Stepping away from the brink

  • The unprecedented fiscal and monetary response continues to support the outlook for risk assets. Re-opening of economy initiates a long grind back from the COVID abyss. The level of economic activity might not return to its pre-COVID level before the end of 2021.
  • COVID has amplified performance gaps of both regional indices and global equity factors. We think U.S. outperformance over EAFE stocks will continue. The Value and Small-Cap drag vs Growth and Large-Cap will also continue with the COVID-induced intensifying digital disruption.
  • We added gold to some of our portfolios. Near-zero interest rates, QE, massive fiscal deficits, and COVID uncertainty are bullish for gold. We believe gold diversifies multi-asset portfolios.
  • Bond duration remains attractive in Canada as we deal with the double blow from COVID and the collapse of oil prices. Interest rates will remain low for much longer. We also remain cautious on the loonie’s outlook.

“The measure of intelligence is the ability to change.”

Albert Einstein

April ended on a downbeat note for equities, but double digits gains for the month helped calm investors even while COVID was surging in North America. With many regions gradually re-opening, the global economy is starting a long grind back from the COVID abyss. We expect first and second quarter GDP growth to confirm a deep recession, and while third quarter growth should show a strong rebound, it won’t be enough to make this a V-shaped economic recovery. The level of economic activity might not return to its pre-COVID level before the end of 2021. Meanwhile, equities posted a surprising V-shaped rebound. Resilient, long-term focused investors have been helped by “whatever-it-takes” monetary and fiscal policies, as well evidence that the COVID pandemic is getting under control.

It’s increasingly clear that social-distancing measures will stay at least for the summer, if not longer, unless a vaccine is found or the virus fades away. But as we’ve seen in previous crises, society is adapting to the changing environment and resilience is building up. Policy makers have shown no hesitation in their response to fight the COVID-induced economic calamity. With an “all-in” U.S. Federal Reserve (Fed) Chair, Jerome Powell, the “Fed is committed to using full range of tools forcefully, aggressively and proactively, as long as necessary” (Source: Reuters). These actions and unambiguous willingness to act make it hard to have a bearish mid-term (6 to 12 month) outlook on stocks while recognizing that near-term volatility will persist.

V-Shaped recovery for stocks in April

Global stocks (MSCI ACWI, +10.8%) rebounded in April after stepping back from the brink in March. U.S. leadership was intact with strong gains for S&P 500 (+12.8%) stocks, led by tech stocks with the Nasdaq 100 surging 15.2%. Canadian stocks did surprisingly well (S&P TSX, +10.8%) as oil prices traded negatively. Emerging Markets (EM) stocks (MSCI EM, +9.2%) were the other bright spot whereas most other regions registered much smaller monthly gains (between 4 to 7%) before accounting for currencies fluctuations.

Year-to-date, COVID has amplified the regional divide in performance. After crushing other major equity markets in 2019, U.S. tech are again leading global equities 2020 with a small gain. Meanwhile, European stocks continue to lag, but the COVID drag is an additional headwind for the already slow-growth European economy.

Chart 1: U.S. tech thriving during post-COVID increasingly digital world

The NASDAQ 100 leads YTD total returns, while many other markets lag behind. Source: Bloomberg, BMO GAM (As of May 5, 2020)

The severe recession, combined with aggressive central-bank buying, is keeping yields on government debt under pressure, most notably in Canada where the COVID lockdown is coupled with the collapse of oil prices. The yield on Canada’s 10-yr government bonds fell another 15bp in April, down for a total of 115bp in 2020. The loonie gained a modest 0.9% as risk-appetite recovered, but oil turbulence weighed on the loonie. Western Texas Intermediate (WTI) oil prices suffered a historical debacle by momentarily trading at negative prices before seeing a modest normalization. They fell 8% in April as oil inventories rise sharply and ended the month at $18.84pb, but closed at a record low of -$37.63pb on April 20th (Source: BMO GAM). Lastly, gold prices gained 6.9% as COVID uncertainty and helicopter money fueled gold-inflation bugs.

