Friday, August 14, 2009

Volume 3, Issue #77

Also in Today's Issue...

Claymore Canadian Energy Income ETF (NYSE: ENY) is an exchange-traded fund (ETF) that invests in Canadian energy stocks. ENY seeks to replicate the performance of the Sustainable Canadian Energy Index -- an index of 30 of the most profitable and liquid Canadian royalty trusts plus the fastest-growing oil sands producers. The largest holdings are Canadian Oil Sands Trust (TSX: COS.UN) and Suncor Energy (NYSE: SU), which together account for over 18% of the assets.

Distributions are made quarterly and can vary depending on investment income. The last payment, made in June, was $0.156 per share. Payments for the last 12 months total $1.037 per share, giving ENY a trailing yield of 7.5%.

The Canadian companies held by ENY pay dividends in Canadian dollars. These distributions are then converted to U.S. dollars by ENY and paid out to investors. The amount of this conversion will fluctuate with exchange rates between the two currencies. The U.S. dollar has fallen -15% against the Canadian dollar since March, helping to boost the payments made to stateside investors.

Of the payments made in 2008, 98% qualified for the lower dividend tax rate of 15%. So far this year, payments have been 100% ordinary income paid from the fund's holdings. Total fund expenses are 0.83% per year. For more information, you can contact Claymore Securities at 800-345-7999.

ENY invests in two groups of energy securities: royalty trusts and oil sands producers. Any trust classified as an oil and gas producer falls into the fund's royalty trust category -- even if they have exposure to oil sands production. For its oil sands holdings, ENY considers non-trusts like Canadian Natural Resources (NYSE: CNQ) and UTS Energy (TSX: UTS) that have a stake in oil sands production. Increased weighting is given to those non-trusts with a greater focus on oil sands or with plans to increase oil sands production in the near future.

The fund attempts to lower risk and improve returns by adjusting its holdings based on crude oil price trends. On the last day of every quarter, the fund determines if crude oil prices are in a "bull" or "bear" phase by comparing the price of crude to its four-quarter moving average. If the price is higher than the moving average (bull phase), the fund shifts 70% of holdings into the more aggressive oil sands companies. Oil sands production typically requires a minimum oil price of $70 per barrel to allow a sufficient rate of return. At prices above this, the oil sands companies can experience rapid growth, usually benefiting their share prices.

If the price of oil is below its four-quarter moving average (bear phase), the fund puts 70% of its assets into royalty trusts. These trusts may have oil sands exposure, but are usually more focused on traditional oil and gas production. Lower or falling oil and gas prices will still hurt the trusts, but normally not as severely as oil sands companies, which need the higher prices to be profitable at all. Traditional oil/gas producers have lower costs associated with production, meaning they can still remain profitable and pay dividends with lower energy prices.

As you would expect, ENY's share price is heavily dependent on oil and gas prices. As energy prices plummeted in the second half of 2008, so did ENY. However, the fund has staged a strong comeback alongside crude, even though natural gas has foundered. ENY has soared more than +79% from its March low of $7.44.

As Asian economies rebound and the U.S. economy shows signs of stabilization, prospects for future energy prices are looking up. In fact, Goldman Sachs raised its oil price forecasts from a previous $45 per barrel in 2009 to $85 per barrel by the end of 2009 and $95 by the end of 2010.

However, a change in taxation of Canadian trusts could be an issue for the fund in the future. ENY relies on dividends from its royalty trusts to provide income to the fund. For example, it's fifth-largest holding, Penn West Energy (NYSE: PWE), pays a whopping 11% yield. Legislation has already been passed to tax the trusts at 31.5% starting in 2011. Once this taxation hits, the dividends paid by trusts could fall. But with the recent drop in oil and gas prices, many trusts have already cut their distributions -- future cuts aren't likely to be any more drastic.

One other potential worry is the push toward "green" energy. Producing crude from the oil sands takes a toll on the environment -- it is estimated to take two tons of oil sands to create just one barrel of oil. While it doesn't appear to be an issue right now, potential increased environmental regulation could drive up the costs of mining oil sands, which could hurt the producer's profits, and the fund.

Action to Take --> For those looking for a high-yield play on rebounding oil prices, ENY presents an attractive opportunity.

-- Carla Pasternak
Editor
High-Yield International