rbc dominion securities inc. equity income guided portfolio

What’s inside

3 Performance

4 Portfolio positions

5 Sector commentary

11 Canadian Imperial Bank of Commerce

Portfolio increase

12 Hydro One Portfolio removal

13 Methodology

Equity IncomeGuided Portfolio

RBC Dominion Securities Inc.

September 1, 2020 | Quarterly Report Portfolio Advisory Group – Equities

For an overview of the Portfolio, please click here.

Click here for authors’ contact information.

All values in Canadian dollars and priced as of Aug 27, 2020, market close, unless otherwise noted.

Produced: Aug 31, 2020 15:15ET Disseminated: Sep 1, 2020 06:45ET

For required disclosures, see page 14.NOT FOR DISTRIBUTION IN THE U.S.

Slightly increasing exposure to an economic recoveryReducing our defensive stance

Global economies were hit hard by the quarantine efforts required to reduce the spread of COVID-19. Countries have started opening their economies while trying to contain any further outbreaks. However, we believe global economies will remain at sub-par levels until there is an approved vaccine or more positive developments in therapeutic drugs. Several vaccines have entered Phase II and Phase III of testing, and although delivery dates are still unknown, some governments are hopeful a vaccine will be available by the end of 2020.

The historic pullback in the Canadian economy in Q2 was concentrated in April, when output fell an unprecedented 11.7% amid a full month of COVID-19 containment measures. According to RBC Economics, activity looked decidedly “less bad” towards the end of the quarter. Statistics Canada reported that GDP grew 4.5% in May followed by a preliminary estimate of another 5% in June. RBC Economics reports its own tracking suggests growth may have been even stronger in June, and is penciling in a 7% gain given sizeable increases in manufacturing as well as wholesale and retail sale volumes.

Both business spending and international trade flows have been slower to return after their own record declines in April. RBC Economics believes that net international trade was probably one of the few positive contributors to GDP growth in Q2, but only because imports saw a larger quarterly drop than exports (in part because a closed border significantly shrank what is typically a sizeable Canadian deficit in travel services).

Our expectation that international growth will be stronger than domestic growth leads us to focus on companies with greater exposure outside Canada, especially in the short term as Asia and Europe are a few steps ahead in reopening their economies. We continue to hold several companies in the Portfolio that derive a substantial portion of their earnings from foreign markets.

Investors initially took a risk-averse approach starting in March due to uncertainties caused by fears of the potential spread of COVID-19. It will be difficult to forecast the duration and economic impact of the fallout from COVID-19, or how quickly Canada’s economy will return to a

https://www.rbcwealthmanagement.com/_ca/static/documents/canadian-eigp.pdf

2 | Equity Income Guided Portfolio

September 1, 2020 | RBC Wealth Management

Looking forward, we anticipate only a handful of companies in the Portfolio will announce dividend increases this year; however, RBC Capital Markets is forecasting 17 of the 26 will increase their dividends in 2021.

new normal, until a vaccine or therapeutic drugs have been proven effective in safeguarding the general population or herd immunity is acquired. In the meantime, we expect the equity markets will remain volatile and companies will prioritize financial strength over the return of capital to investors. Therefore, we believe dividend investors would be well advised to temper their expectations for dividend growth.

Since the start of the year, approximately 67 companies in Canada have cut or suspended their dividends to shareholders, and this will have a negative impact on the amount of dividends investors should expect to receive in the near future. We have seen the dividends per share of the S&P/TSX Index fall during previous periods of recession before eventually recovering. We have recently witnessed a few of these companies partially reinstate their dividends after reopening parts of their businesses.

Usually, we expect the returns of a dividend portfolio to outperform the broader index during recessions, as investors tend to gravitate to dividend-paying companies during times of increased uncertainty. However, we believe this time is different due to the severity and swiftness of dividend cuts. On a year-to-date basis, the S&P/TSX High Dividend Index is down roughly 14.6%, or 1466 basis points, more than the S&P/TSX Composite Index. Two of the hardest-hit sectors in the High Dividend Index continue to be Energy and Real Estate, which are traditionally strong dividend-paying sectors. Looking forward, we anticipate only a handful of companies in the Portfolio will announce dividend increases this year; however, RBC Capital Markets is forecasting 17 of the 26 will increase their dividends in 2021. We continue to monitor the companies’ financial performance for any potential dividend cuts, especially in the Real Estate and Energy sectors. At the same, we find valuations to be attractive in these sectors and believe they can benefit from a continued economic recovery

Normally, one of the biggest risks in owning a dividend-oriented portfolio is the risk of rising interest rates and the negative impact on share price valuation. The U.S. Federal Reserve has made changes to its monetary policy, the most significant of which is a shift to flexible average inflation targeting. According to

Defensive weighting on the Equity Income Guided Portfolio

Source - RBC Dominion Securities

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

Defensive

Defensive + Pipes and Midstreams

Average = 35%

Great Recession

Average = 20%



Note: Past performance is no guarantee of future results and should not be viewed as an indicator of future results. Source - FactSet

Total return for the summer quarter (5/31/20 – 8/31/20)

Equity Income Guided Portfolio 4.69%

S&P/TSX Composite Index 9.57%

S&P/TSX High Dividend Index 7.04%

RBC Economics, a shift to average inflation targeting means rates could remain near zero for several more years (barring an unanticipated increase in inflation). The Fed is the first major central bank to adopt an average inflation target, and it could pave the way for similar goal changes by the Fed’s peers. The new lower-for-longer approach could result in strong support for dividend-paying stocks, in our view.

From a Portfolio perspective, we have slightly reduced our exposure to traditional defensive sectors, including Utilities, Communication Services, Real Estate, and Consumer Staples as well as the Energy Transportation subsector, to participate in the economic recovery. As the chart on the previous page shows, our exposure to those interest-rate-sensitive sectors remains high at 42.5%, compared to our long-term average of 35%; however, we have maintained some exposure to companies whose businesses are more closely tied to economic growth in order to benefit from the economy’s response to an effective vaccine or advancements in therapeutic drugs to fight the coronavirus.

PerformanceThe Equity Income Guided Portfolio generated a total return of 4.69%, underperforming the S&P/TSX High Dividend Index and the broader S&P/TSX Index returns by 235 and 488 basis points, respectively.

