Canada’s main stock index rose on Wednesday after the Bank of Canada kept interest rates unchanged, while signs of cooling inflation in the U.S. boosted investor sentiment on hopes of a dovish Federal Reserve.
At 10:17 a.m. ET, the Toronto Stock Exchange’s S&P/TSX composite index was up 155.98 points, or 0.76%, at 20,577.83.
The Bank of Canada kept its key overnight interest rate on hold at 4.50% as expected and raised its growth forecast for this year to 1.4% from 1.0% in January, while dropping language that had warned of a possible recession.
“The decision itself really was no surprise,” said Douglas Porter, chief economist at BMO Capital Markets.
“The comment that recent data is reinforcing the governing council’s confidence that inflation will continue to decline in the next few months is somewhat beneficial for equities.”
Across the border, data showed that U.S. headline CPI cooled faster than expected in March, raising hopes that the Federal Reserve could hit pause on its interest rate hiking cycle soon.
Canadian government bond yields were lower across the curve, tracking the move in U.S. Treasuries. The 10-year eased to 2.892%.
Strength in crude and gold prices against the dollar lifted the energy sector and the materials sector, up 0.7% and 0.8%, respectively.
The rate-sensitive technology sector gained 1.7%, led by a 5.5% rise in shares of Shopify Inc on JMP Securities’ rating upgrade.
The financials sector, a heavyweight on the TSX, advanced 0.6%.
The TSX had gained on the previous three days as well, helped by rising crude and spot gold prices.
Among other major movers, Brookfield Infrastructure fell 2.7% after the company said it would buy intermodal container lessor Triton International Ltd for about $4.7 billion.
U.S. stock indexes were higher on Wednesday after data showed consumer prices cooled faster than expected in March, raising hopes that the Federal Reserve could hit pause on its interest rate hiking cycle soon.
The Labor Department data showed headline and core CPI in March rose 0.1% and 0.4%, respectively, on a month-on-month basis. Economists were expecting a rise of 0.2% and 0.4%, respectively.
On a year-over-year basis, the headline number rose 5% against economists’ estimates of a 5.2% rise, while the core measure, which strips out volatile food and energy prices, climbed 5.6% in-line with consensus estimates.
“Today’s CPI takes some heat off the Fed, for now. Moderating price pressures combined with signs of cooling in the labor market will offer a temporary reprieve to markets,” said Ronald Temple, chief market strategist at Lazard.
“While this is good news, it does not mean tightening is over. Core inflation remains far above the Fed’s target, and the path to 2% will be bumpy.”
Stubbornly high rents kept underlying inflation pressures simmering, likely ensuring that the U.S. central bank will raise interest rates again next month.
Traders mostly stuck to bets that the Fed will hike rates by 25 basis points next month, with Fed fund futures pricing in a 70% chance of such a move.
After the banking turmoil last month, investors were betting that the Fed will soon end its aggressive monetary tightening campaign and also start cutting rates in the back half of the year amid growing concerns of a recession.
Major technology and other growth stocks such as Microsoft Corp, Tesla Inc and Apple Inc edged higher as Treasury yields slipped.
Minutes from the U.S. central bank’s policy meeting in March will also be watched closely by investors later in the day for further clues on the trajectory of interest rates. The Fed raised rates by 25 bps last month and signaled it was on the verge of pausing further rate hikes.
Investors are also awaiting the first-quarter earnings season, which begins in earnest on Friday with results from three major banks, Citigroup Inc, JPMorgan Chase & Co and Wells Fargo & Co.
The Dow Jones Industrial Average was up 155.96 points, or 0.46%, at 33,840.75, the S&P 500 was up 13.20 points, or 0.32%, at 4,122.14, and the Nasdaq Composite was up 9.36 points, or 0.08%, at 12,041.24.
American Airlines Group Inc dropped 7.1% as it forecast a lower-than-expected profit for the first quarter as the carrier battles high fuel costs.
The wider airlines index fell nearly 4%.
U.S.-listed shares of Chinese firms Alibaba Group Holding Ltd and JD.com Inc fell almost 4% each as investors weighed rising geopolitical tensions.
Taiwan said on Wednesday it had successfully urged China to drastically narrow its plan to close air space north of the island, averting wider travel disruption in a period of high tension in the region due to China’s military exercises.
The Bank of Canada Wednesday left its key overnight interest rate on hold at 4.50% as expected and raised its growth forecast for this year, while keeping the door open to further rate hikes if the economy and inflation remain heated.
Markets took the news in stride. Canada’s 2-year bond yield, which is sensitive to changes in monetary policy, was down about 5 basis points in late morning trading. But that was mostly just following a dip in the U.S. bond yield of the same tenure, following a U.S. inflation report today that was modestly tamer than the Street consensus. The Canadian dollar saw choppy trading throughout the morning and didn’t establish any sustainable push in either direction.
