What is the Bond Market Telling Us?

(click on the chart to enlarge)

The Bond Markets are the financial market with the most insight into future economic developments (global bond market size of over $100 trillion dwarfs the size of equity markets), however (like tea leaves) you just have to know how to read them!

• The first important (and telling) signal comes from the shape of the "Yield Curve".
• This was a common discussion on our Tuesday conference calls in my previous life: The Yield Curve (as you see in the above chart) is drawn by joining the relationships between interest rates (on the vertical axis) and the corresponding maturity dates (along the horizontal axis).
• A "normal" Yield Curve has a positive slope (lower left to upper right) and is an indicator of expected future economic growth and an expectation of future inflation: the investors in bonds of longer dated maturities demand a higher yield (which includes a premium for increasing inflation).
• The steeper the slope, the greater the expectation of future inflation (and hence economic growth).
• Expectations of growth and future inflation in the US Yield Curve are greater than they are in Canada because expectations of US Economic growth are stronger than they are for Canada (oil is the main factor at the moment).

• Watching how the Yield Curve moves is also important:

(click on the chart to enlarge)

• The Canadian Yield Curve over the last month has shifted to show a slight "inversion" in the shorter maturity dates.
• This is a result of the determination that in the near-term, expectations are that the Canadian Economy will grow at a slower pace and inflation is not a factor of significance. This is also brought on not only by the Bank of Canada's move to cut the bank rate by 1/4 %, but by some expectation of the possibility of another cut to .50%.
• The curve goes positive after the 3 year maturity and beyond, telling us that the economic slowdown (in Canada) will not be deep and will have a short life span.

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund.

Setting Goals 

(and creating a plan to attain them)

 I met Mary and Sheila in 2002, early into my wealth management career. They were partners. Mary was 38, Sheila was in her early 50's. Mary was working her way up the corporate ladder as a very capable marketing executive. Sheila was a senior administrator with a very good pension plan.

• They were both working hard to pay off their mortgage.
• Mary was an excellent saver and had built up he RRSP.
• Their goal was to retire together when Sheila had reached her maximum pension.

They are now less than a year away from retirement:

• They sold their home for over $800,000 recently.
• They have an investment portfolio over $800,000.
• They have Sheila's pension. 
• They have a nicely compounding whole life insurance policy.

This did not just "happen". They sat down long ago and put a plan together and stayed with the plan.

• When 2008 came along, it was a bit scary in Financial Markets, however a balanced and diversified portfolio helped to mitigate the downside impact on their portfolio.
• When you see your portfolio down 15%, it is not easy to stay focused on the long-term.
• They persevered and by 2010 were back on the growth trajectory that has given them 5 more great years of reasonable growth.

Want to have a successful retirement?

Make a plan. Stay with it.

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund.

Keeping Perspective:

When the economic news gets negative and the "noise" factor builds, it is important to remember that this is all occurring in the short-term.

However, Wealth Management is about long-term goals and objectives and there will be plenty of short-term adjustments that occur along the way.

(click on the chart to blow it up)

•  Canada's economy has been outperforming "advanced economies" since the late 1990's.
• The oil price "shock" has been in play since the last quarter of 2014.
• As the Bank of Canada adjusts monetary policy to accomodate this, economic growth should likely respond.
• A weaker Canadian Dollar is positive for the export economy and will drive other sectors to compensate for weakness in the energy sector.
• The Canadian economy is diverse enough to weather the storm in the short-term as long as the inevitable "over-reaction" is contained.
• For investors who tend to suffer from "home country bias", i.e. overweight home country equity assets (because they are comfortable with what they know), the lack of diversity may be a challenge to portfolios.

It is why I continually sound like a broken record: Balance and Diversity in a portfolio will out-perform over the long-run!

The views expressed are those of the author, Scott Tomenson, a Raymond James Financial Advisor, and not necessarily those of Raymond James Ltd. It is provided as a general source of information only and should not be considered to be personal investment advice or a solicitation to buy or sell securities. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor's circumstances and risk tolerance before making any investment decision. The information contained in this blog was obtained from sources believed to be reliable, however, we cannot represent that it is accurate or complete. Raymond James Ltd. is a member of the Canadian Investor Protection Fund.

Expect The Unexpected

My 1st blog of 2015 suggested that the theme for the year was to expect the unexpected.

Let's look at what has transpired over the first month of the year:

• The Bank of Canada cut the bank rate to 0.75%, from 1.0%.
• The $C has fallen by close to 9%, from approx. $0.86 to $0.79.

• In my model portfolio of 60% equity / 40% fixed income, which has returned approx. 1.8%, there are some significant surprises:

• Bonds: total return to date of approx. 3%, led by the Real Return Bond Index and followed by The Government Bond Index.
• the Canadian Preferred Share Index has fallen by over 3.5%
• Canadian Equities as a whole are better by a little under 2%, but the higher dividend paying index is down by 4%. REIT's which are considered equity (but are more income driven and interest rate sensitive) are up over 10%.
• US Equities as an asset class are down by approx. 1.2%, led by the S&P 500 (large cap index). Mid-cap index is flat.
• International Equities allocation is up by over 5%, led by the Emerging Markets Index which is up over 11%.!

