Staying the Course Through Choppy Waters
Cooling Into a Recession
EAFE remains the weak region globally—especially Europe and the U.K., which are mired in stagnation. The Eurozone experienced a technical recession starting at the beginning of this year, and the economic outlook for the second half of 2023 remains challenging; at best, growth can be expected to be flat, with a small contraction the most likely scenario. The good news is that this came as no surprise to markets. That’s why we haven’t seen as much concern about recent economic numbers as one might expect—the bar had already been set very low, and the numbers were in line with expectations.
BMO GAM House View
• It’s coming down nicely, but the easy part is likely behind us
• If core inflation remains sticky, it could remain an issue for markets, thought not at the level of 2022
• A resilient economy and delayed recession have caused interest rates to drift up (but not spike like in 2022)
• We’re likely at or near the peak of Bank of Canada (BoC) and the Federal Reserve (Fed) policy rates
• The good news: it’s delayed
• The bad news: it’s likely not cancelled and will remain a lingering concern for markets
• BRIC countries, especially Russia and China, are facing major economic and geopolitical headwinds
• The US dollar (USD) is like a moving train, and the BRIC countries are unlikely to challenge it in any meaningful way
• U.S. debt has ballooned since the debt ceiling crisis was resolved
• That kind of aggressive fiscal policy has further delayed the onset of a recession
• A strong labour market means little consumer weakness, creating a strong tailwind for the Canadian and U.S. economies
• Real wage growth means that households are slowly rebuilding their purchasing power after declines last year
• Prices rebounded in the second quarter in both the U.S. and Canada, but interest rate hikes could prompt another pause from buyers
• Supply is tight while demand remains strong
• Uncertainty remains, but the market is moving in the right direction
• The healing process is underway
• A lot of the calculus around a potential late-2023 recession was on the basis of a credit contraction, but measures taken by the Fed were generous and have helped regional banks return to business as usual
We remain neutral (0) on equities for the moment, as the current market rally broadens out. Since June 1, the equal-weight S&P 500 Index has actually overtaken the tech-heavy cap-weighted index, underscoring the widening of the rally beyond the megacaps into other sectors and names. Consumer Discretionary and Industrials have had turns leading the performance—again, reflecting the surprising resilience we’ve seen in the U.S. economy and markets since the start of 2023. The number of S&P 500 companies now trading above their 200-day moving average is above 70%—with four in five constituent stocks beating their 50- day average.
Ultra-short-term bonds and cash instruments are offering some of the best yields in decades—5.3% or more on 3-month U.S. government notes, the highest since January 2001. Still, with the end of the tightening cycle near, we’re not prepared to go underweight bonds for cash.
Style & Factor
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