From an attribution point of view, the Portfolio’s Consumer Discretionary, Energy, and Utilities exposures negatively contributed to the Portfolio’s performance during the quarter. Meanwhile, our allocations in the Industrials resulted in the strongest contribution to the Portfolio.

On an absolute basis, the top performers within the Portfolio this quarter were Bank of Montreal, National Bank, and Canadian Imperial Bank of Commerce driven by stronger than expected bank earnings. On the flip side, Suncor Energy, Allied Properties, Restaurant Brands International were the relative laggards as result of volatility in energy prices and reduced foot traffic.



Source - RBC Capital Markets, Bloomberg

^ In U.S. dollars* Adjusted funds from operations (AFFO) instead of earnings per share (EPS)** FactSet estimates*** Cash flow per share (CFPS) Payout ratios based on earnings per share, except for the above.Dividend Growth Rate is based on RBC Capital Markets’ or Bloomberg’s 2021 forecast dividend compared to the current annualized dividend.Growth in EPS/AFFO/CFPS are based on the RBC Capital Markets’ 2021 forecast compared to the 2019.

In all jurisdictions where RBC Capital Markets conducts business, we do not offer investment advice on Royal Bank of Canada. Certain regulations prohibit member firms from soliciting orders and offering investment advice or opinions on their own stock. References to Royal Bank are for informational purposes only and not intended as a direct or implied recommendation for investing in Royal Bank and all related securities.

Price to Forecasted Forecast ForecastMarket Price Earnings/AFFO/CFPS Div Payout Ratio growth in dividend

Company name Weight cap (B) 8/27/20 2019A 2020E 2021E 2022E 2019A 2020E 2021E yield 2019E 2020E 2021E EPS/AFFO growth rateor CFPS to 2021

Interest sensitive

CM Can. Imp. Bank of Commerce 5.0% $46 $104.01 116 - 68 $11.92 $9.70 $11.05 $12.20 8.7x 10.7x 9.4x 5.6% 47% 60% 53% 14% 0%

BMO Bank of Montreal 2.5% $54 $83.67 105 - 56 $9.43 $7.51 $9.05 $10.25 8.9x 11.1x 9.2x 5.1% 43% 56% 47% 21% 0%

BNS Bank of Nova Scotia 2.5% $70 $57.54 77 - 46 $7.14 $5.62 $6.76 $7.85 8.1x 10.2x 8.5x 6.3% 49% 64% 53% 20% 0%

NA National Bank of Canada 5.0% $24 $71.40 75 - 39 $6.36 $6.09 $6.65 $7.46 11.2x 11.7x 10.7x 4.0% 42% 47% 43% 9% 0%

RY Royal Bank of Canada 5.0% $145 $101.90 110 - 72 NA NA NA NA NA NA NA 4.2% NA NA NA NA NA

TD TD Bank 2.5% $120 $66.40 78 - 49 $6.69 $5.29 $6.02 $6.85 9.9x 12.6x 11.0x 4.8% 43% 59% 52% 14% 0%

MFC Manulife 5.0% $39 $20.01 28 - 13 $2.97 $2.70 $3.28 NA 6.7x 7.4x 6.1x 5.6% 34% 41% 34% 21% 0%

IFC Intact Financial 2.5% $20 $142.40 158 - 105 $6.16 $8.06 $8.62 NA 23.1x 17.7x 16.5x 2.3% 49% 41% 42% 7% 8%

TRI Thomson Reuters ^ 2.5% $38 $77.30 83 - 52 $0.15 $1.43 $2.10 $2.42 nmf 54.1x 36.8x 2.0% nmf 106% 76% 47% 5%

AP.un Allied Properties REIT * 2.5% $5 $38.15 60 - 31 $1.93 $1.95 $2.03 $2.10 19.8x 19.6x 18.8x 4.3% 83% 85% 81% 4% 0%

FCR.un First Capital REIT * 2.5% $3 $14.18 23 - 11 $1.09 $0.96 $1.06 $1.07 13.0x 14.8x 13.4x 6.1% 79% 90% 81% 10% 0%

BCE BCE 5.0% $52 $57.72 65 - 46 $3.50 $3.07 $3.54 $3.69 16.5x 18.8x 16.3x 5.8% 91% 108% 96% 15% 2%

T TELUS 5.0% $31 $24.44 28 - 19 $1.44 $1.18 $1.34 $1.48 17.0x 20.7x 18.2x 4.8% 78% 103% 98% 14% 12%

BIP Brookfield Infr. Partners ^ 5.0% $13 $45.03 56 - 26 $3.06 $3.06 $3.46 NA 14.7x 14.7x 13.0x 4.3% 59% 63% 60% 13% 7%

FTS Fortis 5.0% $25 $52.78 59 - 42 $2.55 $2.57 $2.85 NA 20.7x 20.5x 18.5x 3.6% 71% 74% 71% 11% 6%

CU Canadian Utilities 2.5% $7 $33.32 43 - 25 $2.23 $1.90 $2.12 NA 14.9x 17.5x 15.7x 5.2% 76% 92% 84% 12% 3%

Consumer

QSR Restaurant Brands ^ 5.0% $17 $54.51 79 - 25 $2.72 $2.07 $2.86 NA 20.0x 26.3x 19.1x 3.8% 73% 100% 80% 38% 10%

MGA Magna International ^ 2.5% $15 $50.27 57 - 23 $6.05 $1.84 $5.36 $6.51 8.3x 27.3x 9.4x 3.2% 24% 87% 33% 191% 10%

Industrial

CNR Canadian Nat. Railway 5.0% $100 $140.33 141 - 92 $5.80 $5.29 $6.27 NA 24.2x 26.5x 22.4x 1.6% 37% 43% 40% 19% 10%

TIH Toromont Industries ** 2.5% $6 $74.09 76 - 52 $3.52 $2.90 $3.68 $4.21 21.0x 25.5x 20.1x 1.7% 31% 43% 34% 27% 0%

Resources

SU Suncor Energy *** 5.0% $33 $21.59 45 - 14 $6.93 $3.26 $5.53 NA 3.1x 6.6x 3.9x 3.9% 24% 33% 15% 70% 0%

ENB Enbridge * 5.0% $86 $42.57 57 - 33 $4.57 $4.64 $4.87 NA 9.3x 9.2x 8.7x 7.6% 65% 70% 70% 5% 5%

TRP TC Energy 5.0% $59 $62.68 77 - 47 $4.14 $4.13 $4.14 NA 15.1x 15.2x 15.1x 5.2% 72% 78% 86% 0% 10%

PPL Pembina Pipeline * 5.0% $18 $32.96 54 - 15 $4.36 $4.31 $4.45 NA 7.6x 7.6x 7.4x 7.6% 55% 58% 59% 3% 5%

NTR Nutrien ^ 5.0% $21 $37.45 52 - 24 $2.15 $1.62 $2.11 $2.70 17.4x 23.1x 17.7x 4.8% 82% 111% 85% 30% 0%

range ($)52-wk EPS / AFFO / CFPS



From a valuation perspective, the Canadian banking sector remains attractive as it is trading at approximately 1.2x price-to-book.

