Saturday, August 2nd20.4°C
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David Allard

Geopolitical tensions rattle markets

The Big Picture

Geopolitical tensions rattle markets

The spectre of rising geopolitical tensions in Ukraine and Gaza cast a shadow over an otherwise positive week in the markets. News that a passenger jet was tragically shot down in Eastern Ukraine Thursday may prove to be a turning point in the conflict that’s already ensnared Russia, Ukraine, the US and its allies. Equally concerning is the ground offensive Israel launched into Gaza on the same day to neutralize Hamas militants after ten days of bombardment. In both instances, the fear lies in an escalation of the conflicts and the prospect of them broadening beyond the region. Until Thursday, the markets had put in a good showing thanks to encouraging US corporate earnings, good news from China and supportive words from the Fed. In her semi-annual report to Congress, Fed chief Janet Yellen reiterated her belief that “a high degree of monetary policy accommodation remains appropriate”. Turning to US corporate earnings, more than 50 companies in the S&P 500 reported through Thursday with many surpassing the expected 4.8% rise in profits. Solid earnings helped divert attention from disappointing US retail sales and an underwhelming housing report which showed new home construction falling well short of expectations. In Canada, the BoC released its regularly scheduled interest rate policy statement and there was, as expected, no change in interest rates – still 1% since 2010. But there was a change in outlook with growth expectations reduced for this year and next. Farther afield there was good news out of China which reported a slight acceleration in Q2 growth as GDP grew to 7.5% compared to 7.4% in Q1. The increase is credited to recent stimulus efforts and points to a potential bottoming in Chinese growth. Finally, the BRICS nations – Brazil, Russia, India, China and South Africa – announced the creation of a development bank to assist in infrastructure work and emergency financing similar to the IMF.

 

Markets

Stocks lose momentum

Stocks lost momentum over the four-day period and ended mixed. The Dow rose 33 pts. to finish at 16,976, the S&P 500 fell 9 pts. to close at 1,958 and the Nasdaq shed 52 pts. to settle at 4,363. The TSX gained 79 pts. to end at 15,204.

 

Our Recommendations

Banks and lifecos most hospitable space within traditional yield sectors, bonds have an eventful week

Equities

Himalaya Jain, Director, Portfolio Advisory Group wrote “As Canadian bank stock hit new highs, we are being asked more frequently whether they are overvalued. While valuation multiples have increased, we don’t consider forward P/E multiples to be excessive at this point. Sentiment on the bank sector has improved to reflect expectations of a soft landing in the Canadian housing market and consistent earnings growth. Funds flow from other traditional dividend-growth sectors may also be fueling the rise in the banks. Street sentiment on the telco sector has been souring due to fear of increased competition, pipeline/utilities trade at valuations well above historical averages, and the REIT sector remains vulnerable to higher interest rates. This leaves the banks and lifecos as the most hospitable space within the traditional yield sectors. While banks may yet have further upside, lifecos look relatively more attractive based on valuation. In addition to higher bond yields, another potential catalyst over the next 12 months for the lifecos is a resumption of dividend growth.”

Fixed Income

Andy Mystic, Director, Portfolio Advisory Group wrote “Despite being relatively lackluster early on, it did prove to be an event filled week with comments from Fed Chair Yellen, the Bank of Canada rate decision and a heightening of geo-political risks to close out the week. During her semi-annual testimony to Congress Fed Chair Yellen continued to signal an expectation for low interest rates, noting that the US economic recovery is not yet complete with still too many Americans unemployed. Sticking to her recent tone she further noted that “a high degree of monetary policy accommodation remains appropriate.” The Bank of Canada this week pushed out its economic capacity expectations suggesting that the Canadian economy would not reach fully capacity until the mid-part of 2016 - three months later than previously forecast. The Bank retained a neutral interest rate bias but with Canadian CPI having printed Friday at 2.4% y/y (vs. exp. 2.3% y/y) – inflationary concerns will likely be coming increasingly into focus. Although we traded in relatively subdued fashion through most of the week, the shooting down of a Malaysian Airlines Boeing 777 over eastern Ukraine saw bonds rally firmly Thursday – with the event seemingly signaling a further deterioration in Western-Russian relations. . Despite the geo-political risks, our broader views on the US and Canadian economies remain largely intact. Despite the rally seen in bonds, investors still aren’t being sufficiently compensated for extending term, in our view. With inflation and most US data gathering momentum, we continue to highlight the risks of a Fed that that could turn hawkish, supporting the need to remain defensive. In the short term though, geo-political risks could hold rates in at lower than expected levels.”

