Friday, January 20, 2017

Canadian CPI Higher, But Still Well Below Target

Total CPI was up 1.5% in December, Up from November's number of 1.2%. Gas prices lead the way with a 5.5% increase. Food prices were down by 1.3%.

The Bank of Canada's series of core inflation data were basically unchanged. Inflation in Canada remains very subdued, don't expect any change in BOC interest rate policy any time soon. You can keep your variable rate mortgages variable.

Meanwhile, despite signs of rising inflation in the Euro zone (but still well below the target), the European Central Bank left its extraordinarily easy monetary policy unchanged (as was expected).

US Federal Reserve Chairwoman Janet Yellen spoke at Stanford University saying: "Economic growth more broadly seems unlikely to pick up markedly in the near term given the ongoing restraint from weak foreign demand". Rising US interest rates (bond yields and longer term rates), a strong $US and an aging population all factors for caution.

Now, it is wait and see what new fiscal and trade policies emanate from the White House:

Wednesday, January 18, 2017

US Inflation Inches Up
Bank Of Canada Builds In 0.5% Additional US Growth

According to the US Bureau Of Labor Statistics, Total CPI was higher by 2.1%. Energy was the big gainer at 5.4%, followed by Medical Care and Shelter. Restaurants also added to the increase. The US Fed targets a level of 2% for the core PCE price index which will be announced on Jan. 27.

Closer to home, the Bank Of Canada left rates unchanged and issued its Monetary Policy Report and while stressing "undiminished" economic uncertainty ahead, they are building an additional 1/2% of US GDP growth into their projection allowing for some measure of increased US fiscal stimulus.

However, the BOC feels that the impact on Canada will be small.

Furthermore, they acknowledge that higher bond yields in Canada on the back of higher US bond yields (see our themes for 2017) are generally "at odds with Canada's macroeconomic situation". 

As well, the stronger C$ is creating economic headwinds for Canada's export economy.

Finally, as I suggested in my Jan 9 blog, inflation remains well below the BOC targets, whereby they have no intention of raising rates in the near term. So all you floating/variable rate mortgage borrowers can breath easy, at least for a while. Canada's December inflation data is due on Friday, so stay tuned for an update.


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Tuesday, January 17, 2017

A New World Order May Be Emerging
But Who Will Be In Control?

Theresa May wants a "clean" break and a new comprehensive, bold and ambitious free trade agreement for the UK.

China's Xi Jinping says that "Countries should view their own interest in the broader context and refrain from pursuing their own interests at the expense of others.

Donald Trump appears to want to cozy up to Vladimir Putin (maybe it is a case of "keep your friends close and your enemies closer"?).

Meanwhile, Europe (Germany being the main benefactor of the EU) is struggling to stay together.

Canada and Mexico are watching and waiting.

There could be tectonic shifts about to happen, so it is more important than ever to have a flexible portfolio strategy, especially when equity markets (lead by the S&P 500) appear to be at full value.

We will talk about this, and other financial market and global economic developments and how this impacts our client's wealth management strategies today on our weekly webinar.
Please feel free to tune in to the recorded version which we will publish on our website at or about 5pm today:

Sunday, January 15, 2017

And Back To The Fundamentals...

S&P 500 earnings for 2017 are expected to grow by 11.4%. which will be significantly better than earnings growth for 2016, which will come in basically flat (if Q4 earnings come in as expected).

The S&P 500 for 2016 returned (total return including dividends on a daily basis, source Bloomberg) 11.95%. In 2015, by contrast, the S&P 500 had a total return of 1.37% and in that year earnings growth was slightly negative.

Needless to say, investors have built a great deal of future earnings into the current pricing of the S&P 500 companies. In fact, the 12 month forward looking earnings per share (EPS) is at close to the highs at 17 times (relative to the 10 year average of 10.4 times).

Investors are rather positive then, about the outlook. 

However, as is the case usually about 2 times per year, the CNN Money Fear and Greed Index has peaked and is slipping out of the higher levels of "greed". Probably not a good sign for those who have been paying too much for US equities. It will be nice to have some extra cash on hand to pick up cheaper assets when the index heads into "fear" territory, which it does also usually a couple of times per year.

It's good to be tactical (our key theme for 2017)!


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Thursday, January 12, 2017

Trump Headlines And Tweets Aside, 
Back To The Economic Fundamentals

While we wait for more specifics on future US economic policy (currently long on promise, short on detail) we move our focus back to the global economy and central bank policy:

The Bank of Canada (BOC) announced the results of its winter Business Outlook Survey earlier this week which suggests improving over-all business prospects, reflecting a "building domestic demand, a supportive export outlook and an expected recovery in energy-related activity". More importantly, perhaps, inflation expectations are "ticking up".

This will certainly get the Bank of Canada's attention and although total CPI and some of the other measures are still below target, increases in inflation will be their primary focus. The BOC will announce their next policy decision next Wednesday (Jan. 18) and while we do not expect any changes to interest rates, recent gains in employment are encouraging (although the stronger C$ is going to be a concern). Canadian CPI data is due to be announced next Friday.

The European Central Bank will announce their latest interest rate and monetary policy decisions on the same day (a little earlier) and while inflation and economic activity have been picking up, there will likely be no change in interest rates, but financial markets will be watching for any changes in their bond buying program.

