MARKET OUTLOOK FOR SIA CHARTS
Worst Opening Week in History, Volatile Year to Come Favors Risk Management;
The stock market in the New Year has been nothing to celebrate with sharp losses and increased volatility. 2016 is projected to have several volatile market sell offs and corresponding rallies due to various global headwinds.
Now for the good news! This type of market while difficult to navigate will allow for opportunity by those who patiently wait for the right time to invest in companies with strong balance sheets and those who properly follow risk management strategies.
A revision to the investor policy statement has broadened our ability to allocate funds to what we believe are better performing assets in order to act in the best interests of you, the client. This is especially important in volatile times. Mandated minimums in both asset type and geographical location can force a discretionary manager to hold poor performing assets against the client’s best interest causing undue losses. Taking out mandatory minimums eliminates this problem while still following maximum caps on asset allocation should continue to lower the overall risk.
Renewed weakness in the Chinese stock market has returned with a pair of 7%+ declines which triggered a breaker that shuttered the market before its scheduled close. When China the second largest economy falls, the rest of the world stumbles. The decrease in Chinese activity has weakened the demand side of the equation for raw materials creating a free fall in most commodities. It has been extrapolated by the market that weak demand for the building blocks of everything we consume really underpins a slowdown in the overall global picture despite some reports particularly in the US that show strength. Companies with a lot of exposure in China will be hurt the most by this slowdown.
In Canada we are feeling the effects of the commodity prices because of both the China slowdown and a prolonged global price war in energy for market share. So far the Saudis have broken past policy and are determined to produce at full capacity to keep market share regardless of cost. Other producers have shown resilience and have been keeping up if only to stay afloat, as far as we can tell. This game of economic chicken has a net positive impact on global consumers but a concentrated negative effect for Alberta and all energy investments. The downward momentum is unlikely to change for the first half of 2016 unless there is a low probability event that significantly cripples oil production in the Middle East. We will continue to evaluate opportunity in the energy market but will wait until strength appears. For now the main beneficiaries are consumer discretionary, healthcare and transportation names.
Continuing to add jitters to the market is the US feds uncertain monetary policy. Right now there is a high level of uncertainty whether the fed will do another rate hike while the rest of the globe remains in easing mode. The fed rate is a large determining factor in the US treasury rates which are used in pricing models to determine the risk free rate of return. The risk free rate of return is used in almost every model as the base to which all other assets are priced. As rates move up the price of assets and particularly bonds decrease. The amount of the decrease in bonds is determined by its characteristics and can be potentially disastrous if not managed properly. High risk junk bonds have already experienced a large correction in price. Further rate hikes could cause contagion to other risky bonds. Opportunity lies in high quality bond funds with shortened duration as investors potentially flock to safety.
Another impact is each incremental US Fed rate rise will strengthen the US dollar creating currency headwinds for companies with significant sales outside of the US. This talking point is going to be highlighted the next couple of earning seasons as the US dollar continues to rise against global currencies. Banks and insurance companies are generally the beneficiaries of rate hikes as there is more opportunity to make spreads on their loans and fixed investments. Canada in general will not be as attractive as our currency is expected to fall further against the US dollar.
Lastly, there are other significant headline risks in 2016 where there is a highly flamboyant US presidential election, ISIS is making headlines weekly, a migration crisis in Europe, several nations likely to face economic crisis due to commodity prices and North Korea elevating tensions by testing a weapon of mass destruction.
It is impossible to know the exact impact of each event and how they will mix together but as a rule of thumb fear, instability and the unknown creates a herd mentality for the market to sell first and ask questions later. This selling is further enhanced by high frequency trading algorithms that by some reports accounts for 60% of trading volume. Again the good news is that opportunity will present itself to those who patiently do their homework and invest in fundamentally strong companies at the right price.
This newsletter was prepared solely by Bruce Morrison who is a registered representative of HollisWealth™ (a division of Scotia Capital Inc., a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada). The view and opinions, including any recommendations, expressed in newsletter are those of Bruce Morrison only and not those of HollisWealth. TM Trademark of The Bank of Nova Scotia, used under license. Morrison & Partners Wealth Strategies is a personal trade name of Bruce Morrison.