And all of this in only the first month of the year!

From here?

Can US economic growth continue? and with all the global central bank monetary stimulus get the global economy back on the road to recovery?

Will Oil test new lows or bounce back ?

And what of deflationary pressures, will they be curtailed by global economic improvements?

Let's not leave out the geo-political situation:

Is terrorism being contained?

What of Russia and the Ukraine?

Greece?

We certainly live in interesting times. Stay tuned.

The Technical Picture

But first, from the Fed's press release:

Information received since the Federal Open Market Committee met in December suggests that economic activity has been expanding at a solid pace.  Labor market conditions have improved further, with strong job gains and a lower unemployment rate.  On balance, a range of labor market indicators suggests that underutilization of labor resources continues to diminish.  Household spending is rising moderately; recent declines in energy prices have boosted household purchasing power.  Business fixed investment is advancing, while the recovery in the housing sector remains slow.  Inflation has declined further below the Committee’s longer-run objective, largely reflecting declines in energy prices.  Market-based measures of inflation compensation have declined substantially in recent months; survey-based measures of longer-term inflation expectations have remained stable.

Based on its current assessment, the Committee judges that it can be patient in beginning to normalize the stance of monetary policy.  However, if incoming information indicates faster progress toward the Committee’s employment and inflation objectives than the Committee now expects, then increases in the target range for the federal funds rate are likely to occur sooner than currently anticipated.  Conversely, if progress proves slower than expected, then increases in the target range are likely to occur later than currently anticipated.

No surprises.

S&P 500

Near-Term

• unable to move above 2065 to test the highs at 2093 (and move to higher highs), the market is looking for direction.
• a test of near-term support at 1990 is happening now.
• Fundamentally, with PE's at 17.3, well above average, the market needs a reason to remain expensive, otherwise in the short-term, traders will look for better value at cheaper prices.

Longer-term

• If support is broken at 1990, corrective forces may bring about of a test of the longer-term trend just between 1875-1900.

As I have discussed in previous blog posts, the strength of the $US and global economic weakness are forcing global companies to re-assess their outlooks for revenue and earnings growth.

Reduced expectations may also be a catalyst to drive prices to better value.

Volatility Watch

• The measure of volatility on the S&P 500 (VIX) hit multi-year lows back in June of 2014 just above 10.
• In October 2014, at the height of the Ebola scare, it rose to above 30.
• Earlier this month, the drop in oil prices and global economic certainty pushed the vix into the low 20's.
• The ECB helped to counter this with last week's QE measures.
• US corporate earnings surprises (to the downside) are pushing it back up.

Remember my theme: Central Banks do not like volatility because it  reduces confidence:

• Yesterday the Conference Board announced that the (US) Consumer Confidence Index reached 102.9 (the highest level since 2007).
• I would suspect that with today's post FOMC meeting statement, the FED does not want to undo the current level of confidence with any significant change in policy.
• Sometimes boring is good. In fact when it comes to investing, we like boring!!
• However, volatility levels have been rising to higher levels since last June and investors must not be complacent about this trend.
• Balance and diversification are the best protection to get reasonable growth and minimize the impact of volatility.
• How is your asset allocation?

Waiting for the FED

While we (and financial markets) wait on the results of the US Federal Reserve's Open Market Committee (FOMC) meeting which begins today and will culminate in the release of a statement at 2:15 pm (EST) tomorrow...

It is important to understand the key roles that central banks have played in trying to guide monetary policy since the financial crisis began in 2008.

• The FED's key role is to safeguard the stability of the US financial system:
• This mandate includes:

1. promoting maximum employment
2. promoting stable prices
3. promoting moderate long-term interest rates

Historically, in relatively normal circumstances, monetary policy was achieved with the raising and lowering of interest rates (in the US, the FED would determine the base rate).

However the extraordinary circumstances that were created by the "Great Recession" called for extraordinary monetary measures now commonly referred to as QE (Quantitative Easing).

This is where the FED made bond purchases for it's balance sheet from the bond market and in turn added significant liquidity (cash) to the economy to maintain the stability of the system.

Critics claim that this monetary stimulus did not all make its way back into the system (some institutions were hoarding cash for safety reasons) and was not as effective as a result, however strong equity markets and improved economic growth over the last couple of years have shown that it has been effective.

Economic growth is a function of psychological confidence held by the households and businesses which participate in the economy.

When households feel confident in the future they will consume at a higher level. When businesses feel confident, they will invest in future growth.

What the FED and other central banks around the world have been trying to do is instill confidence in consumers (they will have jobs in the future) and businesses (consumers will return) in an effort to change the psychology from the lack of confidence created by the financial crisis and the ensuing recession.

Fortunately the FED was proactive and realized early on that extraordinary measures were necessary.

Other central banks have followed their example.

For those that want instant gratification, they may be disappointed. The positive results will take time to achieve. It is no simple matter to change the negative psychology that has been built up.

Patience is required.

I am a cautious optimist. I can see the benefits of the central banks' efforts and know that in time they will prevail and that their methods will prove successful. It is why we must focus on the long-term. There will be short-term difficulties, but given time, we will all be better off.