Markets and nerves steadied this week thanks to reassuring words from central bankers in Europe and the US which overshadowed the still-falling price of oil. After halting its slide mid-week, crude resumed its downward trend Thursday with WTI dipping below US$60 a barrel and Brent hovering just above that level. Oversupply remains the immediate concern but fears about flagging demand have crept into the narrative as growth slows in Europe and China. Some of the concern surrounding euro zone growth was lifted after an ECB executive board member said there was broad consensus among his colleagues to embark on large-scale asset purchases of government bonds early next year. Sentiment also got a boost from Fed Chairwoman Yellen who promised to be patient when it came to the pace and mechanics of an interest rate hike. Yellen also said the pace of the retreat from easy money has not been accelerated by the drop in the price of oil or stronger economic growth at home. Another positive signal for continued low rates south of the border came from the consumer price index which showed prices fell 0.3% in November from October. That’s the biggest drop since December 2008 which puts another support in place for longer, lower rates. Finally, we should mention last Sunday’s decisive win for Japanese PM Shinzo Abe. The election – called by Abe just over a month ago – was a referendum on his aggressive ‘Abenomics’ policies of fiscal stimulus, monetary easing and structural overhauls – including his decision to delay a sales-tax increase scheduled for October 2015.
Stocks bounce back
Stocks stormed back through Thursday and are on pace for strong weekly gains as it appears the worst may be over for falling oil prices. For the four-day period covered in this report, the Dow was up 498 pts. to close at 17,778, the S&P 500 moved ahead 59 pts. to finish at 2,061and the Nasdaq ended the period up 95 pts. to 4,748. The TSX added 385 pts. to end Thursday at 14,346.
Although we are not prepared to call a bottom yet, we think the worst of the oil implosion has passed
Fixed Income: Andrew Mystic, Director, Portfolio Advisory Group wrote: “We remain relatively constructive on rates as we approach year end. The impact of global macro risks in Europe and Asia continues to hold the long end of both Canadian and US yield curves steady. Although the December FOMC meeting could stir some rate volatility in the near-term, we think mid-dated and longer-term yields should continue to hold in through Q1/15. The front end of the US yield curve could remain more vulnerable as the Fed approaches short-term rate lift off, but weaker oil and a softer outlook for Canadian banks should keep the front end of the Canadian yield curve relatively well bid. As we enter the later stages of the credit cycle, we think equity friendly initiatives and M&A activity could lead to some credit spread volatility – although we continue to favor the risk/reward proposition of short term credit over pure rate exposures. We believe high yield has the propensity to remain under pressure in the near-term as oil and gas gropes its way to stability. The XHY is down about 5.8% off of its 2014 peak – after bounding up about 3.7% off the recent lows. With oil not having fully stabilized, we advise investors remain cautious on high yield, particularly the energy segment. Within both Canada and the US the five to seven year area of the yield curve likely provides the best risk/reward proposition – although risk seeking investors could benefit from tactical extension trades. Defensively minded rate investors should continue to benefit most from GIC exposures of one to five years.”
The dramatic decline in global oil prices caught most by surprise. While we expect oil prices to remain volatile in the near-term, we do expect a recovery beginning in mid-2015
Rather than selling now, we think investors should maintain energy exposure as most of the damage has already been discounted into current stock prices.
We thing the time to become constructive on the energy sector may be just around the corner.
The Investment Committee of the Portfolio Advisory Group meets regularly to formally discuss markets, sector allocation and investment recommendations. Attached is a brief synopsis of our current views. For specific investment strategy as it pertains to your investment portfolio, please contact us.
The anticipated news of the week turned into a non-starter after the European Central Bank opted to sit tight regarding further stimulus measures. The steady-as-she-goes announcement was made by ECB President Mario Draghi Wednesday amid heightened expectations for quantitative easing to battle persistently low inflation in the euro zone and boost its flagging recovery. Policy makers in China and Japan recently announced further stimulus efforts and traders were hopeful for similar action on the continent. Instead, Draghi pledged to potentially act early in the new year by printing money to buy state assets such as bonds. Importantly, Draghi said Germany would not stand in his way even though the country has misgivings about bond-buying strategies from legal, financial and moral-hazard perspectives. Closer to home, US economic news was constructive over the four-day period covered in this report as an ISM non-manufacturing gauge rose in October from September indicating expansion while jobless claims were lower than anticipated. Market Watchers will get a better look at the US employment situation when government data is released this morning (Dec. 5). Meantime, the Bank of Canada kept its benchmark overnight rate at 1% in its final rate decision of the year Wednesday. And finally, it appears US Republican law makers will be able to pass a measure within their own party to avoid a government shut down next week with few delays.
Stocks end mixed
North American stock market benchmarks delivered mixed performances through Thursday with the TSX giving up the most ground as it continued to feel the impact of lower oil prices and the re-pricing of many energy constituents. For the period, the TSX fell 284 pts. to close at 14,469, the Dow added 73 pts. to finish at 17,900, the S&P 500 added 6 pts. to end at 2,071 and the Nasdaq shed 8 pts. to close at 4,769.
Now that OPEC is behind us…
Equities: Himalaya Jain, Director, Portfolio Advisory Group wrote: “With the OPEC decision now behind us (and in line with our assessment of probabilities), crude oil prices will likely remain volatile as strategists, investors, producers all recalibrate expectations looking ahead. We think the “US$40/bbl” scenario being thrown around in the media is unlikely as it would require a steep decline in the global economy similar to the global recession of 2008/2009. All-else held equal, we think that lower oil prices could actually boost global economic growth, eventually leading to greater demand for oil in the future. From a supply perspective, we don’t expect an immediate reduction in supply because much of the near-term capital has already been committed. In North America, it may take until mid-2015 for production trends to turn negative. OPEC and other global producers like Russia are also not likely to revisit their production targets in the near-term. We expect the Street will now start cutting oil price assumptions, leading to cuts in cash flow estimates, target prices, and possibly ratings. While we intend to remain in the defensive end of the energy sector (which has fared relatively better in recent weeks), we expect to begin looking for opportunities to add exposure once we are satisfied that global oil prices have stabilized.”