Interest rate probabilities, based on trading in swaps markets, are pricing in a 25 basis point cut in the Bank of Canada’s overnight rate by December – unchanged from prior to both the Bank of Canada’s interest rate announcement this morning and the U.S. inflation report. Just a week ago, 50 basis points worth of rate cuts had been priced into markets by the end of this year.
Here’s how money markets are pricing in further moves in the Bank of Canada overnight rate for this year as of 11 am ET. While the bank moves in quarter point increments, credit market implied rates fluctuate more fluidly and are constantly changing.
MEETING DATE
IMPLIED RATE
BASIS POINTS
7-Jun-23
4.4844
-0.31
12-Jul-23
4.4745
-1.29
6-Sep-23
4.4611
-2.64
25-Oct-23
4.3535
-13.4
6-Dec-23
4.2361
-25.14
And here’s how economists and market strategists are reacting:
Avery Shenfeld, chief economist, CIBC World Markets
The Bank of Canada’s current motto is “don’t just do something, sit there,” and patience should indeed be a virtue in getting inflation down to target without inflicting more pain on the economy than necessary. By including a warning that a further hike could still be required if the economy remains too heated, they are still far from being in line with market hopes for a rate cut later this year, and consistent with our view that we’ll have to wait until 2024 to get any interest rate relief.
As widely expected, the Bank left the overnight rate at 4.5%, and if there was a theme in their statement and the Monetary Policy Report, it was to do as little tinkering as possible with the overall outlook. The inflation outlook was essentially unchanged with the CPI reaching the 2% target late next year, the neutral rate of interest remained at 2.5%, and Q1 growth was just enough to leave the output gap where it stood in Q4. …
Despite an upside surprise in Q1 growth, the Bank remains hopeful that their desired slowdown is coming, citing expectations for a cooling internationally, and the lagged impacts of higher interest rates on Canadian households and business investment. So much of the upward revision in the 2023 growth outlook, with raised the pace to 1.4% from 1.0%, came from the better start to the year. Still, what’s encouraging is that the Bank doesn’t see an outright recession as necessary to get inflation back to target, only a slowing to “weak” but still-positive growth over the balance of the year. To get to the prior forecast for the level of real GDP, the Bank has trimmed its growth pace for 2024 by a half point to 1.3%, but that would include a pick-up on Q4/Q4 basis from what they expect over the rest of this year. …
In the near term, our growth forecasts are not far off those of the Bank, and still not quite meeting the definition of a full-blown recession. The Bank’s messaging still has a hawkish tilt, despite its decision to leave interest rates on hold. The emphasis in the statement is on the cup being only half full when it comes to having the ingredients needed to meet its inflation targets. Labour markets are still too tight, wages gains are elevated, the economy is in excess demand, and while headline inflation has eased a lot, some of the underlying measures are inconsistent with a sustained 2% inflation rate. The interest rate decision notes that the committee is still judging whether policy is tight enough, not whether it is too tight. That needn’t indicate a lot of risk of an actual rate hike in June if, as we expect, the growth numbers decelerate in upcoming months. But the messaging might help the Bank by countering the recent downward drift in bond yields, which threatens to provide a premature easing in term borrowing costs across the economy.
David Rosenberg, founder of Rosenberg Research
With all the commentary and caveats, the Bank managed to leave the bond market and Canadian dollar unchanged. No reason for anyone to change their views here. Our view is that the Canadian economy, much like the U.S., is going to be cooling off very rapidly in coming quarters and that inflation will be surprising to the downside. If you ask me the most important takeaway here, it was the comment that the economy will be moving into an “excess supply” environment in the second half of the year. Even with a higher real GDP forecast for 2023 (due principally to an early-year bounce) and lower estimates for potential growth, there is no economic construct either on practical or theoretical grounds that will fail to cause inflation to decelerate — what the Bank is focused on is the speed of the deceleration, but we are convinced that the destination will come sooner, not later, and that means a bullish bent for the GoC bond market and a bearish bias for the loonie (all the more so if the IMF is prescient on its downbeat global macro call, with negative implications for commodity markets and Canada’s terms-of-trade). Demand growth of just +1.4% this year (was +1.0% prior) and +1.3% in 2024 (a big slice from +1.8% in the previous set of forecasts last January!) — no recession here but “stall speed” nonetheless — are hardly the ingredients for a cyclically-induced inflationary backdrop.
