Happy New Year.
The market narrative has not changed to start the year. Inflation, interest rates and recession risks remain front and centre. There have, however, been some developments over the past month that are worth discussing. They have potential implications for investors in the year ahead.
Europe has experienced a mild start to its winter, resulting in reduced demand for heating. Consequently, natural gas prices in the region have fallen significantly, and are now at levels last seen before the most recent invasion of Ukraine. The risk of a need to ration energy usage has declined. If this trend continues over the months to come, lower energy prices could provide disinflationary tailwinds in Europe.
In China, there has been a sudden and stark reversal of the country’s “zero-COVID” policy. Lockdown measures have been abandoned. China is now in the process of reopening, despite a rapid increase in infections and a severe strain on its healthcare system. Illnesses will result in some temporary disruption from worker absenteeism and supply chain challenges. Nevertheless, the interruption should be temporary. Investors are focused on assessing the timing and magnitude of the expected recovery of economic growth, which will be limited by difficulties in the housing sector, slowing export demand and the government’s reluctance to expand credit.
Canada’s economy added 104,000 jobs in December, more than expected, and the unemployment rate fell to 5.0%. In the U.S., 223,000 jobs were added in December, also higher than expected, with the unemployment rate falling to 3.5%. Despite some pockets of weakness and an overall slowing in employment trends relative to a year ago, the rate of job creation remains relatively healthy and normal. Offsetting this positive news was weakness in several leading economic indicators that tend to reliably foreshadow future economic activity. Manufacturing and services indicators declined in December, with the latter being a particular surprise as it had been holding up well through most of the fall. The recent U.S. inflation reading suggested an ongoing moderation in pricing pressures. Overall, the data suggests that the Canadian and American economies are losing momentum, but also demonstrating resilience in the face of tightening financial conditions. We continue to forecast a short and mild recession in 2023.
While there are some new potential tailwinds relating to global growth and inflation that could provide a lift to investor sentiment, the overall outlook for the year ahead has not materially changed. Tighter financial conditions should eventually weigh on global activity. There is a lag effect of monetary policy. Fourth-quarter earnings season has now begun, and our short-term focus will be companies’ guidance concerning their current and expected future operating environments.
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