Sector commentary

Banks and InsuranceIncreasingly likely that the banks have reached peak credit provisions; capital healthy at lifecosThe Canadian banks reported fiscal Q3 2020 earnings that were, on average, better than feared. The strength of capital levels has been a key area of focus among investors, thus we were pleased to see that, on average, capital levels experienced a modest improvement sequentially and year over year. The six-month mortgage deferrals are also nearing expiry, which creates a degree of concern considering that the labour market is still recovering. On balance, however, credit provisions decreased from Q2 to Q3, which in our view implies that the worst could be behind us. Payout ratios remain above historical levels, but RBC Capital Markets is forecasting an improvement as we progress through 2021.

From a valuation perspective, the Canadian banking sector remains attractive as it is trading at approximately 1.2x price-to-book (P/B) compared to its 15-year average of roughly 1.9x. According to RBC Capital Markets, the Canadian banks continue to trade at an above-average premium compared to the Canadian life insurance companies on a forward P/B basis.

We are maintaining a 5% position in National Bank (NA) due to its strong capital base, conservative credit profile, and lower loan book exposure to industries negatively impacted by COVID-19. We are also maintaining a 5% position in Royal Bank of Canada (RY).

We are maintaining our 2.5% position in Bank of Montreal (BMO). We continue to like the bank’s exposure to the U.S. market, as the average U.S. consumer is relatively healthier financially than their Canadian counterpart. RBC Capital Markets also believes provisions for credit losses have peaked and will fall in in 2021.

We continue to like Toronto-Dominion Bank (TD) for its strong U.S. operations, but maintain only a 2.5% position given its premium valuation, lower dividend yield, and potential net interest margin compressions within the U.S. market. With the U.S. elections around the corner, we believe loan growth could be impacted as borrowers wait for the outcome before making larger capital investments.

We are maintaining our 2.5% position in The Bank of Nova Scotia (BNS) given that the bank has streamlined its portfolio over the last several years and is currently paying what we view as an attractive yield of approximately 6.3%. BNS has a greater international presence that could offer relative upside performance should emerging markets rebound more quickly than anticipated.

We are increasing our position in Canadian Imperial Bank of Commerce (CM) to 5.0% because it is trading at a discount to peers on a P/B basis while providing an above-average dividend yield of approximately 5.6%. Improvement in the financial health of the average Canadian consumer will be important given the bank’s sensitivity to Canada.



The combination of lower bond yields, economic uncertainty, and strong demand for residential housing has the residential portion of the Real Estate Investment Trust (REIT) subsector outperforming.

We are maintaining our 5% position in Manulife Financial (MFC). Manulife comes with a healthy capital position that we believe could translate into dividend increases and buybacks down the road. We are also encouraged by the company’s exposure to Asia, which provides a unique growth area—though we are cognizant of potential headwinds from COVID-19. MFC is trading at a discount to other Canadian lifecos on the basis of forward P/B multiple.

We are maintaining the position in Intact Financial (IFC) at 2.5%. While not a high yielder, we view Intact as a defensive cyclical, thus it comes with a good balance of growth and downside protection. IFC is trading at a premium to its long-term P/B average, but RBC Capital Markets believes this is warranted given the company’s strong fundamentals.

Real EstateValuations at a discount except for multi-residential and industrial propertiesThe combination of lower bond yields, economic uncertainty, and strong demand for residential housing has the residential portion of the Real Estate Investment Trust (REIT) subsector outperforming. The REIT subsector, with a -20% year-to-date return, is one of the worst-performing in the S&P/TSX Index. The store closures caused by COVID-19 lockdowns have caused some businesses to permanently shut down, and some to defer rent payments.

From a valuation perspective, the REIT subsector is trading at a 15% discount to net asset value (NAV), well below its historical range of parity to 10% premium. Valuations have improved over the past quarter, but we are still seeing a preference for residential and industrial properties due to greater certainty of rent payment. The sector is still attractive from a cash flow perspective, with the adjusted funds from operations (AFFO) spread over the 10-year Government of Canada bond currently at roughly 530 basis points (bps), well above the long-term average of 365 bps.

We are maintaining the 2.5% position in Allied Properties (AP.UN). The REIT has one of the best balance sheets in the sector and a very strong liquidity ratio that should allow it to maintain its distribution intact. Leasing momentum has been healthy during the pandemic, with 72% of expiring leases renewed or replaced at higher net rents. Second-quarter rent collection was approximately 95%, with 4% of rents granted deferrals and the remaining yet to be collected. Allied Properties has an urban footprint where many of the properties are low-rises that could provide for many years of development activities. Given the effects of social distancing measures and volatility in oil-sensitive regions, the impact of COVID-19 on Allied’s developments in Montréal, Toronto, Calgary, and Vancouver has varied. In aggregate, however, RBC Capital Markets believes the impacts have been limited, with expected project delays measured in weeks to perhaps several months. The payout ratio is expected by RBC Capital Markets to remain in the middle of the 80%–90% range in 2020 before dropping to around 80% in 2021.