Stephen Brown, deputy chief North America economist, Capital Economics
The Bank of Canada delivered mixed messages today, noting that it is more confident that inflation will decline in the next few months but less confident that inflation will return to 2% as quickly as it previously anticipated. Nonetheless, with the Bank’s forecasts for both GDP growth and inflation still looking too high to us, we continue to expect the Bank’s next move to be an interest rate cut. …
On the face of it, the modest change to the language in the final paragraph of the statement seems somewhat hawkish, with the Bank dropping the previous reference that it expects to keep the policy rate on hold, and instead noting that it “continues to assess whether monetary policy is sufficiently restrictive to relieve price pressures and remains prepared to raise the policy rate further if needed”. This change is presumably a nod to the fact that the Bank has pushed back the timing of when it expects CPI inflation to reach 2%, to late 2025 from late 2024. We would not read too much into the change, however, as the Bank still forecasts inflation to be very close to 2% over the second half of 2024 and the rest of the policy statement was more dovish. While the Bank recognized that the Canadian and US economies both made stronger-than-expected starts to the year, it stressed that, following the issues in the banking sector, “US growth is expected to slow considerably in the coming months, with particular weakness in sectors that are important for Canadian exports”. That ultimately caused the Bank to downgrade its forecast for Canadian GDP growth in 2024 to 1.3%, from 1.8%, although it pushed up its forecast for this year to 1.4%, from 1.0%, due to the strong first quarter.
Meanwhile, the Bank trimmed its estimates for potential GDP growth in the coming years, but left its estimate of the neutral policy rate unchanged at between 2% and 3%. Despite lower potential GPD growth, the Bank still expects excess supply to open up in the second half of 2023 as GDP growth slows well below its full potential. We continue to see both GDP growth and core inflation slowing even faster than the Bank assumes, with a modest recession likely, leading us to think that the Bank will be ready to cut interest rates in October.
James Orlando, director & senior economist, TD Economics
The BoC held the line in today’s announcement. While it acknowledged that the economy is exhibiting cyclical strength as evidenced by strong employment gains and a bounce-back in consumer spending, it appears confident that growth is set to slow in the coming months. This slowdown, though delayed, has kept the faith that inflation will continue to decelerate, hitting 3% year-on-year this summer.
Over the last couple of weeks, the timing of rate cuts has been pushed out, with markets now expecting the first cut to occur in December (from September). This reflects the economy’s cyclical rebound, which will keep underlying cyclical inflationary pressures (supercore) elevated through this year. As the BoC acknowledged, this could make “getting inflation the rest of the way back to 2%” more difficult. Given this backdrop, we think the best policy for the BoC is to keep rates stable until cyclical inflation dynamics turn decisively lower.
Douglas Porter, chief economist, BMO Capital Markets
While there was little suspense surrounding today’s Statement, the Bank’s revised economic and inflation forecast had some wrinkles. Even with lighter-than-expected flat GDP growth in Q4, a solid start to 2023 has boosted this year’s growth estimate 4 ticks to 1.4% (we’re at 1.0%). The global growth backdrop is better than expected, though the Bank continues to look for a slowdown in the coming months (both globally and domestically), citing the lagged effects of rate hikes as well as the recent banking sector strains. Governor Macklem said in the press conference that the economy needs a period of cooler growth to corral inflation, although the Bank’s forecast does not include an outright recession. The BoC notes ongoing excess demand in Canada, and while Q1 GDP was above its forecast, it still expected growth to be “weak through the remainder of this year”. Earlier rate hikes are anticipated to have an increasing impact on the economy, with the MPR detailing mortgage renewal dynamics. In fact, a weaker consumer spending and export outlook has prompted a 5-tick downgrade in next year’s growth forecast to 1.3%, matching our call (but the Bank now has growth lower in 2024 than 2023). With consumption poised to cool meaningfully, this “implies the economy will move into excess supply in the second half of this year”. The latter is despite a cut to potential growth estimates, suggesting the BoC could eventually be open to easing if inflation slows below 3%
However, that’s a big “if”, and the BoC remains acutely concerned about inflation. Wages are again noted as rising faster than productivity, even as labour shortages are starting to ease. Headline inflation is still expected to fall to 3% around mid-year, and it shaved the year-end estimate by 1 tick to 2.5%, with a slow move to 2% by the end of 2024. Another mildly dovish remark: “Recent data is reinforcing Governing Council’s confidence that inflation will continue to decline in the next few months.” But that’s promptly offset by concern that getting “the rest of the way back to 2%” could be a challenge. …
On fiscal policy, the Bank estimates that overall additional fiscal spending of $25 billion per year has been added since the January MPR (i.e., during this year’s Budget season). That works out to almost 0.9% of GDP, which is even north of our estimate, and simply drives home the point that generally generous budgets this year are working at cross purposes with the Bank’s restrictive policy—at the margin, further pushing back the day when the Bank can begin cutting rates. And another item keeping inflation pressures aloft, at least in the Bank’s view is “corporate pricing behaviour”, which is at least a small nod that wider margins have been one driver of inflation in the past year. …
Bottom Line: The BoC is comfortably on hold for the time being with inflation slowing in line with its forecast. The Bank’s expectation that the economy will be in excess supply by the second half of the year opens the door a crack to potential easing later this year if inflation continues to slow, but there’s still a lot of wood to chop on that front. In fact, the Governor explicitly stated in the press conference that market pricing of rate cuts later this year isn’t the most likely scenario. We continue to expect the Bank to remain on hold until the end of 2023 before rate cuts begin in earnest in 2024.
