Here s What We re Thinking

Transcription

1 Here s What We re Thinking August 24, 2016 // 1 Here s What We re Thinking Global Portfolio Advisory Group The Investment Committee of the Portfolio Advisory Group meets regularly to formally discuss markets, sector allocation and investment recommendations. Below is a brief synopsis of our current views. For specific investment strategy relating to your investment portfolio, please contact your Scotia Wealth Management advisor. Investment Strategy: Supportive market conditions maintain our constructive outlook. Near-term pullbacks will offer opportunities to build cyclical exposures. Strategy: We see the medium-term (6-12 month) environment remaining constructive for risk markets. These supportive conditions include global central banks stuck in easy money mode (ECB, BoJ, PBoC, BoE) and/or demonstrating patience (U.S. Federal Reserve) alongside a diminished size of the full rate hike cycle. As well, economic growth risks continue fading, the U.S. dollar s appreciation looks capped, commodities (in particular oil and gold) are stable/recovering, cyclical sector and international market exposure remains cheap and under-owned, investor cash levels remain high and Q2 earnings reports largely beat expectations. We take heart in a variety of confirming signals over the past few months including value/cyclical sector outperformance, recovering fund inflows, improving economic data, etc. Following recent strong gains over the past two months, there is ample scope for near-term profit-taking pullbacks. However, we would use any material market weakness as an opportunity to deploy large overweight cash allocations. Our strategy remains biased towards recovering segments which benefit from the abovementioned conditions including cyclical equities, credit and emerging markets. Equities: Despite setting new all-time highs repeatedly over the past several weeks, the U.S. equity market appears to be plateauing as it awaits catalysts to propel it higher. To emphasize the importance of currency fluctuations, the S&P500 has delivered a total YTD return of 8.5% in USD but only 1.3% in CAD terms. Upside catalysts include evidence of earnings growth (next earnings season is two months away) and further entrenchment of the lower for longer sentiment on interest rates that could drive already high P/E ratios even higher. Sluggish profit growth (vs. the 13% YoY consensus growth forecast for 2017) and a surprise rate hike by the Federal Reserve are the primary downside catalysts. We think the tug of war between these set of catalysts are likely to keep the U.S. equity market range bound in the near-term until one of these catalysts prevails. While the overall market may remain flat, sector rotation into cyclicals such as Financials, Industrials, Energy, and Materials could enhance investor returns. In Canada, the rally in commodities (Energy and Materials) has accounted for over 70% of the YTD 13.5% rally. With these sectors already discounting somewhat higher commodity prices than current spot prices, a substantial move higher for crude oil, gold, and base metals is required for these sectors to continue outperforming in the second half of Another attempt by OPEC and some non-opec members to freeze production levels at a September 26 meeting could be a catalyst for oil to breach the top end of its recent trading range (see below). We continue to view instances of market weakness as opportunities to deploy excess cash in portfolios. Fixed Income: The last two weeks have seen strong new issuance and risk-on trades in the Canadian corporate bond market while short Please be aware that this material is not to be distributed to residents of the European Union Registered trademark of The Bank of Nova Scotia, used under licence. Trademark of The Bank of Nova Scotia, used under licence. Scotia Wealth Management consists of a range of financial services provided by The Bank of Nova Scotia (Scotiabank ); The Bank of Nova Scotia Trust Company (Scotiatrust ); Private Investment Counsel, a service of 1832 Asset Management L.P.; 1832 Asset Management U.S. Inc.; Scotia Wealth Insurance Services Inc.; and ScotiaMcLeod, a division of Scotia Capital Inc. Wealth advisory and brokerage services are provided by ScotiaMcLeod, a division of Scotia Capital Inc. Scotia Capital Inc. is a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada.