 

All performance data represents past performance and is not indicative of future performance. This publication is intended only to convey information. It is not to be construed as an investment guide or as an offer or solicitation of an offer to buy or sell any of the securities mentioned in it. The author is an employee of ScotiaMcLeod, a division of Scotia Capital Inc. (“SCI”), but the data selection, analysis and views expressed herein are solely those of the author and not those of SCI. The author has taken all usual and reasonable precautions to determine that the information contained in this publication has been obtained from sources believed to be reliable and that the procedures used to summarize and analyze such information are based on approved practices and principles in the investment industry. However, the market forces underlying investment value are subject to sudden and dramatic changes and data availability varies from one moment to the next. Consequently, neither the author nor SCI can make any warranty as to the accuracy or completeness of information, analysis or views contained in this publication or their usefulness or suitability in any particular circumstance. You should not undertake any investment or portfolio assessment or other transaction on the basis of this publication, but should first consult your investment advisor, who can assess all relevant particulars of any proposed investment or transaction. SCI and the author accept no liability of whatsoever kind for any damages or losses incurred by you as a result of reliance upon or use of this publication in contravention of this notice. ® Registered trademark of The Bank of Nova Scotia, used by ScotiaMcLeod. ScotiaMcLeod is a division of Scotia Capital Inc. ("SCI"). SCI is a member of the Investment Industry Regulatory Organization of Canada and the Canadian Investor Protection Fund.



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Euro debt woes re-emerge

Big Picture

Euro debt woes re-emerge

Europe’s debt woes jumped back into the headlines this week trumping other economic, geopolitical and corporate developments. Word that one of Portugal’s biggest-listed banks had delayed coupon payments on some short-term debt securities spooked global financial markets Thursday. The fall-out was most pronounced across the euro-zone – particularly the banking sector – but ripples travelled as far as North America where fidgety traders hit the sell button. That was in stark contrast to the previous day when sentiment was running high after the US Federal Reserve released minutes from its latest policy meeting. The minutes confirmed the bank’s accommodative stance as there was no mention of an interest rate rise which emboldened traders. What was in the minutes was agreement among officials to end the central bank’s bond buying in October – something that had already been expected and largely factored into the markets. The Q2 US earnings season – not Portuguese bank debt – was expected to dominate the narrative at the start of the week with expectations for a 4.8% rise in corporate profits versus a 2.1% climb in Q1. Finally, a range of geopolitical tensions continue to percolate in the background. In the Mid-East, Israel and Palestinians in Gaza are exchanging missile fire while the Iraq situation remains fluid and unpredictable. Meantime, the Ukraine government remains engaged in a day-to-day conflict to oust pro-Russian separatists from its soil.

 

Markets

Stocks fall from peaks

North American benchmarks came off their record highs with the Dow shedding 153 pts. over the four-day period to end Thursday at 16,915, the S&P 500 slipped 21pts. to end at 1,964 and the Nasdaq gave back 89 pts. to close at 4,396. The TSX dropped 100 pts. to settle at 15,114.

 

Our Recommendations

Preferreds trending higher as expected, rising risks to long-term bonds

Preferreds - Tara Quinn, Director, Portfolio Advisory Group wrote “The preferred share market continues to trend higher as the supply vs. demand theme we expected at the beginning of the year continues to affect preferred share performance. The recent reset redemptions have helped the performance of existing resets as money is being reinvested into good quality securities. As this time we still view rate reset preferred shares as offering an attractive yield versus corporate bonds. Bank perpetuals are trading with a negative yield to call and should be avoided at this time. We would also encourage investors to consider reducing exposure to non-bank perpetuals as there are risks that 30-year bond yields could drift higher from current levels causing prices to fall.”

Fixed Income - Andy Mystic, Director, Portfolio Advisory Group wrote “With inflation beginning to rise, the US economy continuing to gain traction, and markets seemingly becoming complacent (volatility currently at pre-crisis lows) we see some rising risks to bonds. That being said, the technical buying that would likely materialize with a US 10-year Treasury yield in the 3.0-3.25% range, make it difficult to envision US rates moving materially above that level with any great authority in the near-term. With risks beginning to become more pronounced, but rate and spread levels still relatively low, there remains very little incentive to assume risk. As a result, we continue to believe that investors should remain short duration (i.e. durations typically of three to four years or lower). With credit spreads continuing to approach historical tightness (IG five year currently at 55.2bps vs. low of 29.7bps) security selection will become increasingly important. At the front end, GICs still provide the best relative value (one to five years). Within the investment grade space defensive investors should migrate towards better rated credit (e.g. BBB to A). We would suggest that investors limit or reduce exposure to high yield (HY) product which continues to grind up to historical highs. In addition to the diminishing risk/reward proposition of HY, investors remain vulnerable to extension risk as a sufficient sell off in HY could drive duration term extension. Although the HY carry trade could potentially continue for some time yet, the relative attractiveness of the HY space is clearly diminishing – particularly as markets seemingly become complacent and volatility remains subdued. Investors are simply no longer being paid sufficiently for HY risk, in our view.”