Taylor Schleich, Warren Lovely & Jocelyn Paquet, economists with National Bank of Canada
The headline decision itself was pretty straightforward as the criteria for remaining sidelined (i.e., the economy evolving broadly as expected in January), was met. However, the key aspects of the statement are very much open to interpretation and one can spin this any number of ways. To us, the statement is dovish in the near-term (despite the pledge to raise rate further if needed) as the Bank highlights a quick and seemingly high conviction expectation that inflation will fall to the top of the control band by mid-year. They’ve also noted they expect a swing to excess supply in the second half of the year. This suggests the bar to any further hikes is quite high. At the same time, there were a number of signs that the Bank sees inflation pressures as somewhat sticky, admitting that getting price pressures all the way to 2% could prove challenging. This raises some questions as to whether the Bank, when it ultimately does lower rates, will be able to get back within their estimated 2-3% neutral range, or back to pre-COVID policy rates. This reluctance to return to pre-COVID rates of interest is reflected in our interest rate outlook which has the Bank pausing/ending its eventual rate cutting cycle at 3%. More near term, we do think that rate cuts are appropriate/likely before the year is out and don’t view the rate statement as being inconsistent with that. The catalyst for such a pivot is likely be a further deterioration in the economic and inflation outlook. Indeed, we still believe the Bank may be overestimating the path of price pressures. The same goes for the growth outlook which we see as evolving much slower than the MPR pencils in for 2023 and 2024.
Royce Mendes, managing director & head of macro strategy,Desjardins Securities
The policymakers view the evolution of the economy this year very much the same as we do. As households renew their mortgages, more income will be devoted to debt-service costs which will weigh on consumption and GDP. Also similar to our forecast, the Bank of Canada sees economic slack opening up in the second half of this year. By the end of the year, officials see inflation back down to 2.5%. Where we disagree is on the pace of adjustment. We see scope for more economic weakness and a faster return to 2% inflation than the latest projections from the central bank.
We continue to believe that the next move from the Bank of Canada will be a cut. As the lagged impacts of past monetary tightening make their way through the system, we see the economy weakening and inflation returning to the 2% target. At that point, central bankers won’t need to employ such restrictive policy. For now, though, officials will be in a holding pattern. Inflation has shown some signs of progress, but there’s still work to do and it could take the rest of the year to get it done.
Jay Zhao-Murray, FX Market Analyst, Monex Canada
The crux of the matter is that the Bank of Canada is still more concerned about upside risks to inflation, as Macklem made explicit during the presser. While the Governor discounted much of the latest evidence to maintain last quarter’s inflation projections, the reality is that price pressures and the factors which fuel them are stronger than the Bank is letting on. For now, assuming that the Bank’s view that global banking stresses are subsiding holds true, we think that the strong emphasis on “higher for longer” in the press conference should take greater precedence over the statement’s mention that rates could be raised, suggesting a continued pause for the June meeting at least. Clearly, the Bank is going to try to stick to this view until contradictory evidence is so overwhelming that it is forced to change its policy. Whether that change is a rate hike or a cut depends mostly on how the banking story develops. If it fades out, we would expect a probable resumption in the hiking cycle. But should the Bank’s downside risk of a credit tightening-driven global recession materialize, expect the mirror image of the start of the current hiking cycle: previous words will no longer matter, and a pivot to cuts could easily emerge.
Philip Petursson, chief investment strategist, IG Wealth Management
I took the BoC statement as confirmation that we have seen the end of the interest rate increases. What wasn’t as clear, which the market was hoping for, was a firmer comment on the next move being cuts. The statement was definitely not projecting cuts anytime soon by my view. The statement acknowledged some of the weakness in the US and potential weakness in Canada but the tone was still hawkish against inflation with the Bank holding an option for further rate increases.
The risk the bank is playing is holding rates high long enough to satisfy it that inflation will remain within target while hoping the economy holds up. It’s a game of chicken between the economy and inflation to see which one might back down first.
