In Canada, Low-Vol (ticker: ZLB, +2.0%) underperformed the broad market last month (ticker: ZCN, +3.3%) as the more volatile energy sector benefited from surging oil prices. However, we believe Low-Vol will outperform the broad Canadian market over coming months as oil prices trade within the $60 range. We look to add more Canadian Low-Vol to our portfolios heading into the summer.
Tariff-Man is Back: Could he ‘Murder’ the Cycle?
President Trump went ahead with his tariff threats on Chinese imports despite of sensitive trade negotiations. Heightened trade wars triggered a global stock-market selloff earlier this month. Trump’s public negotiating tactics using a shock-and-awe style is not new. The NAFTA re-negotiations last year certainly involved a lot of unnecessary drama before reaching a deal. Despite all this noise, we think a trade agreement will be reached over coming months, but the sooner the better for investors. Trump’s tactics certainly raise the scope for added uncertainty, which is why our overweight to equities remains prudently modest. Ultimately, we think Trump will seek re-election on a strong economic and stock market performance. Escalating trade wars could risk derailing the economy and compromise his re-election ambition.
Is the Fed Ruining the Goldilocks?
At the April FOMC (Federal Open Market Committee) meeting, Fed Chair Powell surprised a dovish-leaning market by re-enforcing his view that tepid inflation was “transitory”, which took the equity markets into a tailspin. To the extent that U.S. interest-rate markets were expecting the Fed to cut rates by year-end despite encouraging macro-economic data, we are not surprised the market may have to push out calls for cuts to 2020, at the earliest.
We don’t think the Fed is killing the cycle or goldilocks by steering markets away from thinking rate cuts are imminent, but it might have reduced the odds of a melt-up scenario. While we continue to think the next move by the Fed is a hike, not a cut, we are also cognisant that the Fed’s upcoming messaging will be crucial for maintaining investor confidence and keep the bull market alive. This is why we also think the Fed’s messaging will be tuned such that a replay of the fourth-quarter drama is avoided. Finally, if trade wars were to have a material negative impact on the growth outlook, we would expect a prompt response from the Fed with at least a couple rate cuts.
Is the Bank of Canada too Optimistic—Again?
For Canada, our view on the monetary-policy outlook is unchanged as the Bank of Canada (BoC) continues to believe the domestic growth slowdown will be transitory. While we don’t see a recession in Canada over the next 18 months, we doubt the reasons behind the slowdown are as transitory as the BoC believes. However, we agree that growth should pick-up somewhat in the second half, but we doubt it will be strong enough to justify a rate hike in the next 12 months.
Overall, it seems the BoC is not afraid of another round of serial disappointment by expressing a relatively optimistic view for a strong enough rebound which would justify further rate hikes. Unlike our view of the Fed, it’s hard to have the same conviction that the next policy move in Canada could be a hike, we feel split on this.
Could Inflation ‘Murder’ the Cycle?
Surging inflation is rarely well received by financial markets as it usually brings monetary-policy tightening and negatively impacts profit margins. However, the problem for central bankers in the past 6 years has been a lack of inflation vis-à-vis their targets (Chart 3), despite the trillions of dollars in central-bank asset purchases since the great financial crisis and relatively loose fiscal policies. We disagree with the Fed’s view that the weak inflation is transitory when it’s been undershooting expectations year after year.
An interesting theme that transpired from the latest earnings season is that some companies have commented about having more pricing power than they have had so far in this cycle. On balance we think demographic and technology-driven disruptive trends will continue to weigh on inflation and should limit upside risks absent of further wage pressures, due to labour and skill shortages, or import tariffs that could arise form heightened trade tensions.