2 Here s What We re Thinking August 24, 2016 // 2 government yields have moved higher. These moves have caused spreads on A and BBB rated short bonds to continue to tighten. Spreads have also tightened on longer dated BBB bonds as investors become more comfortable with taking on risk in the bond market. At the same time, Government of Canada yields have backed up, providing potential entry points for investors. Given our continued view of lower for longer we see interim increases in yields as opportunities to extend duration. Preferreds: After a solid start to the month, the preferred share market has shown a bit of weakness over the last week. Underlying bond yields continue to be pressured with yields remaining relatively range-bound over the past couple weeks, while credit spreads have also remained tight. Bank reporting kicked off this week, starting with BMO yesterday the remaining banks report over the rest of the week and into next week. The Big Six reporting schedule is as follows: BMO (Tues), RY (Wed), TD & CIBC (Thursday), BNS (Aug 30) and NA (Aug 31). We haven t seen a bank issue since National issued its 5.40% NVCC rate reset (4.66% reset spread) in mid-june. If we were to see an attractively priced bank issue, likely in the 4.50%-5.00% dividend rate range, we would expect this to lead to near-term downside market pressure given spreads have tightened considerably on existing preferreds as prices have moved higher. The market will remain susceptible to ongoing volatility as the market digests the potential for further new issuance. We would recommend investors that are looking to put new money to work to be patient and wait for banks to finish reporting in the event we do see new issuance. Capital Markets: Another attempt by OPEC to freeze production Crude oil prices have rebounded almost 20% after declining below US$40/barrel earlier this month. While the decline was brought on by further increases in OPEC production, a modest but steady rise in U.S. drilling activity, and lacklustre declines in U.S. inventory levels, recent gains have been driven by renewed optimism that OPEC, Russia, and Mexico may agree to a production freeze at an upcoming meeting in Algiers on Sept 26. Compared with the Doha meeting in April, where Iran s boycott dashed hopes for a deal, there are higher expectations for all members to at least attend the upcoming meeting. The primary reason for Iran s no-show in Doha was that its production hadn t rebounded to pre-sanction levels. Based on latest market data, however, Iran was producing at a rate of million barrels/day in July, a 32% YoY increase and closing the gap considerably to Iran s historical peak production of approximately 4.0 million barrels/day. We view an agreement to freeze production as a material catalyst that could allow crude oil to breach the US$50/barrel resistance level in the near-term. Ultimately, however, we think a return to supplydemand equilibrium is needed (likely in late 2017 based on current forecasts) for a sustainable oil price recovery. Economics: All eyes on the Fed s Yellen at Jackson Hole; China increasingly talks of proactive fiscal policy The near-term outlook for U.S. monetary policy has come to dominate market trends as of late and will likely continue to do so in coming weeks. The U.S. Federal Reserve s next interest-rate policy setting meeting occurs Sept leaving markets to hang on every economic data release and comment from Fed officials in the interim. The next important event to focus on is this Friday s scheduled address by Fed chair Janet Yellen to the Jackson Hole symposium. Given the topic of her speech is medium-term in nature (likely focused on how the Fed might respond to the next recession amidst historically low interest rates) and the minutes of the last FOMC meeting expressed ongoing patience, we expect her to provide only a modest mention of the current policy outlook with a balanced assessment of conditions. Our view is that the Fed remains divided about the need for a September rate hike and that a majority will vote for continued patience - making a December rate move the next likely opportunity. Recent comments suggest a pivot towards a more proactive fiscal policy in China is taking hold. In recent weeks there has been a steady stream of government officials including from the central bank, finance ministry and the national economic planning commission calling for increased fiscal spending and

3 Here s What We re Thinking August 24, 2016 // 3 reduced corporate taxes to help stimulate the economy. In part, this increasing preference for fiscal policy support is a reflection of the growing acknowledgement that monetary policy is having a diminishing impact while also contributing to Chinese currency weakness which has been a source of global market instability over the past year. A sizeable boost to fiscal stimulus by Chinese authorities (if it materializes) could provide further support to emerging markets, commodities and general global market sentiment in coming months. Geopolitical: China may broaden debt-for-equity swap to deal with elevated corporate debt levels; Deepening strains likely keep EU agreements elusive A report from the Chinese government s State Council indicates it may be considering broadening its current debt-for-equity swap program. Currently the program is limited to the state-controlled banking sector, who could convert their outstanding debts into equity of state-owned enterprises. With the expansion of the program the swaps would be available to business partners or suppliers to convert for example, accounts receivable into equity. Not only could this alleviate the current debt issue within China s state-owned sector, but could also lead to lower borrowing costs and consolidation. However, the proposal has raised concerns over how the government might regulate the broader exchange market and the risks of loose oversight. Leaders of the three largest remaining EU economies met this week in Italy to discuss the bloc s future ahead of the EU summit on September 16 th. The three were looking for common ground with economic growth, unemployment, migration and terrorism as foci for the meeting. This could prove difficult as each came with their own set of goals and hurdles. For French President Francois Hollande, the need for counterterrorism cooperation is paramount, but he is restricted by April elections and low opinion polls. Meanwhile Italian Prime Minister Matteo Renzi will be looking for authorization for tax cuts and spending increases, in order to get voters back on his side for the country s referendum ahead of the end of the year. However, German Chancellor Angela Merkel spent a lot of political capital defending tighter fiscal discipline and is not likely to reverse stance. Wrap all of this in a political climate where new member states are more willing to speak up rather than let others set the agenda. This will make for a September summit where it could be hard to find common ground.