We are maintaining the 2.5% position in First Capital Real Estate Investment Trust (FCR.UN). The REIT’s client base offers some stability to cash flow with approximately 34% of rent being e-commerce-proof and approximately 30% derived from grocery, pharmacy, and liquor stores. The impact of the pandemic has resulted First Capital not collecting approximately a quarter of the rent due in April and May, but some of these payments have been deferred. Rent collection continues to improve and was at 79% in July. We expect this trend to



The oil ministers of Saudi Arabia and Russia expressed confidence that the market could absorb the additional output because of the improving demand picture, and insisted that they had a sufficient early warning system in place to deal with any sudden outlook shifts.

continue to improve as 96% of the stores in the REIT’s portfolio are now open. RBC Capital Markets expects the rise in bad debts, rent abatements, and higher vacancy will result in a decline in net income for 2020 that will be followed by a recovery in 2021. The slowdown will result in the payout ratio rising to over 100% in 2020 before recovering to the 90% range in 2021. We are cognizant that lower cash flows combined with the company’s deleveraging priority may result in lower distributions over the short term. However, we believe the unit price is trading at an attractive dividend to the net asset value and the valuation could benefit from a successful reopening of the economy. We expect the company will continue to delever its balance sheet by disposing of buildings and vacant holdings; the latter would help reduce debt levels without impacting cash flows.

Energy and MaterialsOPEC+ agreeing to maintain production cuts will be keyWith the majority of the world’s population in some form of quarantine during the past quarter, demand for oil fell dramatically and prices collapsed, forcing oil-producing countries to come to an agreement on production curtailments in order to provide a floor on prices. Since the beginning of April, OPEC+ has reduced oil production by 10.9 million barrels per day (bbl/d), roughly 11% of supply. The group decided to scale back the production cuts to 7.7 million bbl/d from August to December. The oil ministers of Saudi Arabia and Russia expressed confidence that the market could absorb the additional output because of the improving demand picture, and insisted that they had a sufficient early warning system in place to deal with any sudden outlook shifts.

During the quarter, RBC Capital Markets tweaked its West Texas Intermediate (WTI) price projections for 2020 and 2021 to US$40 per barrel (bbl) (from US$39/bbl) and US$45/bbl (from US$46/bbl), respectively.

We are maintaining Suncor Energy (SU) at a 5% position as its refining operations provide a partial hedge to lower oil prices. Last quarter, the company reduced its dividend by 55% in order to maintain its strong balance sheet. RBC Capital Markets expects the company will be cash flow positive in 2021 and its financial leverage is forecasted to drop to 1.5x net debt to cash flow (from 2.8x).

We are maintaining the 5% position in Nutrien (NTR). RBC Capital Markets believes the company will be free cash flow positive in 2020 and 2021, even after covering its $1 billion in annual dividend payments. We believe the company’s low-cost assets, strong operation, and exposure to the resilient agricultural sector should support the dividend through this challenging environment.

Utilities, Pipelines, and MidstreamsDividend growth could be tied to recovery in oil pricesThe pipeline and midstream companies generally underperformed the S&P/TSX Composite Index during the past quarter as oil production curtailments negatively impacted investor sentiment. Before the pandemic, many of the companies in this sector were expected to provide a strong growth dividend in the near term, driven by their current operations and new projects. We believe dividend growth rates could be more muted, and some companies may have to reduce their dividends—especially companies with less natural gas exposure. The drop in oil demand caused by the pandemic forced oil & gas companies to curtail production by approximately 1 million bbl/day in May 2020, but volumes have since rebounded with curtailments closer to 800,000 bbl/day. The lower production volumes will result in lower processing volumes for the midstreams and pipeline systems.



On the export side, things are positive given the Trans Mountain pipeline is under construction, while Enbridge’s Line 3 and Keystone XL also have visibility for a path forward.

Brookfield is advancing two asset sale processes that it expects will generate over $700 million of liquidity.

On the export side, things are positive given the Trans Mountain pipeline is under construction, while Enbridge’s Line 3 and Keystone XL also have visibility for a path forward. We are cognizant that Democratic candidate Joe Biden has vowed not to allow Keystone XL to move forward if he wins the U.S. presidential election.

We are maintaining our 5% position in TC Energy (TRP) because of its strong near-term growth potential that could result in attractive dividend increases after the pandemic, and the possibility of Keystone XL approval. We do not believe that the value of Keystone XL is reflected in the analysts’ forecasts or the stock’s valuation. Roughly 95% of the company’s earnings before interest, taxes, depreciation, and amortization (EBITDA) is generated from regulated and/or long-term contracted assets, which provide steady cash flow. The recently completed sale of a 65% stake in the Coastal GasLink project reduces funding risk for the company.

We are maintaining our 5% position in Enbridge (ENB) given its strong dividend growth potential and improving balance sheet leverage. The company recently reaffirmed its 2020 distributable cash flow range of $4.50–$4.80 with first-half 2020 results that exceeded its expectations being tempered by headwinds in the second half of 2020 (e.g., lower Texas Eastern volumes due to integrity work; narrower differentials in Energy Services).

We are maintaining the 5% position in Pembina Pipeline (PPL) because we believe its diversified infrastructure asset base could maintain the dividend due to excess cash flow of approximately $1 billion. According to RBC Capital Markets, Pembina remains the “go to” stock for investors seeking a higher degree of take-or-pay cash flows, but with optionality/torque to a Western Canada Sedimentary Basin (WCSB) volume recovery. RBC Capital Markets believes future moves in the share price will be linked to improved WCSB volumes as well as the company prudently bringing back its mothballed projects in a manner that leaves no doubt about its ability to self-fund and maintain reasonable credit metrics.

In the Utilities sector, we are maintaining the 5% position in Brookfield Infrastructure Partners L.P. (BIP.UN) due to what we view as a current attractive dividend yield and strong dividend growth potential. The company noted that its liquidity is the strongest it has been in years at approximately $4.3 billion. BIP has invested over $200 million into a handful of publicly traded infrastructure companies in the hope that some of these may lead to large-scale transactions. It has now relaunched various monetization opportunities, and is confident that the merits of investing in mature, de-risked cash-flow-producing infrastructure assets will be appealing to prospective buyers, especially when considering the potential for lower interest rates over an extended period of time. Of note, the company is advancing two asset sale processes that it expects will generate over $700 million of liquidity.

Fortis (FTS) is being maintained at a 5% weight. We continue to view FTS as a high-quality regulated utility and believe the premium valuation relative to peers is warranted. The company expects the rate base will grow at 6.5%–7% per annum through 2024, which is sufficient to support 6% annual dividend growth, in our opinion.

