FOCUS: North American equitiesThe main theme for markets this year is how much we have been able to compress cycles through fear rhetoric and aggressive monetary tightening. Late in the second quarter, we moved cash into government bonds and tech stocks for this very reason – valuations had been compressed too far in this panic.
The extreme inflation concerns of the second quarter, which exacerbated the sell-off in fixed income and equities have given way to a view that price pressures can abate in the face of weaker economic activity. The July U.S. jobs report appears to argue with that view, but other indicators do support our call that rising rates are creating some demand destruction, especially in housing. For the latest equity rebound to continue, we need to see actual evidence of inflation pulling back, without indications of recession, which is why this week’s U.S. CPI report is so critical.
In terms of general sentiment, we are likely to see some fade as the market looks to see if technical support levels will hold. For the S&P 500, we need to see a break of 4,177, which was the high from June 2. The TSX has much more territory to cross to get to its intraday high from June 2 near 21,000. I do think that with recession talk fading, we could see a rotation from tech back into commodities. We are moving up our exposure to mining after this latest correction.
On the interest rate side, I think the real focus isn’t so much on how high the U.S. Federal Reserve and Bank of Canada push their targets, but how quickly central banks bring them back down. If we replay the 1994 experience, then the outlook for the economy and stocks is favourable. If rates stay at their peak for an extended period, then the recession odds climb in 2023.