Contrarian take on paper and forest products

Money Digest, June, 1997 by Stephan Katmarian

Most senior and medium paper and forest product stocks are at the lower end of their 10-year trading range. These stocks are very cyclical in nature, and, of course, are closely tied to the price of pulp and paper. The sector is generally out-of-favor and several industry analysts have stated that they would not be surprised to see prices fall even further.

For investors taking the long view, the outlook for this sector may be a little more cheerful.

My view is that forest products will become increasingly expensive over the long term as demand from an expanding world economy outstrips supply. Forest products are vital for the many regions of the world that continue to build infrastructure. A case could be made that should world growth continue at its current strong pace for any length of time, the forest products cycle could become less pronounced than it has been in the past. Sales to Asia and elsewhere have been increasing year to year.

Canadian producers are among the most sophisticated forestry companies in the world and will benefit from an increasing trend toward more stringent land management techniques worldwide. Why? They are already operating in an environment with fairly substantial government regulation and enforcement.

I believe that Canadian forest product stock earnings multiples do not reflect their very favorable long-term prospects. Thus, I would be a buyer in the face of possible short-term price weakness. Every forest in the developed world is accounted for by one company or another. At the same time there is increasing pressure to preserve what is left.

There are about 17 medium-to-large paper and forest product stocks trading in Canada. Two of my favorites are Avenor (TSE - AVR, $25.20) and Tembec (TSE - TBC.A, $11.00) because of their strong balance sheets and land positions. Both stocks trade at close to book value.

Stephan Katmarian, CFA, is an Investment Adviser with C.M. Oliver and Company in Toronto specializing in stocks, mutual funds and RRSPs. Phone (416) 363-6699.