Market update

Another challenging week for markets as the Fed’s policy stance to battle inflation was reiterated with Jerome Powell’s announcement and comments on Wednesday.

The Canadian dollar fell to a two-year low against the greenback as geopolitical tensions as well as the continuing aggressive interest rate policy supported the U.S. dollar.

Canada’s Consumer Price Index (CPI) rose 7.0% annually in August, down from a 7.6% in July. Excluding gasoline prices, CPI rose 6.3% in August. It is the first month since June 2021 that the CPI, excluding gasoline, has decelerated.

Canadian retail sales declined by 2.5% in July, the first decline in seven months. Sales were down in 9 of 11 sub-sectors and were driven by lower sales of gasoline and clothing and clothing accessories. Core retail sales, which excludes gasoline and motor vehicles and parts, decreased by 0.9%.

U.S Federal Reserve raised interest rates by 0.75% again on Wednesday and reiterated their support for further rate hikes to ‘crush’ inflation .

U.S. housing starts rose a seasonally-adjusted 12.2% in August while building permits for new homes fell 10%.

U.S. existing-home sales fell 0.4% in August from July. This is the slowest sales pace since June 2020, when activity stalled very briefly due to the start of the pandemic. Excluding 2020, this is the slowest pace since November 2015.

U.S. weekly jobless claims rose by 5,000 to 213,000, still coming in 5,000 below expectations.

President Putin has ordered the partial mobilization of 300,000 military reservists into active service putting the country on a wartime footing as the invasion of Ukraine continues.

Euro manufacturing data from France, Germany and Eurozone fell below consensus, to a 27-month low.

Eurozone consumer confidence fell to its lowest level on record on energy distresses.

High energy prices are forcing European factories to cut production and put tens of thousands of employees out of work.

Germany will nationalize the country’s largest gas importer, Uniper, in an attempt to prevent a collapse of the energy sector.

Megacity, Chengdu in China ended a two-week lockdown that closed schools, businesses and forced residents to stay home for more than two weeks. Chengdu has a population of 21 Million people.

China’s loan prime rate was left unchanged, in line with forecasts. The People's Bank of China said that the current interest rates are reasonable and provide room for future policy action.

Japan’s core inflation increased 2.8% from a year ago, the fastest rate of increase since late 2014.

Gold prices edged lower for the week as prospects of more aggressive rate hikes, a strong U.S. dollar and higher U.S. bond yields weighed on the metal’s appeal.

West Texas Intermediate crude oil was down  to a 8 month low for the week as a stronger U.S. dollar and recession fears weighed on the heightened geopolitical risk of Russia’s military mobilization

Weekly change: TSX: -4.7%; DOW: -4.0%; S&P 500: -4.7%; NASDAQ: -5.1%; GOLD: FLAT WTI: -8.3%

 

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Tweedledee and Tweedledon’t by Avery Shenfeld Link to Article

With the Fed raising interest rates again this week by 0.75%, should they continue to a hiking to 4.5% or higher, does that force the Bank of Canada to follow suit? Or are there reasons why the two central banks are more like close cousins than identical twins?

The argument that aggressive Fed hikes force the Bank’s hand is that failing to do so will weaken the Canadian dollar, and that acts as an easing in conditions and a boost to import prices. But that impact would be very modest, since the Canadian dollar is appreciating against other trading partners like Europe and Japan.

While a cheaper Canadian dollar can stimulate exports, there’s been an offset in the other determinant of export conditions: commodity prices. The BoC’s index of commodity prices was down 10% in August from its first half average.

To some extent, the more other central banks hike rates, the less the Bank of Canada has to tighten to achieve its desired slowdown. The Fed’s more aggressive stance this month reflects its willingness to sacrifice more US growth in order to get inflation down. The resulting downgrade of the US outlook, and similar shifts overseas as other central banks tighten, serves to weaken Canada’s export prospects.