Equity factors: Growth thrives with COVID

Despite the trillions in global stimulus, equity-factor performance mirrors the survival-of-the-fittest and acceleration of the decade-old trend of Growth vs Value outperformance as digital disruption intensifies. COVID is intensely preying on the fragile. Growth (+12.4%), Quality (+11.4%) and Momentum (+10.5%) led global equity factor performance in April, whereas Low-Vol (+7.2%), High-Dividend (+8.1%) and Value (8.7%) lagged global stocks (MSCI ACWI, +10.8%). The year-to-date performance comparison also reveals a large and widening gap between equity factors. Growth is barely down a couple percent while Value has fallen 18% between January and April. We expect growth and large caps to continue outperform value and small-cap stocks as financial resilience and ability to engage or face disruptive forces remains an asset for larger firms.

Chart 2: Growth and quality continue to lead global equity factors

Source: Bloomberg, MSCI, BMO GAM (As of May 5, 2020)

In Canada, the BMO Canadian Low-Volatility Equity ETF (ticker: ZLB, +5.7%)* lagged the broad market BMO S&P TSX Capped Composite Index (ticker: ZCN, 11.2%)** in April. However, Low-Vol Canadian equities are still ahead year to date (ZLB, -11.9% vs ZCN, -13.0%). Besides the tech sector, which mainly consist of Shopify, the energy sector (ticker: ZEO (BMO Equal Weight Oil Gas Index ETF), +28.2%)***, which is largely excluded from ZLB, registered a solid monthly performance.

Gold Shines with fear: Be bold on gold

Last month we added a small strategic and tactical allocation to physical gold in some of our portfolios. We like gold in this environment because of its diversification and safe-haven benefits as well as its near-term (6 to 12 months) bullish outlook. Our past analysis (Source: BMO GAM) shows that gold serves as a risk mitigation tool, reducing drawdowns and enhancing compounded returns in select multi-asset portfolios. Gold also tends to perform well after easing cycles when real interest rates are negative, or when macro uncertainty is high.

Figure 3: Cumulative gold performance during full easing cycles

Source: Bloomberg, BMO GAM (As of May 5, 2020)

Gold was volatile during the March selloff as liquidations spiked and inflation expectations nose-dived. Yet gold is back to new multi-year highs, outperforming equities, bonds and safe-haven currencies in 2020. Looking ahead, we think gold has room to run. Central banks have cut policy rates to zero, reinstated quantitative easing (QE) and committed to uber-dovish forward guidance, while uncertainty with respect to COVID-19 and the economic recovery remains high. Rates are likely to stay near record lows over the next year with central-bank purchases and global demand offsetting higher bond issuance. The economic recovery could be weaker than expected thanks to COVID uncertainty, layoffs and bankruptcies, and a more cautious consumer. Finally, rising fiscal deficits and a weaker U.S. dollar will also raise investor appetite. This lays a bullish backdrop for gold.

Outlook and positioning: “Whatever-it-takes” policies still rule the outlook

Our stock-bond asset mix was unchanged last month with a modest stock overweight. Although the April equity rebound was surprisingly strong, fiscal and monetary policy support remains highly supportive of risk assets. It’s increasingly difficult for long-term investors to buy government debt when yields are deeply below inflation, they must take on greater risk to get yield, by potentially adding corporate bonds or stocks, for instance.

Our regional equity exposures were also unchanged last month. However, we trimmed our U.S. dividend positions as we expect the outlook for dividends to remain under pressure. Across regions, we continue to prefer U.S. stocks vs EAFE as the U.S. tech leadership benefits from the COVID digital disruption. We also remain overweight EM vs Canadian stocks, but while we’ve been surprised by the resilience of Canadian stocks in April during the oil meltdown, we continue to expect growing pain for Canada as COVID meets the oil debacle and a high debt load for households. In that context, bond duration remains attractive in Canada. Lastly, we remain skeptical of seeing a sustained recovery in the value of the loonie as the economic pain lingers in Canada.


*The performance for (ZLB) for the period ended April 30, 2020 is (as follows: -5.53% (1 Year); 3.67% (3 year); 4.94% (5 year); and 11.23% since inception (on October 21st, 2011).

**The performance for (ZCN) for the period ended April 30, 2020 is (as follows: -7.80% (1 Year);
 1.35% (3 year); 2.49% (5 year); 4.52% (10 year); and 5.58% since inception (on May 29th, 2009).

***The performance for (ZEO) for the period ended April 30, 2020 is (as follows: -36.23% (1 Year);
 -19.97% (3 year); -15.13% (5 year); -8.48% (10 year); and -8.04% since inception (on October 20th, 2009).

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