Market Watch – January 31, 2019

Oil prices gained more than 2% Tuesday after the U.S. imposed sanctions on state-owned Venezuelan oil company PDVSA, a move likely to reduce the country’s crude exports and relieve some global oversupply worries. However, U.S. crude prices settled lower on Thursday as uncertainty over global trade and the slowing Chinese economy dampened bullish news about production cuts and the Fed’s new patience on rate hikes, which had driven prices higher early in the trading day.

The loonie, which outperformed its peers this month, strengthened against the U.S. dollar on Thursday as signs of progress between the U.S. and China offset data showing a domestic economic contraction. According to Statistics Canada, the country’s GDP declined 0.1% in November from October, attributed to declines in wholesale trade, as well as finance and insurance. For the month, the loonie gained 4%, tops among G10 currencies, thanks in large part to resurgent oil prices. The loonie fell nearly 8% in 2018.

Markets

Dovish Fed Stance Helps Lift Markets

For the four days covered in this report, the Dow surged 263 points to close at 25,000, the S&P 500 added 39 points to settle at 2,704, while the tech-heavy Nasdaq gained 117 points to close at 7,282. In Canada, the TSX climbed 175 points to end at 15,281.

Equities/Strategy

Strategy

The renewed investor optimism that characterized the start of 2019 could fade in the second half of the year. Yesterday, the S&P500 Index ended its best January since 1989 amid conflicting headlines. The U.S. Federal Open Market Committee (Fed) signaled a lengthy pause in policy rate adjustments as it deciphers market “crosscurrents” relating to global trade concerns and European politics. For 2019, we expect U.S. equity markets to outperform their Canadian and international peers and investment grade corporate bonds to outshine their high yield counterparts. Further, we expect fixed income portfolios with longer duration to provide a buffer in the event of yield curve inversion.

Given the maturity of the current business cycle, we have made modest downward revisions to our long-term total return expectations. Lower expected returns reflect an increased likelihood of recession over our forecast horizon and rising input and financing costs. As we approach the end of the business cycle, we expect to make further changes to our guided portfolios to reinforce our high quality bias. We may also make further changes to our tactical asset allocation models.

In January, the probability of a U.S. recession, based on our internal model, rose from ~20% to slightly over 30%. We are mindful of this increase but note the probability remains below the critical 40% threshold. As for the possibility of a Canadian recession, we believe that the Bank of Canada (BoC) will likely follow, not lead, the Fed in policy rate increases. This suggests Canada will track a path similar to that of the U.S. toward any future recession. We expect two 25 bps rate hikes from the Fed this year and one from the BoC. On balance, we view the risk of recession in 2019 as relatively low in both Canada and the U.S.

(Bill Curry)

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Market Watch – January 31, 2019

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