February 21, 2020
Making Cents of the Markets
Be in the Know
It looks like we are finally seeing some stalling in the markets after a very strong run over the past few months, as North American markets declined by 1% this week. This weakness came after record all-time highs last week thus it is far too early to tell if the latest bull run is taking a breather. Sentiment on US equity markets and the overall economy remain positive however global economic data is starting to reflect the transitory effects of the coronavirus which may be the catalyst for markets to consolidate. The reality is that investors will have to digest a slew of economic reports over the coming months that will reflect the economic weakness out of China so a pause in the recent uptrend is likely justified.
Previous beliefs that the coronavirus was close to being contained were challenged on Friday after a spike of new confirmed cases was reported in China. Despite the rate of spreading slowing, fears and concerns are now growing as many large US multi-national companies have lowered their guidance for the next few quarters due to potential supply disruptions and lower consumer demand for their products. These include the likes of Apple, HSBC, Nike, and Proctor & Gamble which are impacted by factory closures and reduced consumer spending. China’s GDP is expected to fall dramatically in the first quarter of 2020 as most Chinese businesses have claimed to be affected as individuals stay inside and limit their travelling and spending. The market will continue to assess the temporary disruption as more data is released but expects that there will eventually be pent up demand that will likely lead to a strong rebound in the second half of this year.
Moving our focus back towards North America, the US housing market continues to beat expectations as low interest rates and healthy economic conditions have led to increases in prices and activity. US investors have been encouraged in 2020 by positive data on employment and consumer spending though this week we saw slowing growth in manufacturing and services that we will be watching closely moving forward. The annual inflation rate in Canada came in as expected at 2.3% that is in line with other global nations and is a bit concerning as we have seen consumer spending and economic growth slow well below the rate of inflation. For these reasons, we continue to favour the US economy as we expect conditions to remain positive and perform better than most nations globally. Lastly, we wanted to report that Bernie Sanders is now the clear favourite for the Democratic national primary after the recent Democratic debate this past Wednesday. Regardless of the outcome, analysts and markets still expect that President Trump will remain in power and will institute additional policies to support the US economy.
We continue to remain relatively defensive in our positioning as we have outpaced equity markets thus far in 2020 with less exposure to equity markets. Our largest contributors to performance in 2020 have come from two categories which are growth oriented technology companies and defensive interest-rate sensitive companies that have benefited from lower interest rates. Many retail investors continue to pile into these large companies for growth and safety but we recognize that it is the time to be patient and remain defensive instead of chasing the best-performing stocks. Discipline is integral in our approach as these stocks typically decline more than the market when markets pull back thus are not enticed by the expected reward-to-risk on these opportunities today. So what are we doing with our portfolios in today’s changing environment?
This week we sold certain Canadian financial and real-estate holdings, taking our profits in these holdings and raising our cash holdings temporarily as we look to re-invest this capital into stronger opportunities in the US. We believe that the Canadian economy and markets will continue to lag the US due to higher debt loads, less consumer spending, and commodity-based risks. We realize that the coronavirus will likely affect growth-based sectors like consumer discretionary and technology thus plan to invest more in defensive exposures such as healthcare, utilities, and real estate in the near future. We will remain patient before re-investing portfolios into growth exposures that have outperformed in the last decade when global growth picks up.
Chart of the Week
No one can predict or forecast the market with any consistency as markets can remain irrational for extended periods of time, sometimes running higher without any reason that makes sense. Thus, we strongly believe this and that one should be invested in the markets most of the time but recognize that we have the duty to protect our clients’ capital from significant declines while reacting tactically to opportunities that we see in the market. Today we believe that it is prudent to remain invested but to tilt defensively as the trend in equity markets has moved well ahead of the trend of earnings or profits. One can see this below in a chart that illustrates the trends of price and aggregate earnings-per-share (EPS) of the S&P 500 as these two relationships have been highly correlated over this period.
This makes complete sense as markets and companies increase in value as they grow their earnings or profits over time. As one can see, we are at a stage today where markets have moved well ahead of earnings growth that has been relatively flat over the last year. This alone is not a concern as many companies have provided positive guidance earlier this year stating that they expect growth to pick up later this year thus markets have moved ahead of actual evidence of growth. The issue now is that the Coronavirus will likely delay this growth in earnings so we believe that investors may become impatient or react to upcoming news events creating a pullback. Pullbacks in markets are normal thus we view any weakness as an opportunity to add to or buy our favorite companies and have the cash to take advantage of these potential opportunities later this year.
Beyond the Markets
Oh how time flies! Ten years ago the Richmond Olympic Oval played host to 12 long track speed skating events in the 2010 Winter Olympic Games. To celebrate, the oval is hosting a 10 year anniversary weekend featuring Olympic athlete meet and greets, public skating, hockey games, and much more! So head down to Richmond for what is sure to be a weekend of fun and relive the wonderful memories. Click here to learn more.
Take a look here at our latest article from Business in Vancouver’s Retirement Ready Magazine where we dive deeper into how to manage your emotions when investing.
Take a look here at our most recent North Shore News article where we discuss the qualities you should look for in a “super star” financial advisor!
Listen to our latest Making Cents of the Markets segment on CKNW. We discussed paying down debt and what to do with cash on the sidelines. Listen here.