Global equities have been directionless over the past few weeks. One notable economic development was the Canadian inflation report for May, which contained higher-than-expected numbers for the first time this year. This report moderately reduced expectations for a July rate cut, although markets still anticipate another one to two cuts from the Bank of Canada through the remainder of the year.

 

We have reached the year’s midway point. Below, we take the opportunity to reflect on this year’s developments and share some thoughts on the outlook. We also highlight the Global Insight Mid-Year Outlook, published by some of the thought leaders across our firm. The special report on U.S. debt is particularly thought-provoking, though the entire piece is worth reading.

 

There has been encouraging progress on inflation this year, with different regions seeing different rates of decline. Services inflation has, however, remained sticky throughout most of the developed world because of wage growth, resilient demand and shelter-related costs. Even so, fading pressures have allowed a few central banks to begin cutting rates while others, like the U.S. Federal Reserve, suggest that cuts remain a possibility later this year. Economic growth has been better than anticipated. Many investors were expecting a recession to have already begun in various jurisdictions. The manufacturing sector has been generally weak, offset to a large degree by the services side of the economy. The consensus view is that a soft landing, where the economy slows but avoids a material deterioration in employment, is now more likely for many economies, particularly the U.S.

 

The backdrop above has driven global equity markets higher this year, with the U.S. leading the way. U.S. gains have been heavily influenced by large-cap technology companies, in particular anything related to artificial intelligence. This momentum may continue for some time, but a few items warrant attention.

 

The U.S. market has become more expensive over the past year. While valuations are more reasonable when the largest “tech” stocks that have led markets are excluded, they still sit above historical averages. This may have bigger implications over the longer-term than for the rest of the year. Our confidence in the sustainability of a bull market is typically highest when gains are driven by a broad range of stocks and sectors. Market leadership could broaden or shift to other sectors. Investor optimism is not at extremes, which can often be the case near market peaks, but it is more positive than it was a year ago, suggesting that there is growing risk of some investor complacency. Most importantly, the risk of recession remains above average based on various factors we monitor. As a result, we believe that the range of possibilities for equities is wider than normal despite the market strength to date.

 

Outside of the U.S., and excluding “tech” stocks in particular, equity markets sit at valuation levels that are more balanced, reflecting some of the economic headwinds that exist in parts of the world. Fixed income yields remain attractive, and higher quality bond exposure will act as a stabilizer in portfolios if equity market volatility returns. Overall, our approach to managing portfolios remains somewhat more cautious at this time given the range of potential outcomes. We remain committed to regular rebalancing to mitigate the risk of overexposure to any one market or sector’s idiosyncrasies.

 

We want to wish you and your loved ones a safe and happy summer.

 

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