Investment Environment - Fall 2019
While preparing to write this commentary I reread a version that was sent to clients exactly three years ago. In the fall of 2016 I wrote:
“Since 2008, central bankers around the world have applied extreme and unprecedented policies to stimulate economic activity (especially employment) and to encourage inflation. Monetary policies deployed to respond to an economic emergency have been continued for the better part of a decade. The net result of these policies is that prevailing interest rates are far below the natural interest rate that a free market would set. Prices of all sorts are distorted by unnaturally low interest rates. Low rates support higher stock prices because the high dividends paid by stocks attract buyers who reject the low interest rates paid by bonds and GIC’s. Indeed, I believe many people are coming to realize that they have nowhere else to put their money except into stocks, irrespective of high prices. Professional investors call this phenomenon T.I.N.A. (There is No Alternative). We all expect the U.S. to attempt to raise interest rates after the November elections. But unless growth escalates, they won’t get very far.”
To my dismay, nothing much about the economy or the financial markets has changed. Depression level interest rates and record high stock prices continue to coexist in an environment of slow economic growth. There has been no recession, but neither has there been the kind of growth that would allow central bankers to raise interest rates to levels we recognize as normal. Low interest rates will persist until consumer price inflation forces central bankers combat it. This is because low rates are popular with voters, businesses, and even governments (who have large fiscal debts to service).
Stock prices today are not cheap, but neither are they approaching speculative levels that lack historical precedent. In the absence of attractive alternative places to invest money, stocks should do reasonably well going forward. Consider that blue-chip stocks like Enbridge (6.2%) and Royal Bank (4%) pay high dividends when the 10yr Government of Canada bond yields 1.5%. It would take enormous economic misfortune for the GOC 10yr bond to outperform prime grade common stocks in the next decade.
As investors it always feels in the present moment as if we are on the cusp of some big change. Most of the time that feeling turns out to be wrong. Major inflection points in financial markets are rare. We know that a big change will materialize at some point, but we don’t know when. That uncertainty makes us vulnerable to future volatility of stock market prices. Periods of temporary distress definitely await us in our future as lifelong investors. Volatility is the unavoidable price of good investment returns. Experience teaches us that volatility will not prevent us from reaching our goals.
Mark Lloyd, Ph.D.
Vice President & Portfolio Manager