We are maintaining a 2.5% position in Canadian Utilities (CU). The company has lagged utility peers due to the weakened economic outlook for Alberta and



There are still limited options for income-oriented investors within the Consumer sectors, and we remain cautious on potential supply chain issues.

uncertainty related to the $1.2 billion review in capital spending. RBC Capital Markets believes that, even without a change to its 2020 capital program, there appears to be sufficient liquidity for the company to support its funding requirements for this year. RBC Capital Markets also believes the company’s ability to deliver earnings and dividend growth over the next two years remains intact, with potential upside from capital deployment and in Puerto Rico.

We are removing the 2.5% position in Hydro One (H) in order to reduce the portfolio’s defensive tilt.

ConsumerConsumer spending rebounding well off the April lowsAccording to RBC Economics, consumer spending is well off the April lows and has improved modestly since the beginning of June. Brick-and-mortar spending has also seen an upswing as Canadians become more comfortable with in-person dining experiences. That said, there are still limited options for income-oriented investors within this sector, and we remain cautious on potential supply chain issues. While we’re happy to see consumer spending moving in the right direction, we would not be surprised to see some margin compression because of an increase in COVID-19-related costs.

We are maintaining our 5% position in Restaurant Brands International (QSR). Comps at Tim’s and Burger King improved sequentially in Q2 results but remain lower year over year, while Popeyes continues to experience strong growth. Management noted that portfolio optimization will effectively lead to no new unit growth in 2020, which will be a headwind for the stock in the near-to-medium term. Leverage is also above pre-pandemic levels, but we believe the longer-term unit growth story remains intact. Furthermore, RBC Capital Markets is forecasting an improvement in the payout ratio as we go through 2021 and QSR continues to trade at a discount to peers.

We maintain our 2.5% position in Magna International (MG) due to its robust balance sheet, strong cash flow generation capabilities, and commitment to return capital to shareholders via buybacks and dividend increases. Magna also trades at a discount to global peers, and RBC Capital Markets believes the company can narrow the valuation gap over time. Overall, we believe Magna will provide the Portfolio with upside participation should the economy improve while also having sufficient liquidity to operate through near-term turbulence.

IndustrialsDividend growth might be more of a 2021 story The Canadian Industrials sector tends to produce yields below the TSX average, but we believe the companies in our Portfolio have good histories of returning capital to shareholders in the form of dividend increases and/or share buybacks. Dividend growth might be harder to come by in the current environment, but payout ratios remain healthy from our perspective and this sector should allow for upside participation as the economy recovers. It is also worth noting that China is a significant source of demand growth for energy and base metals, and as the Chinese economy appears to be pivoting back towards growth, we view this as an incremental benefit for the sector.

We are keeping the 5% Canadian National Railway (CNR) position. Outside of its 2020 capex plan, the company has elected to not reinstate guidance that was withdrawn as a result of the pandemic. RBC Capital Markets reduced its volume estimates for the remainder of the year and is projecting a recovery



going into 2021. That said, RBC Capital Markets also believes the company will be able to bring back volumes at a lower cost, which could provide a boost to margins. Overall, while the business will likely experience volume pressures, we maintain a long-term favourable view given the high barriers to entry among the rails. RBC Capital Markets is forecasting a payout ratio of 43% in 2020 and an improvement to 40% in 2021.

We are maintaining a 2.5% weight in Thomson Reuters (TRI) because it allows for upside participation should economic growth rebound more quickly than expected while also providing downside protection via its defensive revenue mix and recurring revenue profile. RBC Capital Markets believes the setup for TRI is attractive and is projecting NAV growth of 8%–9% over the next five years, which could pave the way for buybacks and dividend growth down the road. RBC Capital Markets is forecasting a 2020 free cash flow payout ratio of approximately 63% and expects this to improve to 61% by 2021. Over the longer term, the company is targeting a payout ratio of 50%–60% and is projecting a dividend growth of 6%–10% per annum post COVID-19 and after the closure of the Refinitiv transaction.

We are maintaining a 2.5% position in Toromont (TIH). The company has grown its dividend for 31 consecutive years, and we believe the payout ratio of approximately 43% is attractive. Backlog may be lumpy over the next few quarters, but the company saw notable improvements through May and June and its balance sheet remains in good standing.

Communication Services A constructive place to be for investors in the current environmentWhile bond yields have become more accommodative sequentially, we believe share prices for most wireless providers will remain range-bound given reduced sales of new wireless handsets and lower overage fees as a result of “unlimited” wireless plans. Under a scenario of economic rebound and gradual recovery through 2021, RBC Capital Markets sees positive albeit modest mid- to high-single digit total returns from Canadian telecom stocks over the next year.

We are maintaining the 5% position in TELUS (T). In light of the continuing evolution and uncertainty of the global COVID-19 health crisis, TELUS remains unable to accurately forecast the positive and negative impacts of the pandemic on its business and has withdrawn its annual financial guidance for 2020. The dividend was not increased during the latest quarter; however, RBC Capital Markets believes TELUS will resume its dividend growth plan in Q4 2020. In the near term, we believe the company’s Alberta exposure and potential 5G Huawei headlines may weigh on valuation. In the longer term, we see the ramp-up in 5G and accelerated growth in virtual healthcare within TELUS Health.

We are maintaining the 5% position in BCE (BCE). The company continues to be a stalwart in our Portfolio because of its commitment to dividend increases, industry-leading execution, and ongoing wireless leadership and cost cutting that should underpin healthy free cash flow generation. Like TELUS, the company withdrew its 2020 guidance but noted that its underlying fundamentals remain strong and that the dividend is sustainable for the foreseeable future.

While bond yields have become more accommodative sequentially, we believe share prices for most wireless providers will remain range-bound.



CIBC is Canada’s fifth-largest bank as measured by loans, assets, and market capitalization.