The US Federal Reserve will announce its latest decision on Feb. 1. Consumer sentiment is improving and there is hope in the business community (which may lead to a better investment climate) and while inflation pressures (in commodity prices and also wage data) are growing and unemployment is close to full capacity, it is expected that they will not yet be raising interest rates.

The UK continues to be preoccupied with Brexit, the pound has been flirting with its post-Brexit lows:

And while this has actually assisted the British economy recently, consumers are not confident (because of Brexit) and will be a drag on the economy going forward. The Bank of England will announce its next interest rate decision on February 2.


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Tuesday, January 10, 2017

Risk and Return in 2016

Last week I wrote about why a more tactical approach was necessary for portfolio performance that could continue to out-perform the comparative benchmarks. Otherwise, you could just buy the benchmarks (via a couple of ETF's) and avoid paying advisory fees.

The All Country World Index ETF (ACWI) had a total return (source: Bloomberg TRA, daily basis) of 8.40% over the course of 2016 and a 2 year total return of -0.95% (remember 2015 was a difficult year for equity markets). ACWI is comprised of about 53% of US equities.

The Canadian Bond Index ETF (XBB) had a total return (source: Bloomberg TRA, daily basis) of 1.29% after a very tough 4th quarter with a total return of - 3.49%. The 2 year total return was 2.27%.

A combination 60% equity (ACWI), 40% fixed income (XBB) portfolio returned 5.78% over 2016 (after a -0.77% for the 4th quarter). The 2 year combined performance was -0.21%. 

For comparison purposes, using an actual  High Rock client portfolio who joined in January of 2016: 

This particular portfolio is comprised of a combination of 50% of our Global Equity model, 40% of our Fixed Income model and 10% of our Tactical (mostly small cap Canadian companies) model. Clearly the 7.79% total return (after our 1.15% fee) is nicely ahead of the benchmark combination, in large part due to the tactical model providing over-weight exposure to Canadian companies through the year (ACWI weighting for Canadian companies is 3%). However, that was not all. Despite a significant drop in bond markets through the final quarter of 2016, a tactical approach allowed us to minimize the impact by making an adjustment to the duration of our portfolio and adding a portion of floating rate assets (post Trump election) that improved by approximately 5% in December alone.

More importantly, we did not have to increase our risk exposure to pricey equities to get there. In fact our return per unit of risk was even less than the benchmark combination (including an average 20% cash equivalent weighting that is /was slated for future opportunity as well as risk mitigation):

The actual High Rock client portfolio (circled), after adding back 1.15% in fees for comparison purposes, had higher returns and less risk (risk increases to the right along the horizontal index) than the 60/40 (combination of ACWI and XBB). This is based on 1 year monthly total return analysis (TRA, source Bloomberg). 

As always, historical returns are in no way a guarantee of future returns.

We will be discussing this and our High Rock performance for 2016 in greater detail as well as our outlook for 2017 in our weekly client webinar today. We will post the recorded version on our website at or about 5pm today:

Monday, January 9, 2017

Your Mortgage: Variable or Fixed?

There is no blanket, one strategy fits all answer to this question because it clearly depends on a large number of personal circumstances. 

Certainly from a macro economic perspective, if interest rates are rising, locking into a longer-term fixed rate mortgage will take out the risk of variable interest rate increases for a few years. However you do have to look a little deeper into what the interest rate increases actually imply.

Variable (floating) rates are based on the Prime Rate (currently at 2.70%), which is set based on Bank Of Canada (BOC) policy which is indicated through the "The Target For The Overnight Rate" (formerly called the Bank Rate, currently set at 0.50%). The overnight rate is the interest rate at which major financial institutions borrow and lend one-day funds among themselves.

The setting of the overnight rate is a function of BOC monetary policy, which is mandated to provide a low, stable and predictable rate of inflation. Their inflation target is 2%. Currently the headline Total Consumer Price Index (last 12 months) is 1.2% (November's data). 

There are various measures that the BOC uses to extract more volatile data (like food and /or energy prices) from the total number and they range from 1.3% to 1.9%.

Needless to say, until inflation shows signs of moving higher, the BOC will likely not be raising interest rates and prime and variable mortgage rates should stay at the current low levels.

Longer term, fixed mortgages are based on bond yields and the bond yield curve. Since November and the Trump election, bond markets have pushed yields higher and the yield curve has steepened: longer dated maturity yields have risen faster than shorter term yields, putting upward pressure on fixed mortgage rates.

Bond markets at the 5 year maturity (horizontal axis) are higher by about 0.40% as higher inflation expectations are being built in to the current environment (which is taking anticipated US fiscal spending into account). Increased deficits, also in Canada, will require increased bond issuance, which will also push bond prices lower and yields higher.

As I said initially, there is no simple answer because it depends on your personal financial situation in conjunction with the macro economic outlook: your cash flows and income vs. expenses analysis (Wealth Forecast). Locking in a fixed rate may make sense, depending on your needs. However, the variable rates are likely, over time, going to remain lower (on average) than the longer term rates (steeper yield curve). If your cash flow permits, it may be more sensible to remain variable as those rates will probably rise, but on average, rising variable rates will not cost you more than locking in a longer term rate. Eventually as the economic cycle progresses and inflation is no longer an issue, variable rates will fall, but you do not want to be locked in when this happens.


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