Global Markets Commentary
“People of the world, all had it together
Had it together for the boys and the girls
And the children of the world look forward to a future
Tick tock, tick tock, tick tock people,
Time’s tickin’ away.”
Stevie Ray Vaughan, Tick Tock
Equities enjoyed large gains in the third quarter, despite a weak September that lived up to its reputation as a bad month for stocks. It interrupted the trend of rising equity markets that has been cruising along since late March. Prior to September, a big rise in large technology stocks made investors wonder if the Nasdaq Composite was a ticking time bomb. Even though top performing FAANG stocks (Facebook, Amazon, Apple, Netflix and Google) corrected more than 10% in September, overall third-quarter returns were still quite strong.
Last month, markets also grew more and more stressed about the U.S. election coming up on November 3. Concerns intensified following a news conference where President Trump would not commit to a peaceful transition of power if Democratic nominee Joe Biden wins.
The unexpected death of 87-year-old Supreme Court Justice Ruth Bader Ginsburg (aka Notorious RBG) on September 18 stoked fires of political anxiety. Republicans pushed to name a successor while Democrats demanded that her seat remain open until after President Donald Trump’s first term is up. Mr. Trump quickly nominated Amy Coney Barrett, a federal judge and staunch conservative. Her confirmation hearings and a vote will likely happen before Americans go to the polls.
The first televised presidential debate was chaotic, marred by bickering and personal attacks. Mr. Trump was responsible for the lion’s share of interruptions (128 times, according to Slate magazine) to Mr. Biden and moderator Chris Wallace. He set the aggressive tone while his opponent often took the bait. Both men talked over each other and failed to address crucial issues, providing little clarity for the undecided voter. The presidential debate commission has announced it will add “additional structure” at the two remaining face-offs to “maintain order.”
Natural disasters, including massive wildfires in California, added to pandemic worries. A fresh wave of coronavirus cases in Europe and an exponential uptick in U.S. cases threatened a second widespread lockdown that could have a devastating impact on economic recovery. One million people worldwide have now died from COVID-19.
Canada – Better late than never
Canada’s economy continued on its path to recovery. Unemployment fell to 10.2% from its May peak of 13.7%. Although the pandemic wiped out three million jobs, almost two million have returned. Statistics Canada reported that the economy grew 3.0% in July, in line with the agency’s preliminary estimate.
The Bank of Canada kept interest rates unchanged at its most recent policy meeting. Governor Tiff Macklem delivered the Economic Progress Report, which indicated that Canada’s bounce-back has been stronger than anticipated. He said that “the recession has been exceptionally severe and unusual in how unevenly it is affecting businesses and people.” Singling out inequalities in the recovery, he noted that business closures and job losses have been less severe in sectors where remote work is possible. In contrast, service industries have borne the brunt of the impact. Women and youth tend to work at these lower-pay, part-time jobs that come with fewer benefits.
The closure of schools and daycare centres particularly impacted women, highlighting how important these institutions are to the next phase of economic recovery. COVID-19 cases started to rise when schools re-opened across the country, making it more likely that a rollback or shutdown of some segments of our economy is inevitable.
Canadian stocks lagged earlier in the year but turned in a strong third quarter, rising 4.7%. Performance was tempered by a weak September that saw the S&P/TSX Composite drop 2%. Industrials was the strongest sector, driven forward by economically sensitive businesses such as transportation and construction. Weakness in energy and healthcare offset some of the gains. Declining oil prices took a toll on the energy sector.
United States – It’s about time
At the Federal Reserve’s most recent policy meeting, Chairman Jerome Powell confirmed that the Fed would continue to support the economy through lower interest rates and quantitative easing programs. He also expressed frustration with lawmakers, who have been slow to agree on the next round of economic stimulus for the U.S. economy. This impasse sent bond interest rates still lower, even though they were already near record lows. In turn, bond prices moved higher.
The stalemate over the relief bill weighed heavily on risk assets. Democrats plan to put forward a smaller package, including a second round of cheques for Americans. If that bill gains bipartisan support, it would be positive for a market that is dealing with other uncertainties.
U.S. unemployment fell to 8.4% in August from 10.2% in July, although a decline in the labour participation rate is partially responsible for improved numbers. Americans experienced a rapid recovery in net worth. House prices and equity markets helped lift the asset side of the balance sheet for U.S. households to pre-pandemic levels. Inequality continued to be an issue: lower-income households did not participate in this recovery. Spending will remain constrained among this segment of the population.