Canadian Imperial Bank of Commerce(TSX: CM, $104.01)

We are increasing the position in Canadian Imperial Bank of Commerce to 5.0% (from 2.5%) in the Portfolio • Market-Weighting the Canadian banks: With the 2.5% increase in CIBC,

the Portfolio is effectively Market Weight the Canadian banks in relation to the S&P/TSX High Dividend Index, at approximately 22.5%. We are opting to increase the Portfolio’s cyclicality via the banks and specifically through CIBC because it is more economically sensitive to Canada and the housing market has shown a high degree of resiliency despite the disruption in the labour markets. Furthermore, CIBC comes with one of the stronger capital ratios among the peer group and has the second-lowest exposure to COVID-19-related loans, according to RBC Capital Markets. Lastly, RBC Capital Markets believes CIBC has built up its reserves conservatively in the context of its peer group, which we view as an incremental positive.

• Attractive dividend yield: CIBC’s dividend yield of approximately 5.6% is the second-highest among the Canadian banks, only trailing the Bank of Nova Scotia (BNS). RBC Capital Markets is forecasting a payout ratio of 68% in 2020, improving to 52% in 2021.

• Trading at a discount to the peer group: The Canadian banks as a whole are trading at a price-to-book (P/B) multiple of around 1.3x, which is not demanding when compared to their 15-year average of roughly 1.9x. Although record-low interest rates will be a headwind for net interest margins, low rates could also incentivize borrowing, which would in turn drive loan growth. CIBC trades at approximately 1.25x P/B, a discount to peers.

Source - FactSet; data through 8/27/20

1-year pricing chart

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Canadian Imperial Bank of Commerce Daily104.01 High: 115.96 Low: 67.52

Canadian Imperial Bank of Commerce - Price

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Cvol: Avg: 2,025,465Canadian Imperial Bank of Commerce - Volume

Risks Risks include but are not limited to a decline in the health of the overall Canadian economy, sustained deterioration in the capital markets environment, weakening retail credit quality, regulatory and political risks, and a prolonged low-rate environment.



Hydro One has two primary business segments in the Province of Ontario: electric transmission and electric distribution. In addition, it has a very small telecommunications division. The electric transmission and distribution utilities account for more than 99% of overall earnings. The transmission assets owned by Hydro One make up 98% of Ontario’s electric transmission system, while Hydro One’s electric distribution system is the largest in Ontario by number of customers.

Hydro One Limited(TSX: H, $27.45)

We are removing the 2.5% position in Hydro One from the Portfolio • Valuation above long-term average: Hydro One is trading at a forward price-

to-earnings ratio of approximately 19x, which is a modest discount to Fortis (FTS), the company we view as the quality play within the Utility sector. As a result, we believe that the risk/reward profile for Hydro One is less attractive today, especially in an environment where interest rates are near zero.

• Tilting towards economic sensitivity: We believe Hydro One has served us well by increasing the Portfolio’s defensive characteristics during a time of heightened economic uncertainty. Overall, we understand the economic recovery will likely have bumps along the way, but note that at the margins, several economic indicators have improved over the past quarter. We therefore believe increasing the Portfolio’s economic sensitivity makes sense at this juncture.

• Below-average dividend growth: Hydro One estimates that its rate base will grow at a CAGR of approximately 5% through 2024, which effectively limits dividend growth to 5% per annum. Hydro One is yielding around 3.8%, which is a relative drag on the Portfolio’s yield of roughly 4.8%. RBC Capital Markets also notes that the 5% growth guidance is below that of certain Canadian utility peers.

Source - FactSet; data through 8/27/20

1-year pricing chart

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Hydro One Limited Daily27.45 High: 29.53 Low: 20.25

Hydro One Limited - Price

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Cvol: Avg: 969,039Hydro One Limited - Volume

Risks Risks include but are not limited to real or perceived government intervention, adverse regulatory decisions, inability to achieve cost synergies, lower pricing due to COVID-19, and a significant increase in interest rates.



Methodology The objective of the Equity Income Guided Portfolio (EIGP) is to provide investors with an attractive rate of current income with the potential for growing cash flow plus long-term capital appreciation by investing in a diversified Portfolio of higher-yielding Canadian securities, such as common stocks, Real Estate Investment Trusts (REITs), and income trusts that trade on the S&P/ TSX Composite Index. This Portfolio consists of approximately 20–30 stocks and may be appropriate for investors who have a moderate risk tolerance in relation to an equity investment. Because of its focus on income and income growth, this Portfolio would ordinarily exhibit greater defensive characteristics relative to the broad equity market during bear markets and may underperform during bull markets.

The top-down strategy process employed by RBC Capital Markets plays a different role in the EIGP process than with our other Guided Portfolios. While the recommended sector “overweights” and “underweights” are taken into consideration, the Investment Committee aims to diversify the Portfolio adequately across the four broader economic sectors (interest sensitive, consumer, industrial, and resources), even though dividends may be modest. In this way, we address one of the most common pitfalls inherent in income investing: investors who focus too narrowly on the size of the dividend will more than likely find themselves heavily concentrated in the Financials and Utilities sectors, which tend to react negatively to rising interest rates.

Once the “sector weights” are established, an eligible universe of securities is determined. Careful consideration is given to identifying a pool of fundamentally preferred companies that have the potential to return, on a sustainable basis, a significant amount of cash flow to investors. The resulting universe will consist of securities with either an attractive dividend yield or a yield that may appear less attractive, but that we believe have strong potential for growth. In addition, companies that, in our view, pay out too high a percentage of their cash flows in dividends or distributions will be excluded.

Additional factors analyzed include a company’s financial strength and debt levels, the amount of cash generated by the business relative to capital expenditure requirements, its longer-term return on capital, the proportion of income paid out versus reinvested, historical and forecast dividend growth rates, and trading liquidity.

The current dividend yield for the S&P/TSX Composite Index is approximately 3.19%; the EIGP currently offers investors a yield of approximately 4.75% plus the potential for capital appreciation and an inflation hedge.



Disclosures and disclaimers

Equity Income Guided Portfolio Investment Committee

Dominick Hardy, CA, CFA, CPA, Portfolio [email protected]; RBC Dominion Securities Inc.

Patrick McAllister, CFA, Portfolio [email protected]; RBC Dominion Securities Inc.

Sunny Singh, CFA, Portfolio [email protected]; RBC Dominion Securities Inc.

Richard Tan, CFA, Portfolio [email protected]; RBC Dominion Securities Inc.