The Bank of Canada statement had a new reference on whether monetary policy was sufficiently restrictive to relieve price pressures and restore price stability which may be perceived as hawkish. Although stronger than expected economic data makes it more challenging for the Bank of Canada to remain on hold, stress in the global banking sector is leading to tighter credit conditions and may in turn help do the work of the central bank if these conditions lead to headwinds for economic growth. The bank still expects the economy to slow through the remainder of this year, despite the upside surprise in the first quarter. And, inflation, although still above the bank’s 2% target is declining quickly towards this target rate, also allowing the bank to stay on hold. If the economy shows the expected signs of slowing and inflation tracks lower over the coming months, we believe that the outlook for the Bank of Canada is to remain on hold for now.
A tax court judge’s ruling that an investor who was day trading stocks in his tax-free savings account must pay tax on the income opens the door to hefty tax bills for other frequent investors.
Justice David Spiro of the Tax Court of Canada ruled that the investor was carrying on a business inside his TFSA, which had swelled from $15,000 to more than $617,000 over a three-year period. The amount of tax owed and whether interest will be added were not disclosed. The investor is appealing the decision.
A TFSA is a registered account that allows Canadians 18 and older to currently contribute $6,500 annually and earn tax-free investment income on a wide range of qualified investments, including stocks, bonds, exchange-traded funds and mutual funds. However, a TFSA holder is required to pay tax under the Income Tax Act if the income is earned from a business or from non-qualified investments in the account.
Fareed Ahamed, a licensed investment adviser and the plaintiff in the case, argued that because the Canada Revenue Agency exempts business income from day trading when it is done in a registered retirement savings plan, it should also exempt business income accumulated inside a TFSA.
However, when Parliament included that rule in the tax act governing RRSPs, TFSAs did not exist.
“Parliament could have adopted, but chose not to adopt, the same statutory approach for TFSAs as it did for RRSPs and RRIFs,” Justice Spiro wrote in his February decision. “This further shows that Parliament did not intend to exempt business income from the disposition of qualified investments held in a TFSA.”
Tim Clarke, a Vancouver tax lawyer with QED Tax Law Corp. and counsel for Mr. Ahamed, has filed an appeal. Mr. Clarke declined to comment on the case.
Mr. Ahamed’s is a test case for frequent trading in TFSAs for the Tax Court of Canada, an independent court that handles disputes related to income tax, the Goods and Services Tax and employment insurance.
He filed the case in 2015 after the CRA began auditing a number of tax-free savings accounts. Between 2009 and 2017, the agency assessed approximately $114-million in taxes from those audits, with about 10 per cent from TFSA accounts that were seen as carrying on a business – such as day trading, which can generate hefty returns through aggressive securities trading.
Mr. Ahamed was among many do-it-yourself investors who received a notice from the CRA. He opened a personal TFSA account with Canadian Western Trust Co. in 2009 and for three years deposited the then-maximum annual contribution of $5,000. By the end of 2011, the value of his TFSA had reached $617,317.24.
All the securities he purchased and sold were qualified investments, with most being non-dividend-paying and speculative in nature, according to court documents. The majority of the investments were penny stocks listed on the TSX Venture Exchange in the junior mining sector, and the shares were owned for only short periods.
By 2012, the total value of the account had dropped to $564,482.90. Mr. Ahamed sold the securities and transferred the majority of the funds out of the TFSA. The CRA reassessed his tax owing for 2009 through 2012.
The CRA has come under fire from many in the investment community for not providing clear rules about how much money can be accrued within a TFSA. In 2018, the agency told The Globe and Mail that 1,696 TFSA account holders disputed their assessments over a two-year period ending March 31 of that year.
The CRA was not able to provide an update on the current number of TFSA audits or the number of account holders who have disputed their reassessments.
Jamie Golombek, the managing director of tax and estate planning with CIBC Private Wealth Management, says it is no longer unusual to see six-figure balances in TFSAs – and while it may be a red flag for the CRA, the average investor need not worry.
“The problem is not the balance of your account, but comes down to your activity in the account,” Mr. Golombek said in an interview. “If you have half a million dollars in your TFSA, that may be considered unusually high and may raise suspicion from the CRA on how you got there, but you have nothing to worry about unless you have been day trading.”
Currently, when determining whether a TFSA is carrying on as a business, the CRA takes eight factors into consideration, including the frequency of transactions, the period of ownership, the taxpayer’s knowledge of the securities markets and whether the taxpayer advertised that they are willing to purchase securities.
While the TFSA trust occupied Mr. Ahamed’s time, attention and labour, Mr. Clarke acknowledged, it did not meet a number of the CRA tests, he argued, and the court should have found that the TFSA did not carry on as a business.
