The intense pressure on central banks to tighten monetary policy may be slowly reducing, as inflation shows signs of receding. Below, we discuss the Canadian investing experience this year which, while negative, has been more favourable than in other developed markets.

 

Needless to say, it has been a challenging year for global investors. Persistently high levels of inflation has caused elevated volatility. In addition, the prices of stocks and high quality bonds have been coupled, eliminating the usual protective effect of an inverse price relationship.  Moreover, many countries have seen their currencies fall relative to the U.S. dollar, with a concurrent increase in the cost of their USD imports and the local-currency value of their debt obligations.

 

Canadian stocks and bonds have not been immune from the above-noted phenomenon. Both asset classes have been negative year-to-date, as is the Canadian Dollar measured against the USD. The magnitude of the declines has not, however, been as large as in other countries. For example, the CAD has fallen about 7% compared to the USD, significantly less than the declines of most other currencies. The Canadian Bond Universe Index is about 12% lower for the year, one of its worst years on record. Other bond markets around the world have, however, fared even worse. While the Canadian equity market is down about 5% for the year, excluding dividends, it is one of the better performing among global equity markets.

 

Why has Canada fared better? First, we have benefitted from our exposure to commodities, and in particular energy, which has benefitted from relatively tight supply and demand dynamics. Energy has driven much of the Canadian equity market returns through the year, while also contributing to the country’s overall economic growth. Secondly, dividends have played a much bigger role in overall equity returns year-to-date. Generally speaking, Canadian equities have higher dividend payouts than other markets (including the U.S.). Other factors benefitting the Canadian equity market have been its cheaper valuation at the beginning of the year, its relatively low exposure to “growth” stocks, which have been particularly vulnerable. Lastly, the Bank of Canada has largely kept pace with the U.S. Federal Reserve with respect to interest rate increases. As a result, the interest rate differential, a key driver of currency movements, has not widened to the extent it has in other countries, helping to explain some of the resiliency of the Canadian Dollar.

 

Some home-grown challenges do lie ahead for Canadian investors, including our housing slowdown, elevated average household debt, and the reduction in consumption occasioned by higher borrowing rates. Nevertheless, the factors that have benefitted Canadian investors this year – commodity prices, dividends and reasonable stock valuations – may continue to be tailwinds for portfolios going forward.

If you have any questions, please do not hesitate to contact us.

 

Drew M. Pallett LL.B. CFP

Senior Portfolio Manager and Investment Advisor 

RBC Dominion Securities

Email: drew.pallett@rbc.com

Website: www.pallett.ca