In more recent times, it is apparent that the data is giving signals that the optimal peak rate will be lower in Canada compared to the U.S. Hiring has softened more, core inflation hasn’t been quite as ugly, and much of the squeeze from higher mortgage rates on Canada’s household sector lies ahead, as more and more mortgages come up for renewal. That’s less of a factor in the U.S., given the great number of 30-year fixed rate mortgages.

 

Global Investment Outlook - Executive Summary - Fall 2022 By D.E. Chornous, CFA and E.Savoie, MBA, CFA Link to Article

Downgrading economic forecasts again, risk of recession is elevated

We are currently grappling with Central Banks are hiking interest rates aggressively, inflation is extremely high and geopolitical tensions have led to an energy crisis in Europe, as well as other lingering challenges. The economy continues to slow and RBC Economics have downgraded growth forecasts for the year ahead.

Estimated odds of recession are at 70% in North America with it expected to be average in size and duration with a moderate pace of recovery.

U.K and Eurozone face an even greater likelihood with the situation is expected to be meaningfully worse as both regions face a spike in natural-gas prices due to Russia’s war on Ukraine.

Unacceptably high inflation appears to have peaked

Over the past year, the four major contributors to inflation have begun to turn. Supply-chains are improving, commodity prices have slipped, fiscal stimulus has faded and monetary policy has shifted from easing to aggressive tightening. Further to this, RBC Economics inflation-peaking scorecard reveals that the majority of inputs and signals have now reversed, suggesting inflation probably crested in June.

U.S. dollar is extremely expensive, temporarily supported by extraordinary factors

A relatively hawkish U.S. central bank, the uncertain financial-market outlook and softening global economic growth have all played roles in driving both a stronger greenback and foreign-exchange markets in general. It is the view of RBC Economics that the U.S dollar should weaken over the medium term, but extraordinary factors may lend further support for the rest of this year.

Bonds extend sell-off, valuation risk diminishes

Rapidly rising interest rates have caused further declines in global government-bond prices, but we believe that any further losses will likely be limited.

RBC Economics models suggests that government bonds have likely priced in much, or even most, of what is needed to properly reflect current and expected inflation and real interest rates. Assuming that the inflation spike subsides as we forecast, RBC Economics believes that bond investors are more likely to keep their coupons and that the risk of fixed-income capital losses has meaningfully diminished since the start of the year.

Equities dinged by falling valuations, earnings outlook faces headwinds

The S&P 500 Index had fallen as much as 24% from its all-time high in June and almost all of this year’s decline in stocks has come from shrinking valuations due to rising inflation and bond yields. As a result of the worldwide drop in in stock prices, the excess valuation (‘over-pricing’) that existed in our composite of global equity markets has been erased.

Within the composite, U.S. equities remain slightly above our estimate of fair value, but stocks in other regions look more appealing. Although stocks are more reasonably priced, the focus is shifting to corporate profits which remain well above their long-term trend and may soon encounter headwinds from slowing economic growth, especially if a recession were to materialize.

 

Global Insights

European governments outlined new measures on Monday to cope with potential energy shortages this winter and raced to improve energy networks to share power, with Russian gas flows still running at severely reduced rates amid the Ukraine war.

Reuters

Royal Bank of Canada is warning that Canadian homebuyers are feeling the heat from the rapid increase in interest rates.

“The national composite MLS Home Price Index fell a further 1.6 per cent month-over-month in August. It’s now down 7.4 per cent since February’s peak, within striking distance of the eight per cent peak-to-trough decline recorded during 2017-19 downturn,”

Bloomberg

Energy consumption is expected to surge 50 per cent in the next decade but the country’s ability to meet that demand is constrained by its commitment to a net zero grid by 2035, Royal Bank of Canada said in a report Tuesday. Ontario, the most populous province and the country’s economic engine, could face power shortages as early as 2026, the bank warned.

Bloomberg

Britain's new finance minister Kwasi Kwarteng unleashed historic tax cuts and huge increases in borrowing on Friday in an economic agenda that floored financial markets, sending sterling and British government bonds into freefall.

Reuters

 

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