Market View

Quarter 2, 2022

2022 Second Quarter Market Summary:

The first quarter’s positive return faded fast in the second quarter.  There was a significant negative change in the outlook for global economies in the second quarter that caused a decline in most developed global stock markets.  Important for Canada though, energy stocks were, once again, up strongly.  Unfortunately, that one positive sector could not offset the other 9 sector returns that were negative and the TSX ended the second quarter down 14%.  It is down 11% since the start of the year. Fortunately, our portfolios were positioned well to outperform the market in this uncertain environment due to our selection of defensive stocks and our asset mix. 

Inflation:

Inflation was a key contributor to global economic concerns.  (See page 2 for a quick lesson on the effects of inflation).  Inflation was caused primarily by two factors: 1) a demand supply imbalance from Covid; and 2) a significant increase in energy costs connected to the Russian incursion into the Ukraine. 

Rising interest rates meant lower stock markets:

Central banks around the globe felt it prudent to increase interest rates to prevent a 1980’s style inflationary cycle.   While a general economic slowdown hurts corporate earnings, higher interest rates and a possible recession hurt both earnings and valuations.   Higher interest rates reduced the price that investors were willing to pay for stocks and this led to significant declines in stock markets around the world, and especially for those without large energy sectors.  

Recession?

It is looking increasingly likely that a recession is looming as rapid interest rate increases, while designed to lower inflation, rarely allow for an economic soft landing.   The severe stock market downturns of 20% and more that have occurred in various parts of the developed world have already captured much of this uncertainty.   However, the way in which companies have adjusted to these inflationary forces is still unclear.  

PMC outlook:

Our dividend stock positions continue to pay out regular and special dividends in our portfolios.  We feel it best to keep our cash positions until companies release further earnings reports as it is expected that companies will lower their earnings forecasts which could result in a further downward adjustment to stock prices.  We are waiting to see if this second shoe drops.

At PMC we take the Long-Term View* in our investment strategy.  We search the globe for undervalued securities for our client’s needs.  Our mission is to provide quality returns over the long run.

The *Long-Term View:   In the long term, securities outperform holding cash because cash is eroded by inflation.

Canadian stocks (S&P/TSX) rose 164% between 2002-2022.   $1,000 invested in 2002 is worth $2,640 in 2022.

Inflation (CPI) 2002-2022 rose 47%.  The basket of goods that cost $1,000 in 2002, costs $1,470 in 2022.

Let’s Look at Inflation                                                                           

What causes inflation?  Prices rise due to increases in production costs, such as raw materials and wages.  A surge in demand for products and services can cause inflation as consumers are willing to pay more for the product.  The CPI or Consumer Price Index is the measure of the average price the consumer pays for a basket of household goods.

The Bank of Canada’s and the US Federal Reserve Board’s inflation goal is 2 percent per year.  CPI in the United States was 8.6% in May. Canada’s annual inflation rate in May was 7.7%. What does this mean for you?

If the prices of basic needs such as food, vehicles, and housing go up – but your income is fixed – your purchasing power goes down.  It will cost more to buy the basics which leaves less money for “extras” that were affordable five years ago.  Let’s look at the numbers:

SampleCost 2017Cost 2022
Loaf of bread$2.79$3.79
Sirloin steak$22.60/kg$28.70/kg
Honda CRV$31,995$40,270
Gas115.9 cents/litre195.4 cents/litre
Condo in Toronto – 600 Sq Ft$527,914$739,683

Will the manufacturers pass rising costs onto consumers?  Companies are dealing with supply chain shortages, rising labor costs and the rising cost of oil.  All of these contribute to increases in production costs. Some prices are rising.

Increased demand pushing prices.  On the other side, one of the effects of COVID is that cash has built up over the past two years while people have stayed at home. This has increased demand for homes, cars and other goods. 

How can the Central Banks lower inflation?  The Bank of Canada and the US Federal Reserve Board hope to “take the air” out of this demand by making the cost of borrowing more expensive (higher interest rates), which should lower demand. The Bank of Canada also dampens demand by not buying Government of Canada bonds in the fixed income markets which reduces liquidity.

What does this mean for financial markets?  The consensus gives the Federal Reserve Board a 50% chance of having a “soft landing” where prices will come down and employment will stay high. 

Our view:  We will continue to watch the world markets carefully.  Although some market watchers are expecting an economic downturn (and lower returns) to start in 2023, we are staying the course but will make changes as necessary.  We have cash positions which will provide downside support and the option to invest when the opportunities arise.  The long-term view holds!

PMC in the News

  1. Interview in the Globe and Mail: “This money manager is ready for a recession - Anish Chopra suggests putting a focus on saving, diversifying and asset allocating”. The online version can be found: https://tgam.ca/3xHvwub
  2. “S&P/TSX composite falls on fears that rising rates will reduce demand for oil” – interview by the Canadian Press: https://yhoo.it/3OASqsD
  3. “How Falling Birth Rates Can Lead to a Chain of Economic Events” via BNNBloomberg: https://www.bnnbloomberg.ca/video/falling-birth-rates-lead-to-a-chain-of-economic-events-managing-director~2463200

Market Statistics:

Equity Markets

Indices06-30-2203-31-22% change/QIndex 6-30-02
S&P/TSX COMPOSITE18,861.3621,890.16-13.8%7145.6
S&P 5003,785.384,530.31-16.4%989.8
MSCI EAFE1,846.282,181.63-11.5%1,237.42 (12-31-08)

Fixed Income Markets

TYPEYield 06-30-22Yield 3-31-22% change/QYield 6-30-02
CAD 91 day T-bills1.96% 0.80%+145.0%2.70%
CAD 10 year Bond3.26% 2.10%+55.2%5.16%

Commodities (in $USD)

TYPEPrice 06-30-22Price 03-31-22% change/QPrice 6-30-02
OIL (WTI crude/barrel)USD$105.76USD$107.12-1.3%USD$22.59
GOLD (oz)USD$1,817.75USD$1,942.15-6.6%USD$322.10

Currency

$CAD per 1 USD or EURFX 06-30-22FX 03-31-22% change/QFX 6-30-02
CAD/USD0.780.80-2.5%0.74
CAD/EUR0.740.72+2.8%0.66