Equities reacted negatively to growing risks in three areas: a looming U.S. presidential election; an uptick in U.S. coronavirus cases; and lawmakers’ inability to agree on a relief bill. The S&P 500 fell 3.8% in September, the largest monthly decline since March’s COVID-induced sell-off. High-flyer Nasdaq dropped 5% in September, but is still up over 25% for 2020. Despite a challenging end to the quarter, the S&P 500 still managed to rise by 9% in Q3. Among developed markets, the Nasdaq Composite led returns, rising 11% in Q3.
Europe and the UK – Running out of time
Europe continued to be plagued by rising COVID-19 infections and additional restrictive measures aimed at containing virus spread. The European Services Purchasing Managers’ Index (PMI) fell to a four-month low on weakness in service sectors such as tourism, hotels and restaurants.
European stocks were some of the weakest performers in the developed world, with the Euro Stoxx 50 falling 1% in Q3. Countries where pandemic cases were substantially rising (France, Spain and Italy, for example) were anaemic performers. Germany recorded positive returns because cases appeared to be under control and a strong Chinese recovery gave the German economy a boost.
Amid a dramatic surge in coronavirus cases, Brexit negotiations continued efforts to avoid a chaotic rupture with the EU on January 1, 2021. Tensions escalated over trade with Northern Ireland. Britain’s pound continued to sink toward the low end of its five-year trading range against the euro.
China – Time to shine
While the world continues to grapple with COVID-19, China took draconian measures and successfully contained the virus. China’s equity market responded positively and advanced 9% in Q3 (measured by the Shanghai Composite). The Chinese yuan enjoyed a strong rally against the U.S. dollar thanks to optimism over China’s economic outlook and comparatively high interest rates.
Over the last few months, social distancing measures were lifted, children returned to school with few restrictions, and restaurants and bars opened at full capacity. This prompted the IMF to forecast that China would be one of the only major economies to experience positive growth this year. Chinese factories were some of the first to reopen globally, so the manufacturing sector initially powered China’s economic rebound. Previously hard-hit sectors such as services and retail are beginning to catch up.
With China’s recovery gaining steam, the country’s central bank led the globe in announcing that it would begin to tighten its monetary policy. It will increase restrictions on housing to deter real estate speculation.
On the negative side, continued recovery may face challenges, especially since Sino – U.S. geopolitical tensions have reignited. President Trump alleged that TikTok, an app wildly popular in the U.S., poses a national security threat because its parent company is Chinese. He threatened to ban U.S. downloads of the app. Currently, Oracle and Walmart are working on a solution to secure data in the U.S. and are seeking approval from both U.S. and Chinese governments.
Japan – Three times a charm
Amid an August surge in COVID-19 cases, Japanese Prime Minister Shinzo Abe announced his resignation due to poor health. Two weeks later, the Liberal Democratic Party chose Chief Cabinet Secretary Yoshihide Suga to take over from Mr. Abe.
Prime Minister Suga inherited an economy that contracted by 7.9% between April and June. This is its worst postwar contraction and represents the third straight quarter of negative growth. The nation also rolled out fiscal stimulus worth approximately 40% of GDP, even though it had a pre-pandemic debt-to-GDP ratio of 230%.
Hopes for an economic rebound are high as a second wave of infections appears to be under control. At the end of September, new cases had declined substantially since their August peak. Since most were among young people, that may prevent healthcare systems from being overwhelmed. These improved infection numbers helped boost Japanese stocks; the Nikkei gained 4.6% for Q3.
Markets have started to acknowledge the dual risks of an uncertain outcome from the U.S. election and the threat of a COVID-19 second wave. Although economic recovery has been swift over the last few months, the next stage of recovery will be more challenging. It will require a broader re-opening of the travel and leisure sectors, which are unlikely to rebound fully until a vaccine is available.
Our base case assumes that the recovery will moderate into Q4 and interest rates will stay at historically low levels. Therefore, fixed-income investors will experience minimal positive returns unless they take on some credit risk. Equities will face some short-term headwinds, but will continue to offer better relative returns over the medium term. Our current position reflects a reduction in equity risk exposure and reduced preference for U.S. equities. The outlook for Canadian equities has improved based on Canada’s strong economic recovery and a booming housing market.
Risks to our base case are centred on a potential dire outcome if U.S. election results fail to deliver a clear winner in the presidential contest. In addition, there is a risk that Mr. Trump might not leave peacefully if he loses the election.
The last word
September nerves are apparent in the fragility that we are experiencing in daily markets. Globally, the expected rise in coronavirus cases has come to pass, bringing with it a much-feared second wave. We are at a tipping point: our collective actions will determine the shape of the next curve and, in turn, the economic outlook. As Malcolm Gladwell said in his book The Tipping Point: “That is the paradox of the epidemic: that in order to create one contagious movement, you often have to create many small movements first.”
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