Mr. Clarke also questioned whether the existing test should be applied in the first place. He said the investment strategy of TFSA investors differs from taxable investment strategies because the tax-free nature of the withdrawals encourages investing for sizable gains, which can include assuming more risk, trading more frequently and selling losing positions earlier.
That means the practice of applying the traditional test to TFSAs “is stacked against the taxpayer,” he argued. Mr. Clarke believes that, based on the TFSA rules, the traditional test appears to single out professional investors for adverse tax treatment.
Given the same number, frequency and riskiness of the investments, under the traditional test an experienced, professional investor could be carrying on business, whereas a less experienced investor would not. “Such a test would result in professional investors not being able to enjoy the TFSA exemption in investing after tax capital. This cannot be Parliament’s intent,” Mr. Clarke said.
He argued the court should craft a new test recognizing that TFSA investors are obliged to follow a set of restrictions that do not apply to taxable investors.
China began a second day of drills around Taiwan on Sunday as the island’s defence ministry reported multiple air force sorties and said it was monitoring the movement of China’s missile forces, as the United States said it was watching too.
While a security source told Reuters most of Saturday’s activities ended by sundown, Taiwan’s defense ministry said they had resumed on Sunday and the island’s military had spotted multiple aircraft including Su-30 and J-11 fighters, as well as ships.
“Regarding the movements of the Chinese communists’ Rocket Force, the nation’s military also has a close grasp through the joint intelligence, surveillance and reconnaissance system, and air defense forces remain on high alert,” the ministry said.
The People’s Liberation Army’s Rocket Force is in charge of China’s land-based missile system.
Last August, following a visit to Taipei by then U.S. House Speaker Nancy Pelosi, China staged war games around Taiwan including firing missiles into waters close to the island, though it has yet to announce similar drills this time.
While in Los Angeles last week, on what was officially billed a transit on her way back from Central America, Tsai met the speaker of the U.S. House of Representatives, Kevin McCarthy, despite Beijing’s warnings against it.
The de facto U.S. embassy in Taiwan said on Sunday that the United States was monitoring China’s drills around Taiwan closely and is “comfortable and confident” it has sufficient resources and capabilities regionally to ensure peace and stability.
U.S. channels of communication with China remain open and the United States had consistently urged restraint and no change to the status quo, said a spokesperson for the American Institute in Taiwan, which serves as an embassy in the absence of formal diplomatic ties.
As Warren Buffett famously said, one of the secrets to investing success is “to be fearful when others are greedy and to be greedy only when others are fearful.”
Well, judging by the recent declines in Canadian bank stocks, many investors are fearful that the turmoil affecting some U.S. and European banks will soon spill over into Canada. So, in keeping with Mr. Buffett’s philosophy, today I’m going to indulge my greedy side.
I’ve decided to increase my holdings of three of the four Canadian banks in my model Yield Hog Dividend Growth Portfolio. Specifically, I’ve added five shares of Royal Bank of Canada RY-T +0.17%increase, five shares of Toronto-Dominion Bank TD-T +0.30%increase, and 10 shares of Canadian Imperial Bank of Commerce CM-T +0.37%increase. I didn’t add to my Bank of Montreal BMO-T +0.02%increase position because it was already the highest-weighted bank in the portfolio.
These purchases were executed at Monday’s closing prices and consumed $1,645.30 of the model dividend portfolio’s “cash” balance. The model portfolio uses virtual money, but I also own all of these banks personally. (View my latest model portfolio update online at tgam.ca/dividendportfolio.)
I’m buying banks on the dip for several reasons. First, our big banks are well-capitalized and enjoy oligopoly power in Canada, with dominant positions in deposit-taking, lending, investment banking, insurance and wealth management.
Unlike in the United States, where a small number of mid-sized banks failed when customers (many with deposits in excess of insured limits) lost confidence and rushed to take their money out, in Canada the odds of a similar bank run are remote.
“While deposits were flowing out of the U.S. banking system, even prior to the run on Silicon Valley Bank (SVB), deposits in Canada have shown steady growth. Also, the dominant market position of the big banks in Canada provides each with relative deposit stability,” Paul Holden, an analyst with CIBC Capital Markets, said in a recent note.
What’s more, SVB and fellow U.S. casualty Signature Bank – which had close relationships with the tech and crypto industries, respectively – experienced tremendous deposit growth during the pandemic. That made them vulnerable to withdrawals when those industries stumbled and the U.S. Federal Reserve began to hike interest rates aggressively.
By contrast, the U.S. subsidiaries of Canadian banks “did not experience near the same level of deposit growth and therefore are not as susceptible to a withdrawal of excess saving,” Mr. Holden said.
