The market continued its recovery from the Christmas Eve lows as Jerome Powell has reinforced the fact that Federal Reserve will become more patient on raising rates. This along with the progression of US and China trade talks, the market has rallied to recoup some of the losses from the end of last year. In hindsight, that drop appears to be an emotional overreaction for issues that we’re still in the process of reaching a conclusion.
Jerome Powell while very hawkish (aggressive towards raising rates) going into the end of the year, has changed his tone and has stated multiple times that the federal reserve will continue a wait and see approach this year as the numbers come in. He appears to be very aware that his actions have a direct influence on the markets. While rates should continue to rise in a growing economy, the rate at which they were rising were very aggressive in a US economy that has grown accustomed to low rates for so long. One key area that was a growing concern was the US housing market, which saw a decline at the tail end of last year after years of strong growth. Simply put, higher rates were deterring people from buying and renovating homes, as lending rates had increased. This since has recovered a bit as there is hope the rates will remain at this level for longer. This may become even more evident as the US housing numbers come out in the early parts of this year. To compound this, the largest US company directly related to this sector, Home Depot, has been very optimistic about the upcoming year in the United States. This sector is a large part of the US consumer and their spending habits which is very important considering the US Consumer is about 70% of the US economy.
The US/China trade talks have been progressing as some of the details are being ironed out with China offering many areas of tariff relief, in addition to new purchases from US companies to try and balance out trade. There has not been much discussion around the intellectual property topic which is a major area of concern for the US and the rest of the world. China has been investing heavily in this area and has very strict rules around new intellectual property coming into its borders. One main topic highlighted have been foreign companies must share their intellectual property with Chinese companies if they would like to operate there or pay a large tariff if they do not. This along with governments ability to access Chinese company’s private customer information if they deem it fit to do so, companies have found it very difficult to expand to China. Therefore, US officials most likely will not sign a deal without some resolution here. With all this, there has been enough progression that President Trump has delayed the increase of current tariffs which is giving the market optimism that the two sides are closer to a deal. But, with all this, the President has recently walked away from signing a nuclear deal with North Korea even though both sides appeared to be “close”. Or was this another deal-making tactic to show China he is willing to back out at any time? Only time will tell.
Canada has been one of the better-performing markets this year. Now, that is something you don’t hear every day or at least in the past 5 years. This is something we indicated in our previous market reviews to watch out for as Canada is coming off a very low base after years of underperformance and being one of the worst markets over the last 5 years. But, with commodities getting stronger and new trade deals in place (US last year and a consumer goods deal in Europe in 2017) Canada may not get left behind forever. These are small changes, but Canada is doing what it can to make for better-operating environments for its businesses. Unfortunately for us, the main headline in Canada is the Justin Trudeau and SNC Lavalin debacle. You can read the articles to make your determination on where the truth lies, but from a finance perspective, headlines like this are not good for business. An ironic silver lining is that after everything that has happened in US politics, readers are getting used to this sort of thing. The Canadian housing market has been on a very slow decline over the past couple of years and appears to be holding off a crash for the time being. While in the short term these new housing rules have kept the housing market from rising to uncontrollable levels, these very same rules could actually cause the market to rally in the long term. The new rules have made it very difficult for developers to finance new constructions, this could create a very large supply and demand issue down the road causing a rapid spike in housing prices once again. As always we will continue to monitor the housing market in Canada as it is a very large part of our economy and consumer health.
In Europe, the news has been focused around BREXIT as the deadline quickly approaches. By March 29, 2019, Britain is scheduled to leave the EU and all of Britain and Europe will be watching to see what that exactly looks like. A lot can happen in a month and it’s difficult to make an educated guess what will happen at that point. The EU has stopped its bond-buying program in January and over the next few months, we will pay close attention to see how this affects their market.
We are at the tail end of the first earnings season of the New Year and while all earning seasons are important, this one has been very important to determine the true effects of the tariffs and interest rate increases. While the effects have been minimal for the majority of companies many companies have stated an increase to 25% (President Trump has since delayed this increase), as it would be dramatic and major changes would need to be made to remain profitable. These changes would most likely be directly felt by the consumers as prices would need to increase to reflect the tariffs and potentially labour forces would need to be cut to reduce costs. Also, more and more companies are predicting a slowdown in earnings for the first quarter of this year, which could be the first quarter of negative earnings for US companies in recent memory. This could be a sign of a maturing economy as earnings become more volatile quarter to quarter, which is line with our thesis for the next couple years. A maturing economy is nothing to be fearful as it does provide a much better environment for certain sectors than others.
Two areas we haven’t spoken of in a while are cryptocurrency and Marijuana. The quick answer to cryptocurrency is that we are happy we didn’t get involved in that area. This was something we were unsure of and didn’t see the value at the time. We continue to watch it as the area is very interesting as this budding industry could show value in the future. The Marijuana the sector continues to grow and show promise. This area will be going through its growing pains over the next couple of years as billions and billions have been raised to fund these companies that are now in the position to return the favour. New countries continue to come on board which increases complexity and new regulation will shape this budding industry. We urge investors to be very selective with this industry when choosing a company because with a young industry like this there will be a lot of companies that fail but some that find much success. There has been a lot of easy money poured into these companies and to grow further they will need to prove results to get additional funding.
Our current investment thesis is to have a balanced approach by investing in various asset classes to protect the portfolio from the increased market volatility that we are seeing. We preach a low volatility strategy in the public markets while remaining flexibility to take advantage of opportunities in high growth industries that are still recovering from the 4th quarter of 2018. A good balance of alternatives inside the portfolio will also help reduce market volatility and provide a steadier return on investment inside a portfolio. For more information, please do not hesitate to contact one of us.
Konrad, Justin, and Merriel
More articles and information is available at www.lkwealth.ca
Content Sources: Bloomberg, Trading Economics, Yahoo Finance, Reuters
Disclaimer: This newsletter is solely the work of Konrad Kopacz and Justin Lim for the private information of their clients. Although the author is a registered Investment Advisor with Echelon Wealth Partners Inc. (“Echelon”) this is not an official publication of Echelon, and the author is not an Echelon research analyst. The views (including any recommendations) expressed in this newsletter are those of the author alone, and they have not been approved by, and are not necessarily those of, Echelon.
Echelon Wealth Partners Inc. is a member of the Investment Industry Regulatory Organization of Canada and the Canadian Investor Protection Fund.
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