seen since WWII. This is to encourage people to buy houses and cars and stuff again.

Stocks jumped on March 18, 2009 when the U. S. announced the $1.1 trillion of new money. The next day as reality likely set in gold jumped $50 or more, and the price of oil went over $50 a barrel. Money started to believe that the $1.1 trillion would lead to inflation.

I’m not so sure, although in the past too much government money always has led to inflation. But President Obama has already raised the taxes on richer Americans, is planning to tax energy for everybody, and plans a health care package and some emissions controls. All will cost people and businesses in the future. Plus there is no booming economy anywhere in the world to lead a recovery. In fact, most are worse off than the U. S.

So I’m not convinced inflation is around the corner. Inflation in the 1970s took hold after a stretch of years where the U. S. government printed more and more money and then in Canada treasurer Chretien gave the longshoremen a 40 per cent raise. Strikes and big raises became the thing to do in developed countries and inflation took hold. Now while governments are releasing more and more money, to some extent that is only replacing what private lenders are not lending. And no one is getting a 40 per cent raise. We have too much of everything so there should be no pressure on prices for some time. Plus many have lost 40 per cent of their wealth. That will be hard to replace, so many will be saving more than they ever have. Higher savings rates slow economies.

These things do not cause inflation. The price of food will go up, and the media will make a big deal of that, but the money people spend on food in North America is a very low percentage of total income, so a hike there is long overdue. And many can substitute cheaper food if they need to. In underdeveloped countries, higher food prices will mean less money to spend on other stuff.

Besides it’s a lot easier to stop inflation as it’s starting than to stop deflation. If you think some inflation is bad, think what would happen if suddenly everything we own dropped 20 or 30 per cent in value. People would shut down their wallets and we’d have a real financial disaster.

So the objective for governments is to keep the economies around the world more or less stable, and let them grow their way up. And that leads us to owning stocks.

WHAT TO LOOK FOR IN STOCKS

First there are good old dependable stocks such as Fortis (FTS), Imperial Oil (IMO), Canadian National (CNR) and Cameco (CCO). I own all of these. And I just keep selling covered calls on them month after month after month. It was tempting to buy more shares of FTS when the price was down to $21.70 and I could have sold a covered call at $22 strike for April and collected $0.70 per share of premium. That would be 3.81 per cent for the month. If the stock got sold, I’d pick up another 30 cents for a total of $1 per share or something over four per cent for the month.

Shares of CCO, IMO and CNR certainly have higher premiums but that’s because those stocks move around a bit more.

Next, look at the “rebounder” stocks. As of the middle of March, some stocks look to be great rebounders. By this I mean stocks that were good at one time, got beaten up by the melt down, have decent business and management, and look to me like they have potential.

I can’t possibly buy all the rebounders I see but here are a few. Wells Fargo (WFC) has been in business many years, and recently bought beaten and whipped Wachovia for a good price. The price of WFC dropped from $37 last summer to under $9. The day the company cut the dividend I bought 1,000 shares for $9.31. I already had 400 shares that cost me $24 after selling covered calls, so now my cost is US$15 or so.

At this price, I think I will be able to sell covered calls on this stock for as long as my head works and then I would think my kids could sell calls on this stock for many years going forward. Even $1 a month of premium for the next 20 years would be a nice retirement cheque.

I did sell a call for $12.50 for April and collected US$2 — or about Can$2,450 on the spot for the 1,000 shares. But the stock went to $14, so I bought that call back to let the stock run. I could easily raise the strike price to $17 and then I’d be up on the stock and still sell covered calls on them.

If this is all Greek to you, I teach this covered call strategy in my newsletter StocksTalk. If you want it free for a month, send me an email or go to www.StocksTalk.comand fill out the short form and you will get signed on for a month.

Another rebounder, in my opinion, was CitiGroup (C). I bought somewhere around 5,000 shares for around $1.60 per share in early March and figured I only had a risk of 60 cents per share. The stock ran up to almost $4, the company said it would reverse split the shares (usually bad for stocks) and I sold all of them for more than $1 profit per shares.