4 Here s What We re Thinking August 24, 2016 // 4 Recommended Asset Allocation August 24, 2016 Underweight Neutral Overweight Equities Canada U.S. Fixed Income Government Provincial Corporate Preferred Rate reset Fixed perpetual Cash = Current recommendation a = Previous recommendation Source: Portfolio Advisory Group, Scotia Wealth Management

5 Here s What We re Thinking August 24, 2016 // 5 Disclaimers Important Disclosures This material does not include or constitute an investment recommendation, and is not intended to take into account the particular investment objectives, financial conditions, or needs of individual clients. Before acting on this material, you should consider whether it is suitable for your particular circumstances and talk to your investment advisor. The author(s) of the report own(s) securities of the following companies. None. The supervisors of the Portfolio Advisory Group own securities of the following companies. None Scotia Capital Inc. is what is referred to as an integrated investment firm since we provide a broad range of corporate finance, investment banking, institutional trading and retail client services and products. As a result we recognize that we there are inherent conflicts of interest in our business since we often represent both sides to a transaction, namely the buyer and the seller. While we have policies and procedures in place to manage these conflicts, we also disclose certain conflicts to you so that you are aware of them. The following list provides conflict disclosure of certain relationships that we have, or have had within a specified period of time, with the companies that are discussed in this report. Scotia Capital Inc. is a member of the Investment Industry Regulatory Organization of Canada and the Canadian Investor Protection Fund Scotia Capital Inc. nor its affiliates accepts any liability whatsoever for any direct or consequential loss arising from any use of this report or its contents. This report is provided to you for informational purposes only. This report is not intended to provide personal investment advice and it does not take into account the specific investment objectives, financial situation or particular needs of any specific person. Investors should seek advice regarding the appropriateness of investing in financial instruments and implementing investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Nothing contained in this report is or should be relied upon as a promise or representation as to the future. The pro forma and estimated financial information contained in this report, if any, is based on certain assumptions and management s analysis of information available at the time that this information was prepared, which assumptions and analysis may or may not be correct. There is no representation, warranty or other assurance that any projections contained in this report will be realized Opinions, estimates and projections contained in this report are our own as of the date hereof and are subject to change without notice. Copyright 2012 Scotia GBM Inc. All rights reserved Registered trademark of The Bank of Nova Scotia, used under license. HollisWealth is a division of Scotia Capital Inc. Scotia Capital Inc. is a member of Canadian Investor Protection Fund. General Disclosures The ScotiaMcLeod Portfolio Advisory Group prepares this report by aggregating information obtained from various sources as a resource for HollisWealth Advisors and their clients. Information may be obtained from the Equity Research and Fixed Income Research departments of the Global Banking and Markets division of Scotiabank. Information may be also obtained from the Foreign Exchange Research and Scotia Economics departments within Scotiabank. In addition to information obtained from members of the Scotiabank group, information may be obtained from the following third party sources: Standard & Poor s, Valueline, Morningstar CPMS, Bank Credit Analyst and Bloomberg. The information and opinions contained in this report have been compiled or arrived at from sources believed reliable but no representation or warranty, express or implied, is made as to their accuracy or completeness. While the information provided is believed to be accurate and reliable, neither Scotia Capital Inc., which includes the ScotiaMcLeod Portfolio Advisory Group, nor any of its affiliates makes any representations or warranties, express or implied, as to the accuracy or completeness of such information. Neither