Analyst Certification All of the views expressed in this report accurately reflect the personal views of the responsible analyst(s) about any and all of the subject securities or issuers. No part of the compensation of the responsible analyst(s) named herein is, or will be, directly or indirectly, related to the specific recommendations or views expressed by the responsible analyst(s) in this report.

This report is issued by the Portfolio Advisory Group (“PAG”) which is part of the retail division of RBC Dominion Secu-rities Inc. (“RBC DS”). The PAG provides portfolio advisory services to RBC DS Investment Advisors. Reports published by the PAG may be made available to clients of RBC DS through its Investment Advisors. The PAG relies on a num-ber of different sources when preparing its reports includ-ing, without limitation, research reports published by RBC Capital Markets (“RBC CM”). RBC CM is not independent of RBC DS or the PAG. RBC CM is a business name used by Royal Bank of Canada and certain of its affiliates, including RBC DS, in connection with its corporate and investment banking activities. As a result of the relationship between RBC DS, the PAG and RBC CM, there may be conflicts of interest relating to the RBC CM analyst that is responsible for publishing research on a company referred to in a report issued by the PAG.

Required Disclosures RBC Capital Markets Distribution of RatingsFor the purpose of ratings distributions, regulatory rules require member firms to assign ratings to one of three rat-ing categories - Buy, Hold/Neutral, or Sell - regardless of a firm’s own rating categories. Although RBC Capital Markets’ ratings of Outperform (O), Sector Perform (SP), and Under-perform (U) most closely correspond to Buy, Hold/Neutral and Sell, respectively, the meanings are not the same because our ratings are determined on a relative basis.

Explanation of RBC Capital Markets, LLC Equity Rating SystemAn analyst’s “sector” is the universe of companies for which the analyst provides research coverage. Accordingly, the rating assigned to a particular stock represents solely the analyst’s view of how that stock will perform over the next 12 months relative to the analyst’s sector average.

Ratings:Outperform (O): Expected to materially outperform sec-tor average over 12 months. Sector Perform (SP): Returns expected to be in line with sector average over 12 months. Underperform (U): Returns expected to be materially below sector average over 12 months. Restricted (R): RBC policy precludes certain types of communications, including an investment recommendation, when RBC is acting as an advisor in certain merger or other strategic transactions and in certain other circumstances. Not Rated (NR): The rating, price targets and estimates have been removed due to applicable legal, regulatory or policy constraints which may include when RBC Capital Markets is acting in an advisory capacity involving the company. As of March 31, 2020, RBC Capital Markets discontinued its Top Pick rating. Top Pick rated securities represented an analyst’s best idea in the sector; expected to provide significant absolute returns over 12 months with a favorable risk-reward ratio. Top Pick rated securities have been reas-signed to our Outperform rated securities category, which are securities expected to materially outperform sector average over 12 months.

Risk Rating:The Speculative risk rating reflects a security’s lower level of financial or operating predictability, illiquid share trading volumes, high balance sheet leverage, or limited operating history that result in a higher expectation of financial and/or stock price volatility.RBC Capital Markets has fundamental research of the fol-lowing companies: Allied Properties REIT (AP.un; Outperform; $38.15)Bank of Montreal (BMO; Sector Perform; $83.67)Bank of Nova Scotia (BNS; Sector Perform; $57.54)BCE (BCE; Sector Perform; $57.72)

As of June 30, 2020

Rating Count Percent Count PercentBuy [Outperform] 776 51.63 238 30.67Hold [Sector Perform] 635 42.25 130 20.47Sell [Underperform] 92 6.12 12 13.04

Investment Banking Serv ices Prov ided During Past 12 Months

Distribution of Ratings - RBC Capital Markets, LLC Equity Research



Brookfield Infrastructure Partners (BIP; Outperform; $45.03)Canadian Imperial Bank of Commerce (CM; Sector Perform; $104.01)Canadian Nat. Railway (CNR; Sector Perform; $140.33)Canadian Utilities (CU; Sector Perform; $33.32)Enbridge (ENB; Outperform; $42.57)First Capital REIT (FCR.un; Outperform; $14.18)Fortis (FTS; Outperform; $52.78)Hydro One Ltd. (H; Sector Perform; $27.45)Intact Financial (IFC; Outperform; $142.40)Magna International (MGA; Outperform; $50.27)Manulife (MFC; Outperform; $20.01)National Bank (NA; Outperform; $71.40)Nutrien (NTR; Outperform; $37.45)Pembina Pipeline (PPL; Outperform; $32.96)Restaurant Brands (QSR; Outperform; $54.51)Suncor Energy (SU; Outperform; $21.59)TC Energy (TRP; Outperform; $62.68)TELUS (T; Outperform; $24.44)Thomson Reuters (TRI; Outperform; $77.30)Toronto-Dominion Bank (TD; Sector Perform; $66.40)Toromont Industries (TIH; Not Covered; $74.09)

RBC Capital Markets analysts have received (or will receive) compensation based in part upon the investment banking revenues of RBC Capital Markets.Portfolio Advisory Group personnel, including the portfolio advisor or any individuals directly involved in the prepara-tion of the report hold(s) or exercise(s) investment discre-tion over a long position in the common shares of Allied Properties REIT, Brookfield Infrastructure Partners, Brook-field Infrastructure Corporation, Canadian National Railway Company, Canadian Utilities Limited, Enbridge Inc., First Capital REIT, Fortis Inc., Manulife Financial Corporation, Nutrien Ltd., Restaurant Brands International Inc., Royal Bank of Canada, Suncor Energy Inc., TC Energy Corporation, TELUS Corporation, The Bank of Nova Scotia, The Toron-to-Dominion Bank, and Toromont Industries Ltd.A household member or members of the Portfolio Advisory Group hold(s) or exercise(s) investment discretion over a long position in the common shares of Canadian National Railway Company, Fortis Inc., Nutrien Ltd., and Restaurant Brands International Inc.The portfolio advisor responsible for this report or a member of his/her team hold(s) or exercise(s) investment discretion or control over a long position in the non-con-vertible fixed income securities of BCE Inc., Brookfield Infrastructure Partners, Canadian Utilities Limited, Enbridge Inc., and Royal Bank of Canada. A household member or members of the portfolio advisor responsible for this report or a member of his/her team

hold(s) a long position in the non-convertible fixed income securities of BCE Inc., Brookfield Infrastructure Partners, and Canadian Utilities Limited.A partner, director or officer of a member company of RBC Capital Markets or one of its affiliates, or an analyst involved in the preparation of a report on The Bank of Nova Scotia has, during the preceding 12 months, provided services for The Bank of Nova Scotia for remuneration other than normal course investment advisory or trade execution services.

