In this week’s economic update, we'd like to first recognize the scale and cost of human tragedy unfolding in the Middle East following the Hamas terrorist attacks in Israel – and how this is impacting our community and the unfolding humanitarian crisis in the region. We continue to hope for peace, healing, and an end of violence. From an economic viewpoint, we are examining some of the potential economic impacts and implications of the escalating tensions and conflict, and what that could mean for market performance.
We’d also like to highlight the recent ‘Moments in Medicine’ fundraising event in support of the Foundation of Guelph General Hospital. Together, we helped raise $114,000 towards transformational projects at the hospital that will have a meaningful impact on patient care and outcomes.
We are also sharing the registration information for a free webinar hosted by CPA Canada: “Separating Fact from Fiction: Inflation and Interest Rates”. In this webinar, which includes RBC Wealth Management’s Sean Killin (Associate Portfolio Advisor, Multi-Asset Strategy), they will discuss inflation, interest rates, and what these mean for individuals and businesses.
Economic Update
All eyes have been focused on the Middle East over the past couple of weeks as the region has seen a sharp escalation in tensions following the Hamas terrorist attacks in Israel. Below, we discuss the investment implications of this conflict, while recognizing that the human toll is much more significant.
Mild global market response, though added volatility
The global market reaction has been relatively subdued thus far, though volatility has picked up. Equity markets in Canada, the U.S., and internationally have had their ups and downs, but currently sit relatively unchanged since the initial attacks. There has been a noticeable rise in government bond yields but that can be attributed to domestic factors more than anything else. Meanwhile, oil prices have moved predictably higher.
Historical context for market response
Investors can understandably become concerned when a geopolitical crisis emerges. But, looking through some of the military interventions since World War II, North American equity markets have generally shown resilience, with the average market decline limited in both size and duration. One of the historical comparisons that comes to mind is the 1973 Yom Kippur War involving Israel, Egypt, and Syria, which led to a coalition of Arab nations to impose an oil embargo on allies of Israel such as Canada and the United States. At the time, the U.S. was heavily reliant on oil imported from the Middle East. The embargo led to meaningful supply shortages, a significant increase in oil prices, and strain on the U.S. economy. Combined with some other factors, it also led to a more extended period of stock market weakness.
Oil and the concern of a widening conflict
The investment implications this time around are again likely to center around oil. More specifically, there is risk this conflict broadens to include other militant groups and countries. The biggest concern is whether Iran ultimately gets involved, given its strategic influence in the region and its proximity to the Strait of Hormuz – a relatively narrow channel that connects the Persian Gulf with the Arabian Sea in the northern Indian Ocean. According to the U.S. Energy Information Administration, the Strait of Hormuz is the world’s most important sea route as a significant amount of the world’s oil supply, from countries such as Iraq, Iran, Saudi Arabia, Kuwait, and the United Arab Emirates, flow through the channel on containerships. Should Iran become involved in a broader conflict, there is also the possibility that the U.S. would re-enforce sanctions, further limiting supplies and adding more upside pressure to oil prices.
Oil prices vs. oil supply
One of the stark differences between the environment today and that of 1973 is the U.S. progress toward energy independence. Thanks to a shift in domestic energy policy following the Arab oil embargo and technological innovations over the past few decades, the U.S. has become the world’s largest oil producer and is nearing self-sufficiency. As a result, the U.S. is probably less vulnerable to supply issues stemming from the Middle East. Nevertheless, the price of oil continues to be determined by global demand and supply, the latter of which remains heavily influenced by the Middle East. In other words, while the U.S. may not have to worry about its ability to import enough oil to meet its needs, it may have to deal with higher prices just like other countries.
Summary
We believe the risk of an intensifying conflict in the region adds yet another challenge to the supply side of the oil story. The other issues include higher interest rates and a less favourable political backdrop that have raised the bar and potentially the breakeven price for any new oil-related project. Furthermore, public companies have demonstrated less willingness to expand oil production at any cost as they have become more disciplined around their use of capital in response to shareholder demands. All of this suggests a higher floor for oil prices for the foreseeable future.
$134,000+ raised at ‘Once Upon a Time Gala’, in support of Children’s Foundation
This past Saturday, we were proud to be presenting sponsors for the Children's Foundation of Guelph and Wellington's ‘Once Upon a Time Gala’. Not only was this a magical night of food and fun, it also raised funds that will help create brighter and healthier futures for our community’s children and youth.
In total, the gala raised over $132,000 in support of the Foundation’s incredible work.
We’d like to thank all of the sponsors who supported the gala, and those who generously donated to help the Foundation achieve its mission and help children reach their full potential.
Contextualizing economic performance within a long-term plan
Inflation has been a prime topic for the last 18 months, with rising rates and subsequent central bank hikes. Economic blips are not new, and experienced financial planners understand how to navigate these choppy waters.
We’d like to share an article featuring Howard Kabot (VP of Financial Planning Specialists, RBC Wealth Management) where he discusses Wealth Management’s approach to rising inflationary pressures. You can read the article here.
After reading this article, our in-house wealth planning expert Elvis Henrique also has some thoughts to add and the importance of stress-testing and long-term planning. We hear from him below:
Financial plans or Projections are a useful tool - I agree that a Financial Plan or even a more simplified Financial Projection is the first step in seeing how the current elevated inflation rate can impact your goals and objectives both in the short term and long term.
Stress testing methodology at Elinesky Schuett - In our plans at Elinesky Schuett, we often stress test inflation at an even higher rate than 3% (such as 3.25% up to 4.25%) so as to provide as much peace of mind as possible. This is also a helpful mechanism to account for spending that may be increasing at a higher rate than the core rate of inflation, such as travel and other entertainment.
Inflation: real versus perceived - According to the Bank of Canada, the gap between perceptions of inflation and actual inflation is unusually wide. As a wealth planning expert, I feel it’s important to continue to share information and educate clients on this issue when appropriate. Bottom line is: experience matters here.
Inflation can impact many parts of a financial plan - We will highlight on the impact of inflation on other elements of a financial plan such as inflation adjusted pensions and government benefits, real estate values, debts and savings, as well as investment performance all to ensure we are providing peace of mind on the issue.
Don’t forget taxes - Although when taking the long term view that inflation is likely to come back to an acceptable range ( 2 to 3% by all accounts), this may not be many people’s first concern. However, how inflation affects tax bracket thresholds and credits is something to be aware of for some.
As always, we are available to connect with you personally. Please don’t hesitate to contact us at 519-822-2024 or elineskyschuett@rbc.com.