Market update , March 7 2022

We continue to see some significant volatility in the markets as inflation, interest rates and war play on everyone’s mind so I thought I would take a moment to discuss all three and how we continue to adapt your portfolios. Off the top, I want to take a moment to say that we believe we are in the midst of a paradigm shift. This shift was underway and the war in Ukraine has sped up the process. Let’s talk about the three big themes.

War - The Ukrainian war is obviously an unbelievable humanitarian disaster. As stewards of your investments, in this comment we want to focus solely on our view of how this war affects our investment strategy. Our thoughts and prayers are with the victims of this invasion and all the other ongoing conflicts in the world today and we hope that there is a speedy resolution. When we look at market reactions to previous wars the events become integrated into the economic landscape and the equity markets continue to evolve. From an investment standpoint, what makes this conflict so different from other ongoing geopolitical issues and previous wars is the country itself and the amount of natural resources that it possesses. Ukraine is:

1st in Europe in proven uranium ores reserves

2nd in Europe and 10th in the world in titanium reserves

2nd in the world with toughly 12% of the world’s manganese reserves

2nd in the world with 30B tonnes of iron ore

2nd in Europe for mercury reserves

3rd in Europe and 13th in the world for shale gas reserves

8th in the world for coal reserves

1st in Europe for arable land

1st in the world for sunflowers and sunflower oil exports

3rd in the world with 35% volume of black soil

3rd in the world for potato production

4th for barley and barley exports

4th in the world for rye production

5th largest producer and 4th largest global exporter of corn

5th for world honey production with 75k tonnes

5th in global wheat exports

As you can see from the above list, Ukraine plays a huge roll in providing Europe and the world with a number of our most important resources. The concern that we have is that the longer this war lasts and the more damage done to Ukrainian infrastructure the longer some or all of these resources will be reduced or worse, out of capacity. In our minds this could cause further price increases in underlying commodities that impact our daily lives, such as the cost of our food. When we also add in the resources from Russia that are also now offline we can see that there will be very large gaps for a number of months if not years. One other outcome of this war is the potential increase in cyber attacks. We are not cyber experts but we do believe that in retaliation to all the financial sanctions being placed on Russia we could see a significant increase in cyber attacks and have therefore increased our exposure to the cyber security sector.

Inflation – The common narrative has been that although inflation is high it is transitory and will normalize by the second half of the calendar year. One of the reasons for that expected normalization is that inflation numbers are compared from the previous year and certain areas were still quite depressed because of COVID restrictions in early 2021 and therefore would compare favourably. Many reasons have contributed to this current inflationary pressure but we see two dominate forces working:

Many years of free money capped by unprecedented record levels of government stimulus in the western world to combat COVID-19.

The restrictions that were placed throughout the world to contain COVID has caused massive disruptions in shipping and manufacturing.

One of the amazing things about our job is that we’re able to have great conversations with our clients and our clients run the gamut of professions. Over the past couple of weeks we have had discussions with home builders, retailers and farmers about what they are experiencing directly in their businesses in terms of inflation and what they are expecting to continue to see. Unfortunately, the answer continues to be the same. They are seeing inflation pressures well into the second half of this year with no real end in sight. This was before the war in Ukraine, which as you can see from the previous point, will most likely add further costs. As an example, manganese is a main input for fertilizer and corn is one of the main feed stocks. If these underlying products continue to go up in costs then that will most likely contribute to higher food costs in the months to come, unless the spike in prices is short lived.

Interest rates – The BOC  and the U.S. FED have started raising rates and have signaled they will continue to raise rates. Higher interest rates are used to try and reign in inflation but it is a fine line that the FED has to walk. Raising rates into a slowing economy can be challenge and unfortunately it will not help bring back the supply of the above mentioned commodities. For more growth oriented companies higher rates means that they are discounted back at a higher level, meaning their valuations drop. We have already seen a significant pull back in the highest flying stocks with names such as Zoom Media dropping from its COVID highs of almost $600 to $112 as of this writing. That’s an 80% drop and Zoom isn’t alone. Luckily we were able to avoid most of that carnage in our model portfolios, however we believe that rates will continue to go higher and worry about a potential FED mistake as in our humble opinion they waited too long to start raising rates.

The above doesn’t make for a very rosy picture and our equity portfolios are structured accordingly. Our Alpha portfolio has roughly 20% of its assets in cash, bonds or a volatility hedge. North American Core portfolio has roughly 10% in gold, 6% in bonds and 3% in cash and both portfolios have good exposure to Canadian gas and oil which has performed extremely well. We believe that there is a risk that we are entering into a 1970’s type of market ie stagflation. Luckily for us, Peter was working at Merrill Lynch at that time and experienced that market first hand. We expect that inflation will ebb and flow but stay at elevated levels compared to what we have gotten used to. Interest rates will be higher than we have seen for the last couple of years but don’t worry, they won’t go back to those double digit extremes of the early 1980’s. What this means to our portfolios is that we continue to add more exposure to commodities and have reduced some of our technology exposure. We are still believers that the world is in the midst of the 4th industrial revolution and that the rate of change that we will see with new technologies and innovation will be at a rate we have never witnessed before but the winds are changing and we as investors have to recognize that. From January 2001 to January 2011 Microsoft improved their earnings and profitability significantly, however the share price for Microsoft was in the $30s in both of those January’s. It was always a great company but not necessarily a great investment. At the beginning of the year we liquidated our Microsoft position, not because we don’t like Microsoft but because we felt that there were other investments that currently have a better risk/reward profile. However, we would be happy to buy it all back when the time is right.

This leads us to our belief that we are going to have to stay nimble and take advantage of the opportunities and swings in the market as they present themselves. We know that nobody can time the market perfectly and for that reason we want to continue to keep a proper asset allocation structure for all our clients but we will continue to adjust the exposure we are taking and “trade around the margins”.

The beauty of the equity markets is there is always something that is making money. Our defensive positions and resource positions continue to do very well for us and we believe that at some point over the next couple of months we will be moving the portfolios back into a full equity position. The winds of the market are changing and we continue to position ourselves to take full advantage of them for you.

Please feel free to reach out and book a meeting for a review if you have any questions or concerns. 

CIBC Wood Gundy

Andrew Lacas, CFP, CIM, RIAC

Wealth Advisor

Portfolio Manager

Lacas Advisory Group

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Source: https://www.investmentmonitor.ai/insights/ukrainian-economy-matters-russia