Over the past few months, we have heard many economic and investment firms calling for a recession within the next 12-18 months. Back in April, I wrote a newsletter regarding the yield curve inverting (https://ca.rbcwealthmanagement.com/kyle.sarai/blog/1950228-Is-a-Recession-Looming). The previous five times the curve has inverted, it has triggered a recession; however, leading up to the recessions (which, on average, began one year after the inversions) the markets returned around 10%.
Calling the specific timing of a recession is often hard to do, as there are many factors that can influence the timing. Back in 2016, there were many problems around the world, including fears of a China slowdown, Brexit worries and weak U.S manufacturing data; however, these issues have placated and equity markets continue to run positive for the next 18 months.
Where are we now?
From September 4th, 2019 until today, the S&P500 has returned 0.001%. The market has been flat for the past year essentially. The S&P index fell -20% from October until the end of December and rebounded back to new highs in late April. On the flip side, global bond markets have returned just over 6% this year with yields dropping significantly.
If you are an investor, what should you do?
In our opinion, it is prudent to start the process of getting defensive with your assets, as appropriate asset allocation is the only defense against a looming recession. Within our internal portfolios, RBC has been rooting out stocks with low dividends and high price to earnings ratios. Names that fit our model right now include CVS Health Corp, Crown Castle International, Coca Cola and, within Canada, Fortis. You may think these names sound unexciting, safe investments; however, we may be in the last inning of a bull market, and we want to ensure our clients' assets are in high quality businesses that are resistant to the extreme highs and lows of economic cycles.
The hardest hit area of investing right now is within the fixed income markets. If you would like to purchase a Telus bond that has a five year maturity paying an annual interest payment of 3.5%, you mostly likely would be paying $110 for that bond with the yield at 3.2%. If you were to hold that bond until maturity, you would receive $100 back, not the original $110 you paid. You would trigger a capital loss in addition to the tax you're required to pay on the interest income. In this particular set of market circumstances, fixed income is not a shelter from the storm of a recession.
Given the overall feelings of the markets regarding a looming recession, your advisor should be preparing a three, six and twelve month plan to mitigate the risk in your portfolio.
Kyle Sarai, MBA | Investment Advisor | RBC Wealth Management | RBC Dominion Securities
Sarai Wealth Management