I am a fan of your columns. However, I am perplexed by your recent discussion of Brookfield Infrastructure Partners LP (BIP.UN), which has a very high price-to-earnings multiple of 788. Perhaps in a future your column you could explain how a successful company with a rising dividend could have such a high P/E.
As I’ve said many times, investors should treat P/E multiples with caution.
Brookfield Infrastructure Partners provides a great illustration. Let’s dig a little deeper to see why.
I’m going to assume you pulled the P/E of 788 from a financial website. I’ll further assume the website calculated the P/E by dividing Brookfield Infrastructure’s U.S. stock price (BIP) by its earnings per unit of 4 US cents in 2024. On that basis, the P/E does indeed look extremely high.
But here’s the thing. In Brookfield Infrastructure’s case, analysts don’t put a lot of emphasis on accounting earnings – the E in the P/E ratio. That’s because earnings are affected by non-cash items such as depreciation and amortization that, according to the partnership, “are not related to the revenue earning activities and are not normal, recurring cash operating items necessary for business operations.”
Instead, analysts focus on a cash flow measure called funds from operations (FFO), and the more stringent adjusted funds from operations (AFFO), which strip out depreciation, amortization, deferred income taxes, market-to-market gains and losses, and other non-cash items.
Now, let’s substitute FFO and AFFO per unit into the denominator of the P/E ratio and see what happens.
Early on Friday afternoon, Brookfield Infrastructure’s units were changing hands for about US$31.60 on the New York Stock Exchange. Analysts project the partnership will generate FFO of about US$3.40 and AFFO of about US$2.65 in the current year.
Using these FFO and AFFO estimates, Brookfield Infrastructure’s units trade at P/FFO and P/AFFO multiples of about 9.3 and 11.9, respectively, which is a lot more reasonable than a P/E of 788. The FFO and AFFO estimates for 2025 also show that Brookfield Infrastructure is expected to generate ample cash flow to cover its current annualized distribution of US$1.72 per unit.
P/E multiples can be a useful tool for evaluating the merits of a stock. But investors should never look at the P/E in isolation. Instead, use it as a starting point for further research.
Atlas America Fund (USAF) is a fairly new exchange-traded fund co-managed by Nouriel Roubini. It seems to me like a good choice for the times we live in versus a 60/40 portfolio. It has a very unique set of holdings that seem to cover all the bases. The one issue I have is that it doesn’t currently pay a dividend. What’s your view on this ETF versus a 60/40 portfolio?
I would be careful, for several reasons.
Let’s start with Mr. Roubini. An economist who earned the nickname “Dr. Doom” because of his perennially bearish outlook, Mr. Roubini has an uneven forecasting record. Although he correctly warned about the U.S. housing bust that triggered the financial crisis of 2008-2009, his subsequent forecasts for further market crashes and economic crises didn’t pan out.
Indeed, if you’d followed his advice, you would have missed out on the longest bull market in U.S. history.
The composition of the fund also strikes me as inappropriate for a Canadian investor. At inception on Nov. 19, the fund had slightly more than 50 per cent of its assets in mostly short-term U.S. Treasuries, with about 17 per cent in gold, 13 per cent in U.S. real estate investment trusts and the balance in agricultural commodities, inflation-protected Treasuries and alternative strategies. That’s a lot of U.S. exposure – and, hence, a lot of currency risk – for a Canadian investor. The ETF also has minimal exposure to growth-oriented sectors of the stock market.
For these and other reasons, the ETF is definitely not a substitute for a traditional 60/40 portfolio of equities and fixed income. Nor is it marketed as such. Rather, the ETF’s website describes it specifically “as an alternative to the fixed-income portion of a traditional 60/40 portfolio, which seeks to provide inflation-adjusted returns through a mix of real assets and inflation-hedged securities that are generally uncorrelated to the market.”
Another drawback is that, because the ETF trades in U.S. dollars on a U.S. exchange, you would need to convert your Canadian money to U.S. currency to purchase it. So, unless you already have sufficient U.S. cash on hand, your broker’s currency exchange spread could cost you 1 to 2 per cent of your investment right off the top. (You can get a better rate from some foreign exchange dealers or by using a strategy called Norbert’s Gambit.)
Finally, presumably because it is actively managed, the ETF charges a gross expense ratio of 0.86 per cent, which is much higher than most passive, index-tracking ETFs.
If you want to put a small portion of your capital into the Atlas America Fund to hedge against economic and market uncertainty, that’s one thing. But I would not recommend that anyone, let alone a Canadian investor, park a large percentage of their capital here.
As always, a well-diversified portfolio with exposure to Canadian, U.S. and international stocks, fixed-income and cash is the best way to ride out the volatility that may be ahead. What’s more, if you choose dividend-paying stocks for a portion of your portfolio, you’ll be glad to see that cash coming in – especially if things get ugly out there.
E-mail your questions to jheinzl@globeandmail.com. I’m not able to respond personally to e-mails but I choose certain questions to answer in my column.