Fed boosts growth outlook
Volatility returned to North American equity markets this week as traders weighed the possibility of more interest-rate increases in 2018 than the three previously forecast. That view gained credence Wednesday after the U.S. Federal Reserve released minutes from its January 30-31 meeting. The minutes show growing confidence among bank officials about the strength of the U.S. economy and that further gradual policy firming may be appropriate. The Fed next meets March 20-21 which will be the first led by its new chairman Jerome Powell. Turning to Europe, the solid economic momentum seen at the start of the year was largely maintained in February as the eurozone’s preliminary flash Purchasing Managers Index was slightly lower versus the January read but still close to the all-time record. Also in Europe, the ECB released minutes from its January meeting with bank officials showing broad agreement to maintain current levels of stimulus. In Canada, December retail sales data released Thursday showed a drop on the month after three consecutive monthly increases. Despite the decline, sales were up 5.8% on the year. Meanwhile, the U.K. released revised GDP data Thursday which showed the economy growing slower than originally thought. The Office for National Statistics said the annualized growth rate for Q4 2017 was 1.6% versus a previously estimated 2.0%. The downgrade means the U.K. was the slowest grower among the G7 which includes Canada. On the Brexit beat, the U.K. has warned the EU that it won’t settle the US$56 billion divorce bill for exiting the union unless Britain gets good trade terms. The U.K. is scheduled to leave the EU March 2019. Looking ahead, market watchers will get Q4 GDP reads from both the U.S. and Canada next week.
U.S. stocks fall
North American stock benchmarks swung between gains and losses throughout the week leaving most U.S. indexes down at the close of trade Thursday. For the four days covered in this report, the Dow fell 257 pts. to end at 24,962, the S&P 500 shed 29 pts. to finish at 2,703 and the Nasdaq gave back 29 pts. to settle at 7,210. The TSX bucked the trend ending 56 pts. higher to close at 15,508.
Cyclical investment strategy recommendation remains intact
Strategy: The spike in market volatility experienced in early February started to fade over the past couple of weeks and major stock indices have retraced 50% or more of their recent pullback. Given market volatility consistently remained at very low levels for an unusually long stretch (18 months) until late-January, we believe market positioning became unbalanced over the past year-and-a-half, leading to the sudden 10% correction a few weeks ago. However, we see this weakness as transient, set against a strong medium-term outlook for market fundamentals. In particular, economic growth momentum remains solid with economic data continuing to beat economists’ forecasts, leading to growth forecast upgrades for this year and next. This has fed into corporate earnings growth estimates running at double-digit rates for 2018, supporting equity valuations. Combined with a gradual pick-up in inflation and interest rates over the coming year, we continue to expect a cyclically-biased investment strategy (equity over bonds; industrials, financials, resources over utilities, real estate, consumer staples; corporate bonds over government bonds) to outperform at this stage of the business cycle. With valuations having returned to more attractive levels, we see the recent pullback in equity markets as an attractive opportunity to put large cash allocations to work.
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