September 13, 2019
Making Cents of the Markets
Be in the Know
Another strong week in the markets, with the S&P500 gaining 1% and the TSX briefly breaking out to new highs, rising 0.9%. A lot of optimism on the trade front was the main factor, with President Trump delaying the increase in tariffs (to 30% from 25% on $250Bn worth of imports) by two weeks to October 15, ahead of the Chinese delegation coming to Washington for talks early that month. This was met in-kind by the Chinese, with an exemption on some goods from tariffs for the first time since trade talks began, and reportedly, a possible agreement for US agriculture purchases. This was all positive, but we have to wait to see what comes from it in the following weeks. It will likely be difficult to come to any comprehensive deal, but the idea of a partial deal has been floated recently and would be welcomed.
The big central bank news this week came from Mario Draghi at the European Central Bank (ECB). The ECB elected to cut its key interest rate to -0.5%, and committed to buying 20 billion Euros a month of Eurozone debt starting in November for “as long as necessary.” They only stopped their prior round of quantitative easing last December, so this was seen as modestly supportive to the world economy and also financial markets. This move was framed as pre-emptive and was aimed at insulating the eurozone’s wobbling economy from a global slowdown. Of course, this was an opening for the Trump administration to criticize the Federal Reserve for not acting soon enough. The Fed will be meeting on Wednesday, where expectations are for another interest rate cut of 0.25%. Particular attention will be paid to the tone of the meeting, and whether they are committed to more easy policy or if they will wait and see.
While the overall market has been strong, under the surface, there has been a pretty aggressive rotation between growth and value stocks. For example, according to Raymond James & Associates (USA), from Friday to the close of markets on Thursday night large-cap growth stocks (think Microsoft, Amazon, Facebook, etc) were flat while Small Cap Value (think regional banks and domestic industrials) stocks were up 6.3%. That is in sharp contrast to what has happened in general since the bull market began. The sector shift in the last couple of weeks has been sharp as well, with year-to-date leaders such as Real Estate, Commercial Services, Restaurants, and Software all underperforming recently. Year-to-date laggards like the Banks, Energy, Transports, and Technology Hardware (Apple) all outperformed. Given our approximately 50/50 exposure to growth and value stocks in our Legacy portfolios right now, we were able to measure solid gains for the week, but we are aware that some of our growth managers experienced a pullback. We spoke with them and they noted familiarity to algorithmic rotation of funds back in 2010, 2014, and 2016 among other times in the past 10 years. The recent move was seen as giving attractive entry points to growth names, as the sell-off was factor based and not fundamental.
With the US business cycle now the longest in the post-war period, the short end of the yield curve inverted since May, the ISM below 50, and profit margins declining, there is definitely some credence to the thought of a potential economic downturn. In post-war recessions, stocks have declined 33% on average, which is what is making equity investors nervous right now. But while there is elevated risk and signs of deterioration, the data just does not yet point to a near term recession. According to Credit Suisse, only one of their 7 indicators are currently in a recessionary signal. Expansionary signals include 1) inflation, where wages are edging slightly higher, 2) employment, where hiring remains robust, and 3) credit, as companies are having little trouble making loan payments. Neutral signals include 4) Manufacturing, where PMIs are stalling out but not enough for a broad-based recession, 5) housing, where activity is slowing but not contracting, and 6) corporate profits, where earnings are flat, margins are contracting, but quality remains high. Finally, the only factor signaling recession is 7) the yield curve, as it is inverted across several maturities. Now is not the time to get too defensive (but also not the time to go “all-in”).
Chart of the Week
From Credit Suisse, a look at the Manufacturing and Services breakdown as a % of the economy. “A service economy is less prone to recession than a manufacturing economy” due to the non-cyclical nature of the services sector compared to the more economically-sensitive manufacturing sector. If you think 10 years is a long time between recessions, remember that longer ones are possible – Australia is in its 28th year of economic growth.
Beyond the Markets
This Sunday, the Terry Fox Run will be taking place in cities across Canada! Labelled a national hero, Terry Fox set out to run across Canada to raise money for cancer research on his Marathon of Hope. 39 years later, we continue to honour his legacy by partaking in this annual charity event. Participants are encouraged to walk, run, or cycle at one of the various locations across the Lower Mainland including Stanley Park and Simon Fraser University.
While Terry’s race ended September 1, 1980, his impact is just as evident today. Click here to start a team or to donate to the Terry Fox Foundation.
Listen to this week’s Making Cents of the Markets on CKNW. We gave listeners further insight into RESPs and how to ensure you have a suitable portfolio manager for you. Listen here.
Take a look here at our latest North Shore News article where we explore different types of retirees! We get insight from our very own clients to give you a better idea of the possibilities you have when entering retirement.