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Dissemination of Research & Short Term IdeasRBC Capital Markets endeavours to make all reasonable efforts to provide research simultaneously to all eligible cli-ents, having regard to local time zones in overseas jurisdic-tions. Subject to any applicable regulatory considerations, “eligible clients” may include RBC Capital Markets institu-tional clients globally, the retail divisions of RBC Dominion Securities Inc. and RBC Capital Markets LLC, and affiliates. RBC Capital Markets’ equity research is posted to our pro-prietary websites to ensure eligible clients receive coverage initiations and changes in rating, targets and opinions in a timely manner. Additional distribution may be done by the sales personnel via email, fax or regular mail. Clients may also receive our research via third party vendors. Please contact your investment advisor or institutional salesper-son for more information regarding RBC Capital Markets research. RBC Capital Markets also provides eligible clients with access to SPARC on its proprietary INSIGHT website. SPARC contains market color and commentary, and may also contain Short-Term Trade Ideas regarding the securities of subject companies discussed in this or other research reports. A Short-Term Trade Idea reflects the research analyst’s directional view regarding the price of the security of a subject company in the coming days or weeks, based on market and trading events. A Short-Term Trade Idea may differ from the price targets and/or recommendations in our published research reports reflecting the research ana-lyst’s views of the longer-term (one year) prospects of the subject company, as a result of the differing time horizons, methodologies and/or other factors. Thus, it is possible that the security of a subject company that is considered a long-term ‘Sector Perform’ or even an ‘Underperform’ might be a short-term buying opportunity as a result of temporary selling pressure in the market; conversely, the security of a subject company that is rated a long-term ‘Outperform’

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could be considered susceptible to a short-term downward price correction. Short-Term Trade Ideas are not ratings, nor are they part of any ratings system, and RBC Capital Markets generally does not intend, nor undertakes any obligation, to maintain or update Short-Term Trade Ideas. Short-Term Trade Ideas discussed in SPARC may not be suitable for all investors and have not been tailored to indi-vidual investor circumstances and objectives, and investors should make their own independent decisions regarding any Short-Term Trade Ideas discussed therein.

Conflict Disclosures In the event that this is a compendium report (covers six or more subject companies), RBC DS may choose to provide specific disclosures for the subject companies by reference. To access RBC CM’s current disclosures of these companies, please go to https://www.rbccm.com/ GLDisclosure/PublicWeb/DisclosureLookup.aspx? entityId=1. Such information is also available upon request to RBC Dominion Securities, Attention: Manager, Portfolio Advisory Group, 155 Wellington Street West, 17th Floor, Toronto, ON M5V 3K7.The authors are employed by RBC Dominion Securities Inc., a securities broker-dealer with principal offices located in Toronto, Canada.

The Global Industry Classification Standard (“GICS”) was developed by and is the exclusive property and a service mark of MSCI Inc. (“MSCI”) and Standard & Poor’s Financial Services LLC (“S&P”) and is licensed for use by RBC. Neither MSCI, S&P, nor any other party involved in making or com-piling the GICS or any GICS classifications makes any express or implied warranties or representations with respect to such standard or classifica-tion (or the results to be obtained by the use thereof), and all such parties hereby expressly disclaim all warranties of originality, accuracy, complete-ness, merchantability and fitness for a particular purpose with respect to any of such standard or classification. Without limiting any of the forego-ing, in no event shall MSCI, S&P, any of their affiliates or any third party involved in making or compiling the GICS or any GICS classifications have any liability for any direct, indirect, special, punitive, consequential or any other damages (including lost profits) even if notified of the possibility of such damages.

References herein to “LIBOR”, “LIBO Rate”, “L” or other LIBOR abbrevi-ations means the London interbank offered rate as administered by ICE Benchmark Administration (or any other person that takes over the admin-istration of such rate).

DisclaimerThe information contained in this report has been compiled by RBC Domin-ion Securities Inc. (“RBC DS”) from sources believed by it to be reliable, but no representations or warranty, express or implied, are made by RBC DS or any other person as to its accuracy, completeness or correctness. All opinions and estimates contained in this report constitute RBC DS’ judgment as of the date of this report, are subject to change without notice and are provided in good faith but without legal responsibility. This report is not an offer to sell or a solicitation of an offer to buy any securities. Additionally, this report is not, and under no circumstances should be construed as, a solicitation to act as securities broker or dealer in any jurisdiction by any person or company that is not legally permitted to carry on the business of a securities broker or dealer in that jurisdiction. This material is prepared for general circulation to Investment Advisors and does not have regard to the particular circumstances or needs of any specific person who may read it. RBC DS and its affiliates may have an investment banking or other relationship with some or all of the issuers mentioned herein and may trade in any of the securities mentioned herein either for their own account or the accounts of their customers. RBC DS and its affiliates may also issue options on securities mentioned herein and may trade in options issued by others. Accordingly, RBC DS or its affiliates may at any time have a long or short position in any such security or option thereon. To the full extent permitted by law neither RBC DS nor any of its affiliates, nor any other person, accepts any liability whatsoever for any direct, indirect or consequential loss arising from, or in connection with, any use of this report or the information contained herein. No matter contained in this document may be reproduced or copied by any means without the prior written consent of RBC DS in each instance. In all jurisdictions where RBC Capital Markets conducts business, we do not offer investment advice on Royal Bank of Canada. Certain regulations prohibit member firms from soliciting orders and offering investment advice or opinions on their own stock. References to Royal Bank are for informational purposes only and not intended as a direct or implied rec-ommendation for investing in Royal Bank and all related securities.RBC Dominion Securities Inc.* and Royal Bank of Canada are separate cor-porate entities which are affiliated. *Member-Canadian Investor Protection Fund. RBC Dominion Securities Inc. is a member company of RBC Wealth Management, a business segment of Royal Bank of Canada. ®Registered trademarks of Royal Bank of Canada. Used under licence. ©2020 Royal Bank of Canada. All rights reserved

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