Ignoring the Rhetoric

The Trump Administration’s heavy-handed approach to global trade spooked international markets and pro-cyclical sectors late in the second quarter.  Investors fretted over the possibility that trade tensions could slow economic growth in regions that are heavily dependent on exports (China, Germany and Canada).  We suspect that these threats are an American negotiating tactic designed to force concessions from major trading partners.  Although trade advantages will definitely favour the US in the short-term, we doubt that a full-scale trade war will ensue.

Apart from the commotion over trade, the fundamental underpinnings of the US economy continue to be impressive.  Low unemployment, strong corporate profits and a financially healthy American consumer should contribute to strong domestic GDP growth and higher stock prices. We suspect that as European and Asian trading partners concede to US pressures, relief rallies will occur in both the EAFE and Emerging Markets indices.  Moreover, the success of US fiscal policy (i.e. corporate tax cuts) may lead to similar fiscal action in Europe as the effectiveness of ECB monetary policy seems to have run its course.  Stimulative economic policy should continue to favour stocks over bonds. Consequently, US and international equities remain the asset class of choice.

Canada benefitted from higher world oil prices, which caused a sharp rally in energy stocks in the second quarter.  Unfortunately, that seems to be the extent of the good news.  A slowdown in housing, a retrenchment from the consumer and an on-going current account deficit continue to weigh on Canadian GDP growth.  The Bank of Canada is unlikely to match interest rate increases from the US Federal Reserve over the next 6-12 months.  Wider interest rate spreads may further weaken the Canadian dollar.  We continue to be underweight Canadian equities and un-hedged on most of our non-Canadian investments.

As global equity markets rally in the second half of 2018, fixed income will likely experience renewed downward pressure.  Therefore, our fixed income allocation will remain at minimum levels.  Fitting to a ‘late cycle’ strategy, we will be rebalancing our fixed income investments by upgrading credit quality and lowering duration.