“Life moves at you pretty fast. If you don’t stop and look around once in a while, you could miss it.” - Ferris Bueller
Strategy Update Highlights:
- We continue to favour the medium-term outlook of the markets. You could say the economy is in 7th-inning stretch, so we have increased cash to take advantage of any market corrections.
- We expect Canadian and US interest rates to increase. Short-term and floating rate debt exposure has and will continue to help protect from these increases.
- As I said last quarter, please expect continued market volatility. Tariffs and Trump, NAFTA negotiations and interest rates, seen and unforeseen events can provide opportunities.
It has been ten long years since the global financial crisis unfolded in 2008. And now here we are in the later stages of one of the longest economic expansion cycles on record. The duration and magnitude of up and down cycles are a bit different each time so one can never say for certain when a cycle will end, but to borrow a baseball analogy, we are likely in the 7th-inning stretch of a 9- inning game.
Things like strong merger and acquisition activity, peaking leading indicators, tight credit spreads, US dollar strength, a flattening yield curve, rising short-term interest rates, and strong commodity prices are all hallmarks of being late in the cycle. As we continue to assess them, we see some of the late stage characteristics, while others are not yet present.
Fortunately, I do not feel the same foreboding as I did in early 2008. So we assess, wait, and stick to the security selection process for equities and fixed income, while using cash and, when appropriate, more portfolio put protection.
Fixed Income:
The Canadian economy continues doing well, with low mortgage defaults, good jobs numbers and healthy wage growth. The US also has tax cuts, a good housing market, and corporate profitability.
Consequently, RBC forecasts two more 25bps (quarter percent) short-term rate hikes for Canada and the US. If the Trump trade spat continues and significantly impacts Canada, the Bank of Canada could put those increases on hold.
The continued short-term, floating rate, and short-duration exposure helped avoid the negative return incurred by the Canadian fixed income benchmark – the DEX Bond Index. Had the fixed income exposure included more medium or longer term bonds, it would have resulted in negative returns. We are also overweight cash instead of being fully invested in bonds. While cash does not provide a large return, it acts as a buffer not only in equity portfolios, but in the fixed income portfolios as well. That cash holding also allows the purchase of some more short term bonds at higher interest rates as rates rise. We will continue to have a more conservative fixed income stance as the rate hikes progress and will take advantage of higher yields as rates rise.
Equities:
The Canadian equity markets improved over the last quarter almost matching the S&P 500. Oil price increases helped some Canadian energy companies to rebound from their lows. US tax cuts continue to help earnings growth. Rate hikes will also help increase many banks, insurance and financial service company profitability.
We continue selecting the majority of our US and Canadian equities based on having low volatility, a sustainable and growing dividend and strong earnings growth. This gives exposure to good companies that grow their earnings and dividends.
From an even bigger picture perspective, we will continue to see increased market volatility in large part due the economic cycle and Trump’s potential trade war.
Conclusion:
Portfolios are still slightly underweight in both equities and fixed income to mitigate rate hikes and overweight with cash to take advantage of opportunities.
Because of our approach, we don’t often outstrip market returns during wild bull markets. But being more prudent has, over the years (especially 2008 to 2009) mitigated our clients’ downturns. Though I can’t guarantee we’ll outperform in every bad market or bull market, by being more prudent, we are far more likely to have stable returns. I will continue to use this conservative approach to serve clients well in the future.
As always, I encourage you to please give us a call if you want to speak or meet in person.
Have a great summer!
** Here’s the fine print and there’s a lot of it…
Currency can add return when the Canadian dollar goes down but reduce returns when the Canadian dollar goes up for non-currency hedged US and international investments. Also, please remember that your US accounts report values in US dollars.
Securities or investment strategies mentioned in this newsletter may not be suitable for all investors or portfolios. The information contained in this strategy update is not intended as a recommendation directed to a particular investor or class of investors and is not intended as a recommendation in view of the particular circumstances of a specific investor, class of investors or a specific portfolio. Options, and other strategies mentioned, may not be suitable for all investors. You should not take any action with respect to any securities or investment strategy mentioned in this newsletter without first consulting your own Portfolio Manager or in order to ascertain whether the securities or investment strategy mentioned are suitable in your particular circumstances. This information is not a substitute for obtaining professional advice from your Portfolio Manager. The commentary, opinions and conclusions, if any, included in this newsletter represent the personal and subjective view of Daniel Kelly who is not employed as an analyst and do not purport to represent the views of RBC Dominion Securities Inc. The information contained herein has been obtained from sources believed to be reliable at the time obtained but neither RBC Dominion Securities Inc. nor its employees, agents, or information suppliers can guarantee its accuracy or completeness. This report is not and under no circumstances is to be construed as an offer to sell or the solicitation of an offer to buy any securities. This report is furnished on the basis and understanding that neither RBC Dominion Securities Inc. nor its employees, agents, or information suppliers is to be under any responsibility or liability whatsoever in respect thereof. The inventories of RBC Dominion Securities Inc. may from time to time include securities mentioned herein. Investment Trust Units are sold by RBC Dominion Securities Inc. There may be commissions, trailing commissions, management fees and expenses associated with Investment Trust investments. Please read the prospectus before investing. Investment Trusts are not guaranteed, their values change frequently, and past performance may not be repeated. This commentary is based on information that is believed to be accurate at the time of writing and is subject to change. All opinions and estimates contained in this report constitute RBC Dominion Securities Inc.’s judgment as of the date of this report, are subject to change without notice and are provided in good faith but without legal responsibility. Interest rates, market conditions and other investment factors are subject to change. Past performance may not be repeated. The information provided is intended only to illustrate certain historical returns and is not intended to reflect future values or returns. RBC Dominion Securities Inc.* and Royal Bank of Canada are separate corporate entities which are affiliated. *Member-Canadian Investor Protection Fund. RBC Dominion Securities Inc. is a member company of RBC Wealth Management, a business segment of Royal Bank of Canada. ®Registered trademarks of Royal Bank of Canada. Used under licence. ©2018 Royal Bank of Canada. All rights reserved.
Investment portfolios are not guaranteed, and past performance is no indication of future returns. In addition to these portfolios not being a guaranteed investment, there can also be significant fluctuations in the value of the portfolio.