Another reason I’m adding to my bank positions is that the stocks have attractive valuations. The sector trades at an average multiple of about nine times’ estimated fiscal 2023 earnings, which is roughly a 13-per-cent discount compared with the second quarter of 2019, Scott Chan, an analyst with Canaccord Genuity, said in a recent note to clients. As a result, the dividend yield, which moves in the opposite direction to the price, has risen to an average of about 5 per cent. And that’s before an expected round of dividend increases when the banks report second-quarter results in May.
“For Q2 … we continue to anticipate slight dividend increases across all banks (except TD) with group average growth of about 3 per cent,” Mr. Chan said. (TD typically raises its dividend once a year when it announces fourth-quarter results, whereas other banks have been hiking their dividends semi-annually.)
That’s not to say the outlook for banks is entirely rosy.
With the economy slowing, consumers grappling with inflation and higher interest rates, and sectors such as housing and commercial real estate (especially offices) feeling the pinch, there are some clouds on the horizon.
Moreover, banks are dealing with their own internal issues. For TD, in particular, turmoil in the U.S. regional banking sector and regulatory delays are creating doubts about its proposed US$13.4-billion acquisition of U.S. lender First Horizon Corp. Shares of the Memphis-based bank, which has about 400 branches in the U.S. Southeast, are trading at a 29-per-cent discount to TD’s initial offering price of US$25 a share.
First Horizon’s lagging share price indicates that investors believe TD will attempt to negotiate a lower price or walk away from the deal entirely. The silver lining is that either of these outcomes would likely give TD’s share price a boost, given that investors are nervous about TD increasing its already significant U.S. exposure at a time when some U.S. regional banks are struggling.
Despite the short-term risks, I’m confident that Canadian banks will continue to do what they do best: post billions of dollars in profits every quarter and raise their dividends steadily. That’s why I’m listening to my greedy side while bank stocks are held back by fear.
State oil giant Saudi Aramco will supply full crude contract volumes loading in May to several North Asian buyers despite its pledge to cut output by 500,000 barrels per day, several sources with knowledge of the matter said on Monday.
This comes after the Organization of the Petroleum Exporting Countries (OPEC) and allies, known as OPEC+, surprised markets last week by announcing an extra output cut of 1.16 million barrels per day (bpd) from May for the rest of the year.
Saudi Aramco’s monthly allocation was being keenly watched by investors as an indicator of whether planned output cuts could tighten supplies in Asia, the world’s biggest crude import market.
People are wondering whether the additional voluntary cut will actually affect supply, or whether it is designed just to shore up oil prices, said a source at an Asian refiner who declined to be named as he is not authorized to speak to media.
The OPEC+ announcement caused Brent and U.S. West Texas Intermediate crude futures to jump 6 per cent last week, returning to levels last seen in November.
Last week, Saudi Aramco also surprised the market by raising prices for the flagship Arab Light crude it sells to Asia for a third month in May. It also increased the prices of other oil grades to Asian clients amid expectations of tighter market supply.
Asia’s oil demand had been expected to weaken in the second quarter as several refiners in Asia, namely Sinopec , South Korea’s third largest refiner and Aramco affiliate S-Oil Corp, Japan’s Fuji Oil and Idemitsu Kosan are shutting a combined 1.15 million bpd of crude distillation capacity in May.
Still, some investors are bullish about a recovery in China’s oil demand and expect global oil markets to tighten in the second half this year and push prices towards $100 a barrel.
Meanwhile, the Abu Dhabi National Oil Company (ADNOC), a state-owned oil giant from the United Arab Emirates, has informed at least three buyers in Asia that it will supply full contractual volumes of crude in June, trade sources said.
The UAE plans to cut 144,000 bpd from May as part of the OPEC+ cuts.
The Bank of Canada is expected to hold interest rates steady on Wednesday, weighing the resilience of the Canadian economy against stress in the global banking system as it waits for inflation to recede.
The bank has been in a holding pattern since early March, when it kept its benchmark lending rate stable at 4.5 per cent after eight consecutive increases. That made it the first major central bank to halt its rate-hike campaign.
Since then, the bank has received conflicting economic signals. The Canadian economy is holding up better than expected in early 2023, recent data show, largely defying efforts by the central bank to dampen consumer spending and push up unemployment.
At the same time, banking-sector turmoil in the United States and Europe over the past month has raised concerns about financial stability and dimmed the economic-growth outlook, with nervous banks expected to pull back on lending.
Governor Tiff Macklem has said the decision to pause rate hikes is “conditional,” and that the bank may move again if it sees an “accumulation of evidence” that inflation is not subsiding. But private-sector analysts see little chance that Mr. Macklem and his team would restart monetary-policy tightening this week, and rate cuts are off the table until inflation falls further.
