As we close out November 2023, we are glad to see major equity market benchmarks back to positive returns for the year. It has been a volatile year for stock and bond markets as economies around the world adjust to the fastest and sharpest interest rate increases on record following pandemic-era record lows, still buffeted by geopolitical shocks. The Israel-Hamas conflict sent markets tumbling in October, but those losses were more than made up by the end of November. This conflict continues to present risks, as does the Russia-Ukraine conflict and uncertainty on government funding in the US.
We believe that interest rate increases are now behind us in Canada. Some market commentators believe we may see rates begin to decline in the second half of next year, which would be a positive for both stock and bond markets. There are signs that rate increases are increasingly being felt by Canadian consumers, and we may already be in a recession: Statistics Canada reported a 1.1% decline in GDP in the 3rd quarter, and had they not revised the 2nd quarter GDP decline to a small positive, we would now have met the technical definition of a recession. Inflation statistics continue to drift lower, now within the old 1-3% target range, but not yet at the 2% the Bank of Canada keeps saying is the real target. While a recessionary outlook is not positive for stocks, equity markets in the past have begun their next bull phases before statistics confirm the end of a recession, but we should expect continued volatility.
In the US, 3rd quarter GDP growth was very strong at +5%, raising questions about whether recent rate hikes are yet cooling demand enough to cool inflation. Thomas Barkin, President of the Richmond Federal Reserve bank, believes that inflation could soon fall materially as the impact of higher interest rates is fully reflected in the US economy. Despite robust GDP growth, the talk he hears on the street shows signs of weakening, with the decline in consumer discretionary spending as an early sign that higher rates are having an impact, though business capital expenditures are still strong. Many product manufacturers raised prices during the pandemic because they could, and will be reluctant to roll back those increases, until they are forced to by weaker demand. Even if no price cuts are coming, the lack of further price increases should eventually flatten inflation, though Barkin says further rate hikes are not off the table if this doesn’t happen.
Market commentators still have a wide range of opinions on the outlook for interest rates and the economy, and the tug of war between the shifting balance of opinions leads to the high volatility we’ve seen this year. Maintaining adequate cash reserves to avoid selling at lows is always prudent, made easier now that liquid cash deposits are yielding over 4.5% for the first time since the 2008 Financial Crisis.