Happy Canada Day!
RBC DS’s investment team publishes commentary that I read when it arrives in my email inbox. Recently published is the Midyear Outlook, in which they discuss the vulnerabilities that remain. The team outlines two scenarios: 1) inflation remains stubbornly elevated, forcing central banks to continue to tighten financial conditions, and 2) which inflation recedes, the economy slows, and the need for more tightening declines. The links below may be more detail than some of you want or need. If so, move on and enjoy your long weekend.
I concur that challenges remain for the second half of the year. But, I am hopeful inflation may peak at some point and start to decline from today’s elevated levels. The potential drivers range from lower demand, to some improvements in global supply chains, and the potential for more subdued commodity prices. Moreover, the base effects of year over year comparisons may lead to a natural slowing in the rate of inflation. The levels will remain uncomfortably high, but in time, a falling inflation rate may result in less volatile market conditions, and a potential return to the more typical behaviour and relationship witnessed between stocks and bonds.
The pendulum of rate hikes swung to an extreme this year, with central banks feeling the need to raise rates aggressively. Some say that the Fed acted about 9 months too late. This drove much of the volatility in the equity and bond markets. Should inflation recede, it could open the door to the possibility that central banks may not have to raise rates as much as markets expect. That alone could prove to offer some better support for capital markets.
Economic growth is slowing (but still positive) and may likely continue to trend in that direction given the tightening of financial conditions. As a result, recession risks may continue to rise. Surprisingly, earnings expectations for the year ahead have not meaningfully adjusted, and I suspect they will have to be reduced to reflect the deteriorating backdrop. That may be an emerging source of vulnerability for equities through the latter part of the year. Yet, weaker growth, or an outright recession, may be what’s needed to help drive inflation sustainably lower.
The period of uncertainty, volatility, and market weakness appears poised to continue for a little while longer. Our approach remains centered on building investment plans that can deliver on the long-term needs of our clients with the expectation that we will have to deal with periods like this from time to time. After all, markets don’t always move higher. But, history has taught us that investors are more likely to succeed in achieving their long-term financial goals by staying disciplined and committed to their financial plan. That has, and remains, a guiding principle of ours.
My diary entry next week will focus on the power of compounding so stay tuned!
Global Insight 2022 Midyear Outlook is now available!
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2022 has brought a challenging landscape with investors adapting to surging inflation and uncertain economic conditions. Our special 2022 Midyear Outlook helps to navigate the road ahead while identifying the catalysts and opportunities to optimize portfolios.
Full report: 2022 Midyear Outlook
Highlights include:
Prospects for the equity market in the shadow of inflation The trajectory of inflation in the coming months will have major implications for equities, in our view, but exactly what that trajectory will be remains unclear. We look for catalysts that could spark a new move higher for markets, or signal the approach of a recession.
More inflation to bring more rate hikes ... but also rate cuts? While rising inflation has led central banks to step on the rate hike accelerator, a shift may be on the horizon as inflation fears could soon give way to growth concerns, potentially driving central banks to tap the brakes.
U.S. recession scorecard update Our U.S. recession scorecard, designed to look forward six to 12 months, continues to give the economy an expansionary green light. If the U.S. economy can avoid slipping into recession over that time frame, we believe equity markets will recover sooner rather than later.
Taking charge: The EV charging ecosystem opportunity Building out the EV charging ecosystem is key to driving widespread adoption of electric cars. We explore the growth potential of this nascent market.
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