Strong Start for Equities, but Will it Last?
Economic data continues to be strong over the last quarter, stoking some fears about inflation. There’s been enough question marks however to keep those inflation fears in check, and for markets to post one of the best first halves since 2000.
With vaccination rates climbing, economies are being allowed to reopen – some more gradually than others – which is being supported by both monetary and fiscal policy that is still widely accommodative despite central banks “talking about when they will talk about tapering.”
Cyclical stocks continue to be favoured by markets as would be expected given where we are in the economic cycle – namely at the beginning. That’s not to say that defensive names haven’t been positive – they have – it’s just that the market rotation we started to see when the vaccine announcements were made last November continues to be in full effect.
Corporate earnings, which were much stronger than expected by prognosticators, supported rising markets.
Restrictions on share buybacks and increasing dividends are being loosened, which will further benefit shareholders.
In fixed income markets, after a sharp rise in bond yields as inflation concerns were top of mind in May, yields have settled back down into the 1.5% range for 10-year bonds. Remember that bond prices react inversely to bond yields, so when yields are rising, it means bond prices are falling, leading to negative returns midway through the quarter. That turned around later in the second quarter as inflation fears waned and bonds were mostly positive contributors by the end of the quarter.
In Our Portfolios
With markets enjoying their fifth straight positive quarter, our portfolios’ performance is reflective of those returns.
We remain tilted toward equities across all of the portfolio families. Our outlook for fixed income relative to equities is low given the ultra-low interest rate environment and the future interest rate increases that may now come earlier than initially expected from central banks. Having said that, we still believe that
it is prudent for most investors to maintain fixed income allocations in their portfolios.
Within fixed income, we continue to favour alternative yielding assets such as corporate debt, high yield bonds, emerging market debt and selected currency exposures. We are underweight traditional core Canadian bonds.
In equities, we moved to an overweight position in global small cap exposures to capture the benefits of small-cap growth at the beginning of the economic cycle and that has paid off with strong performance.
Similarly, we are overweight global real estate given the expected outperformance of the real estate sector in re-opening economies.
In the Counsel Retirement Portfolios, the Defensive Global Equity strategy remains at 100% equity exposure, and the Retirement Portfolios are all invested at target allocations.
Outlook
Our economic outlook for the remainder of the year is positive, particularly as the vaccine rollouts broaden. The economic recovery will spread to additional sectors that have been hard hit – travel and tourism in particular – as more countries increase endeavours to vaccinate their populations.
A question for markets, and ultimately for central bankers, is how strong the economic growth will be in the next 6 to 12 months.
Markets have been given a fairly clear indication of how central banks will proceed towards winding down bond-buying programs and of when they will look to start raising interest rates from the current zero bound ranges. The question of how long central banks can stick to the accommodative policies if there are further upside surprises on economic growth remains.
On the surface, both the survey data and the hard data on inflation look concerning but, in most cases, still reflect re-opening pressures that should ease over time. There are reasons to be concerned about a rise in inflation over the medium-term, but the risks are spread unevenly between countries. While some of the pillars of the low inflation era of the past 25 years are weakening, many others remain. As economies re-open, we will continue to see a temporary boost in inflation, however we don’t expect to see 1970s style inflation. Nonetheless, we’ll be monitoring the implications for financial markets and our portfolios and will adjust our asset allocations accordingly.
Overall, this has been a strong start for equities in 2021 and while investors should not be surprised by a moderate pullback at some point, we believe the outlook for the economy and equity markets remains positive for the balance of the year. With that said, we do caution investors not to expect returns at the same level they have enjoyed year-to-date.
As always, we encourage you to follow a sound financial plan and to speak with your Advisor to ensure you are on track to meeting your investment objectives.
Sincerely,
Corrado Tiralongo
Chief Investment Officer
Counsel Portfolio Services | IPC Private Wealth
Counsel Portfolio Services | IPC Private Wealth
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