The annual rate of Consumer Price Index (CPI) inflation stood at 5.2 per cent in February, down from a peak of 8.1 per cent last June, but still more than twice the central bank’s 2-per-cent target.
Central-bank economists expect CPI inflation to fall to around 3 per cent by the middle of the year. The bank will publish an updated quarterly forecast for inflation and economic growth on Wednesday.
“At this point, there is simply just not enough evidence for the BoC’s communications to tilt more dovish or hawkish, especially in the context of the recent round of financial instability,” Royal Bank of Canada rate strategists Jason Daw and Simon Deeley wrote in a note to clients.
“This will leave the market dissecting any small nuances to judge where policy is headed.”
Interest-rate increases work with a lag, curbing consumer spending as homeowners renew their mortgages at higher rates and businesses cut back on hiring. The Bank of Canada is forecasting near-zero economic growth through the first half of 2023. Most Bay Street analysts expect Canada will enter a mild recession this year.
So far, however, the economy is proving remarkably robust. After stalling in the fourth quarter, real gross domestic product rose 0.5 per cent in January from the previous month, and preliminary estimates suggest it grew a further 0.3 per cent in February. Canadian employers keep hiring workers, adding another 35,000 positions in March while the unemployment rate remains near a record low.
Bank of Canada officials have argued that unemployment will need to rise to get inflation back down to 2 per cent, and they have said that wages are growing too quickly without an accompanying increase in labour productivity.
“In this topsy-turvy world, good news for the economy isn’t really what we’re looking for,” Avery Shenfeld, chief economist at Canadian Imperial Bank of Commerce, wrote in a note to clients.
“If the slowdown that central banks are aiming at fails to materialize, that could force yet more rate hikes, and risk a harder landing.”
The Bank of Canada’s quarterly business and consumer surveys, published last week, did contain some hints that the economy is approaching a turning point. Business sentiment continues to worsen and companies are expecting slower sales in the coming year. Consumers reported dialing back spending plans.
By pausing its monetary-policy tightening last month, the Bank of Canada managed to avoid some of the tough decisions that other central banks faced after the collapse of Silicon Valley Bank and two other regional banks, as well as the emergency sale of Credit Suisse to UBS Group.
The bank runs – caused in part by losses tied to rising interest rates – sparked fears of broader financial contagion. This put central banks in a delicate position: Should they keep raising rates to combat high inflation? Or should they hold off tightening to prevent further strain in the financial system?
The U.S. Federal Reserve, European Central Bank and Bank of England all pressed ahead with interest-rate increases last month, although they dialed back their inflation-fighting rhetoric.
After announcing a quarter-point increase on March 22 , Fed chair Jerome Powell suggested that U.S. interest rates may not need to go as high as previously anticipated because banking turmoil would likely lead to a contraction in lending, acting as a substitute for additional monetary-policy tightening.
Fears of a broadening financial crisis have subsided in recent weeks, but markets are still pricing in a lower peak for the Fed’s rate-hike campaign than previously expected, as well as several rate cuts before the end of the year.
Interest-rate swaps, which capture market expectations about monetary-policy decisions, are pricing in two quarter-point rate cuts by the Bank of Canada by the end of of 2023, according to Refinitiv data.
The excitement of investing in a company that can reverse its fortunes is a big draw for some speculators, so even companies that have no revenue, no profit, and a record of falling short, can manage to find investors. Sometimes these stories can cloud the minds of investors, leading them to invest with their emotions rather than on the merit of good company fundamentals. A loss-making company is yet to prove itself with profit, and eventually the inflow of external capital may dry up.
If this kind of company isn’t your style, you like companies that generate revenue, and even earn profits, then you may well be interested in Nutrien (TSE:NTR). Now this is not to say that the company presents the best investment opportunity around, but profitability is a key component to success in business.
Over the last three years, Nutrien has grown earnings per share (EPS) at as impressive rate from a relatively low point, resulting in a three year percentage growth rate that isn’t particularly indicative of expected future performance. So it would be better to isolate the growth rate over the last year for our analysis. In impressive fashion, Nutrien’s EPS grew from US$5.53 to US$15.36, over the previous 12 months. It’s a rarity to see 177% year-on-year growth like that. Shareholders will be hopeful that this is a sign of the company reaching an inflection point.
Top-line growth is a great indicator that growth is sustainable, and combined with a high earnings before interest and taxation (EBIT) margin, it’s a great way for a company to maintain a competitive advantage in the market. Nutrien shareholders can take confidence from the fact that EBIT margins are up from 18% to 27%, and revenue is growing. That’s great to see, on both counts.
The chart below shows how the company’s bottom and top lines have progressed over time. To see the actual numbers, click on the chart.
