Page and Associates Ltd.

Family Wealth Management

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Market Commentary

2022 was a brutal year for investors in almost every asset class. It could best be described as a pandemic-induced aftershock with the price pressure of re-opening in-person commerce in the face of still-strained supply chains, and a return to positive interest rates to offset the inflationary effects of record fiscal and monetary pandemic stimulus. Russia’s war on Ukraine added to the pain, disrupting energy and food market supplies and sending prices soaring, while central banks increased interest rates at a pace never before seen, in an attempt to control all the resulting inflation and excess demand for labour.

Fortunately, the aftershock is passing: most of the damage to asset markets was done in the first half of 2022. Since then, volatility has remained high, though in a narrower range, and despite new lows in October, most benchmarks recovered nicely in the second half of the year. That trend has continued in the first half of January, but still leaves calendar 2022 as one of the worst years on record for both stock and bond investors. Home prices are still declining as the effect of the interest rate increases takes time to be fully felt, but more liquid markets for stocks and bonds have likely priced them in already. Investors should take some consolation from the fact that all major equity market benchmarks are up over a 2 year period, except Germany, Japan and Emerging Markets (those most impacted by the Ukraine conflict), with stock price multiples much lower and bond yields much higher than before the pandemic – a much safer setup for the next growth phase.

The interest rate increases are they key macro-economic impact that pushed down all asset prices in 2022, even comparatively safe bonds and real estate. In hindsight, we would have expected some increase in interest rates from the pandemic-era historic lows (close to zero) but nobody in 2021 was expecting the size of those increases and how quickly they were applied. Fortunately, those rate increases are widely expected to be coming to an end in the first half of 2023 as the past year’s inflation shocks age out of the year-over-year headline figure. That headline consumer price index (CPI) rate of change peaked at 8.1% annual rate in June, then month-over-month inflation essentially stalled, and by December the annual rate had already drifted down to end the year up 6.5%. While this is still an uncomfortably high rate, it is almost certain to slip dramatically in the coming months: even if the month-over-month rate rises to 0.2%, the annual rate would be back within the 1-3% target band by May 2023, though most economists think it could take longer.

Markets have likely priced in one more rate hike in Canada in January, after which many believe the Bank of Canada may pause to see if the effects of their prior hikes continue to have impact (it usually takes 12-18 months to have full effect, and it has been only 12 months since the first hike). Once inflation is back in the target range for a few months, we would expect interest rates to gradually decrease back to their average levels of 3-4% consistent with a 2% inflation background. Markets should then surge higher.

Unfortunately, the high interest rates will probably cause a recession in early to mid-2023. The market seems split between those who expect this to be a mild and short-lived recession (ie Soft Landing) and those who worry it could be worse. Markets will have priced in the balance of these expectations. A deeper recession could send stock indices lower, but would also send inflation lower, bringing closer the first interest rate cut. Historically, markets have started their next growth phase before the end of recessions (markets look forward, not backward), and if history is any guide, we will look back on late 2022 and early 2023 as a good time to add to long term assets like funds that contain stocks or bonds. If interest rates are near a peak, bonds are a pretty safe bet (2-year government bond yield is currently close to 5%, but this probably won’t last: 5-year bonds pay less, telling you the market doesn’t think rates will stay this high for long). A drop in rates would be stimulative to market growth just as rate hikes hurt in 2022, and there is still a record amount of cash in consumers’ accounts that can be deployed to sustain a rally once it starts. Meanwhile, the volatility is expected to continue until central banks pause their rate-hiking cycle.

We hope you will take some comfort in knowing that since 1980, the S&P500 index of US stocks gained value in 33 of the 43 years, and even the gaining years contained an average -11.7% ‘drawdown’, or decline from market peak to its next low, in this insightful chart from Sam Ro:

(Source: My favorite visualization of short-term stock market performance 📊 (tker.co)).

2022 was one of the worst in recent memory, but we rarely get two negative years in a row – one exception being the tech-bubble collapse in 2000 followed by 9/11 the year after. With about one losing year in every 4, a 5-year average would be a more reasonable basis to compare returns between asset classes, but even a 3-year return looks reasonable looking back from the end of 2022: in Jan 2020 our top rate for a 3-year GIC was only 2.5% annual interest. Over the same 3-year period as that GIC, by Dec 2022 you would have averaged 5.54% in the S&P-TSX, 7.18% in the S&P500, or 0.29% in the MSCI EAFE net after expenses (see our Index Return Table 2022Dec31) Since you can’t invest directly in the index, we assume 2% expenses on a managed portfolio that invests in the same market, and have reduced the index total return by that cost to get the figures noted above). A growth portfolio including all three of these markets plus some bond funds would have netted only 2.33% in the same period, but averaged over 6% over the past 10 years. (see our Growth Portfolio Benchmarks calculation here Portfolio Benchmarks 2022Dec31).

As always, a balanced approach to investing, with adequate cash reserves, some fixed income (bonds or GICs) for stability, and a diversified equity portfolio for long term growth and inflation protection, will support cash flow goals while delivering after-tax returns well above inflation over the medium term.

Please call us if you would like to review your portfolio in the context of your goals.

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Getting Long-Term Bullish


Portfolio manager Ben Carlson reviews various past bear markets and their performance in the years following. He acknowledges the discomfort and pessimism that usually come with bear markets: “It doesn’t take a genius to point out the bad stuff today. Being bearish is easy right now.”

He also argues that being bullish for the long term is supported by history, even if you may still be bearish in the short term: “The stock market doesn’t fall 25-30% or very often and when it has in the past it’s provided solid returns when your time horizon is measured in years as opposed to days or months.”