The reason most financials started to rebound around that time was because the U. S. was talking about dropping the mark to market rule, which was dropping share values all over the world.

I would also put Canada’s two main insurance companies, Manulife (MFL) and Sun Life (SLF), in the rebounder category. Canadian banks and Bank of America would also qualify. I don’t own any of these as I write.

In the energy sector, we own IMO, Suncor (SU) and PetroBank (PBG), but Husky (HSE), Talisman (TLM) and even PetroCan (PCA) at under $30 might be good choices. I just can’t own every good stock. We could add in Canadian pipelines such as Enbridge (ENB) and TransCanada (TRP), but I don’t know much about them.

Plus there are companies such as Encana (ECA), Canadian Natural Resources (CNQ) and others. I don’t own any energy trusts so I don’t comment on them. There also are things called the Exchange Traded Funds (ETFs) that hold a basket of stocks and some hold stocks and the commodity but I haven’t followed them much. (I discussed ETFs in my February 16 Grainews column.)

Natural gas will have its day in the sun again, but I only know Chesapeake (CHK) on the U. S. side and I don’t own it at this time. ECA is part natural gas.

CHARTS SIGNAL A BUY

After the dependables and the rebounders, I then look for stocks where the MACD — a key indicator — has turned up. One such stock is Bombardier (BBD. B). At under $3 as I write, I heard the company holds $2.50 in cash — that’s it — and I have not had a chance to check that out. Still, at $2.89 the stock likely was a bargain. The day I looked, the premium for a call for the October strike price of $3 was 50 per share. That alone is over 20 per cent for seven months and I guess an investor could do worse.

This stock could make a decent candidate for the Tax Free Saving Account (TFSA) where the $5,000 could buy 1,500 shares. Then a person could sell a covered call for October, strike price $3 and pick up 50 or $750 on the spot. Then come October if the stock has not gone up we could sell another covered call or maybe the stock would get sold. But 20 per cent is 20 per cent on what could well be a stock that has bottomed.

Another stock I like is Yamana (YRI),a gold company. One fellow I know bought 400 shares of YRI in his TFSA, and after some thought he sold a call for September for $11 strike and picked up $900 to $1,000. That’s around 20 per cent from one transaction and he was a happy camper.

We own shares in Yamana (YRI) and I sold a call on them for 87, which was nice on a $10 stock. On 2,000 shares I picked up $1,665, which is 7.9 per cent for one month. But IMG Gold (IMG) and Eldorado (ELD) could be candidates and so could Gold Corp (G), Barrick Gold (ABX), Kinross (K) and Agnico Eagle (AEM).

SELL FARTHER OUT

Some readers don’t want to sell covered calls each month. So I’ve been writing about selling calls for July and for September or October. For Potash Corp, for example, and I think I’ve said this before, we could buy the stock for around Can$100 and sell a call on the U. S. side for September or October and pick up US$18 or $19 on the spot. That’s Can$24 or so and makes for a nice return with little work.

You get 1,000 shares for $100,000, take in $24,000 on the first covered call, and then sell another covered call after harvest. Hey, things could be worse. The reason I pick on POT is because the premium for next fall is twice the premium for the nearby month. That’s not bad but three times the nearby would be nicer. And if you don’t like POT, other stocks let you sell covered calls on them three to six months out and still bring in some very good returns with little work. I enjoy working at this stuff, so I usually make more money than the folks who sell calls a few months out.

Remember that by the time you read this the numbers will have changed.

There’s no shortage of what I would consider good stocks and there is lots of money out there to be had. All we have to do is go get some, learn to keep it and put it to work.

Andy lives in Winnipeg. Part of his investment strategy is to sell covered calls on favourite stocks and he teaches this stuff to subscribers of StocksTalk. If you want to read the newsletter free for a month, send an email at [email protected]or go to www.StocksTalk.comand you will be set up automatically.

About the author

Freelance Writer

Andy was a former Grainews editor and long-time Grainews columnist. He passed away in February 2017.

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