He reminds us that very single bear market in the history of U.S. stocks has resolved to new all-time highs eventually, and that buying stocks when there is blood in the streets is generally a wonderful idea historically speaking.


https://awealthofcommonsense.com/2022/10/getting-long-term-bullish/

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Short Term Pain for Long Term Gain

In the wake of the Bank of Canada’s surprising the market with a 1.00% hike of its overnight rate, CIBC Deputy Chief Economist Benjamin Tal provided a 4 minute video of his outlook on inflation, interest rates and the economy, and how investors should view these developments.

Key points:

  • Inflation should not be our main concern, because there are forces that will bring it back to more moderate levels. We should be more concerned about the cost to the economy of getting it back down.
  • The Bank of Canada’s goal is not to prevent recessions, but to limit inflation expectations to avoid a destructive wage-price spiral.
  • There is a 40-45% chance the bank will hike rates more than it needs to and cause a recession. They have signaled they want to go from 2.5% up to between 3 and 3.5%, but the difference between 3% and 3.5% may be the difference between a slowdown and a recession.
  • Inflation is a lagging indicator and usually peaks 4 to 6 months after the start of a recession, but no central banker will resist increasing interest rates when inflation rates are high.
  • Every recession in the past 40 years (except Covid) was helped – if not caused – by central banks hiking rates higher than they needed to.
  • There is still a good chance they won’t overshoot this time, because the significant increase from Covid-era lows are already starting to be effective at curbing demand, and there is still lots of strength to support growth.
  • So the rate hikes are probably already slowing growth, and if we do end up in a recession, it should be short and mild because
    o We have record high job vacancies
    o Consumers are sitting on about $300 billion in excess cash
    o The housing market is undersupplied and should support growth for years
  • Covid job losses were mostly lower income, higher earners took advantage of low interest rates to buy housing, so we borrowed some growth from the future
    o 20-25% home price declines would not be surprising
    o Rents did not rise during the pandemic, but they are rising now
    o Construction costs have risen faster than condo prices, so this sector is slowing now, but will rebound once supply and demand are back in balance
  • Equity markets have already priced in a lot of the bad news, and may have priced in more interest rate hikes than will be required.
    o If you have limited time horizon, equities are still risky
    o If your time horizon is 2-3 years, there are a lot of good opportunities out there.

Link to Video: https://link.videoplatform.limelight.com/media/?mediaId=3d73878551b043c7a33bd5f0ccbf09f9&width=540&height=321&playerForm=LVPPlayer&embedMode=html&htmlPlayerFilename=limelightjs-player.js&orgid=7e36bf0095db492cb2c8179d58eb0e29

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Bank of Canada Increases Overnight Rate to 2.5%

Today, the Bank of Canada surprised markets with a 100 basis point (1%) increase in its target overnight lending rate to 2.5%. (Press Release: Bank of Canada increases policy interest rate by 100 basis points, continues quantitative tightening – Bank of Canada).

Markets had been expecting another 0.75% increase based on the bank’s comments in May that it expected the neutral rate (neither stimulative nor restrictive to economic growth) to be about 2.5%, but that it would re-evaluate this target based on inflation and other statistics. Inflation has remained persistent in the face of ongoing supply chain disruptions, Chinese COVID lockdowns, and the war in Ukraine, and job vacancies remain at record highs without sufficient labour force to meet the demand surge after this year’s re-opening.

The Bank of Canada said this week that the neutral rate may need to go to 3-3.5% to balance demand to available supply, and the economy was strong enough to absorb the interest rate increases without causing a recession, so it wanted to ‘front load’ the rate increases to reduce inflation pressures immediately, and avoid even higher targets being needed in the long term. We should therefore expect a further rate increase at the bank’s next meeting September 9th, and at the next US Federal Reserve meeting July 26-27.

While the bank does not believe the higher rates will cause a recession, they do expect economic growth to slow. Still, their expectations are for reasonable growth rates of 3.5% this year, 1.75% in 2023, and 2.5% in 2024. Because inflation measures price changes from past levels, they expect about 8% inflation readings for the balance of the year, but a return to 3% by the end of 2023.

Bond markets had anticipated further rate increases so their yields and prices had already adjusted before the announcement. Top GIC rates are now over 4% for a 1-year term, and top daily interest deposit rates of 1.3% may see an increase in the coming days.

Video summary: Monetary Policy Report – July 2022 – Bank of Canada
Full Report: Monetary Policy Report – July 2022 (bankofcanada.ca)

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Recoveries Beat Bear Markets

Empire Life’s blog post of June 22 provided an interesting analysis of past periods of market contractions over 20%, and subsequent recoveries. One notable chart shown here:

The chart makes it clear that expansion phases usually last longer than contractions, and have a larger impact. The article compares this period with the 1970-1985 period of peak inflation and interests rates, noting similar depth and duration of corrections about -23% over 6 months, and recoveries of 55-70% over the following 18 months. Those recovery phases produce returns well above the market average.

Will investors see an environment of low inflation and interest rates similar to the past two decades or something closer to the inflationary environment five decades ago? Perhaps the answer is “somewhere in the middle”. But, here are a few things to remember:


• In either case and as history has shown, staying invested has proven to be a beneficial strategy for the long-term investor.
• Adding to your investments, particularly after large market contractions will likely help expedite your portfolio’s recovery.


Full Article: https://blog.empirelife.ca/blog/corrections-what-we-can-learn-from-the-past