 

All performance data represents past performance and is not indicative of future performance. This publication is intended only to convey information. It is not to be construed as an investment guide or as an offer or solicitation of an offer to buy or sell any of the securities mentioned in it. The author is an employee of ScotiaMcLeod, a division of Scotia Capital Inc. (“SCI”), but the data selection, analysis and views expressed herein are solely those of the author and not those of SCI. The author has taken all usual and reasonable precautions to determine that the information contained in this publication has been obtained from sources believed to be reliable and that the procedures used to summarize and analyze such information are based on approved practices and principles in the investment industry. However, the market forces underlying investment value are subject to sudden and dramatic changes and data availability varies from one moment to the next. Consequently, neither the author nor SCI can make any warranty as to the accuracy or completeness of information, analysis or views contained in this publication or their usefulness or suitability in any particular circumstance. You should not undertake any investment or portfolio assessment or other transaction on the basis of this publication, but should first consult your investment advisor, who can assess all relevant particulars of any proposed investment or transaction. SCI and the author accept no liability of whatsoever kind for any damages or losses incurred by you as a result of reliance upon or use of this publication in contravention of this notice. ® Registered trademark of The Bank of Nova Scotia, used by ScotiaMcLeod. ScotiaMcLeod is a division of Scotia Capital Inc. ("SCI"). SCI is a member of the Investment Industry Regulatory Organization of Canada and the Canadian Investor Protection Fund.



Why buy money market funds?

Money-market mutual funds have an important role in many investors' portfolios. Money-market funds benefit investors most during inflationary times. They were created in the U.S. in the mid-1970s when oil prices, inflation and interest rates were soaring. Before they became available, institutional investors and wealthy individuals could ride rising interest rates by buying CDs, which were then offered only in large denominations, while the average investor was limited to the far lower rates paid on savings accounts. Money-market funds were a true innovation that enabled almost anyone to earn short-term rates close to what large investors were getting.

Many people began using money-market funds as savings accounts. And as long as interest rates were rising, this was a sensible approach because the securities in money-market funds were steadily rolled over into new securities paying higher rates.

But during a period of falling rates, money-market funds work the opposite way. They follow the downward trend of rates closely, yielding investors less and less each month. For this reason, it no longer makes sense to keep large amounts of cash in money-market funds. It can be particularly unwise to invest your RSP funds in a money-market fund. There are many higher-yielding instruments (including corporate and government bond funds, and income-oriented equity mutual funds) that are often better vehicles for long-term plans like RSPs.

Money-market funds are best served for two purposes: as a "safe harbour" for your liquid cash reserve for emergencies, and as a "parking place" where you keep the proceeds of securities sales while you investigate new investment opportunities. Most Canadian money-market funds invest in a blend of federal and provincial government Treasury Bills, high quality commercial paper, bank certificates of deposit and bankers' acceptances and are therefore considered to be relatively low-risk in nature. Because the funds have large, constantly changing portfolios of these issues, they are able to offer wholesale T-Bill rates to investors who only have small amounts to invest or don't want to lock in their cash for a specified period.

Some funds restrict their investments to government or government-guaranteed instruments while others include a large variety of instruments; one fund even includes mortgages. Most money-market funds available in Canada invest only in Canadian instruments but there are some available which invest in the U.S. or in other countries around the world. The terms included range from less than one year to less than five years.

In most cases, you can redeem all or part of your units within 24 hours, making these funds a highly liquid investment.

 

This publication has been prepared by ScotiaMcLeod, a division of Scotia Capital Inc.(SCI), a member of CIPF. This publication is intended as a general source of information and should not be considered as personal investment, tax or pension advice. We are not tax advisors and we recommend that individuals consult with their professional tax advisor before taking any action based upon the information found in this publication. This publication and all the information, opinions and conclusions contained in it are protected by copyright. This report may not be reproduced in whole or in part, or referred to in any manner whatsoever, nor may the information, opinions, and conclusions contained in it be referred to without in each case the prior express consent of SCI. Scotiabank Group refers to The Bank of Nova Scotia and its domestic subsidiaries. ™ Trademarks of The Bank of Nova Scotia. 



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Are we there yet?

Deciding to manage your own investments can seem like a wise financial decision when your returns have been low, your fees constant and your financial advisor has had nothing new to say for the past six months. At first blush, the process doesn’t even seem that complicated: pick some good investments, spread it around a bit and let time do its thing, right? Maybe not.

First you’ll to decide if you want to buy individual securities or managed investments (mutual funds, ETFs). From there you decide on an asset allocation that works for your risk tolerances; most people would fall into the balanced category but if you're younger and more aggressive you might decide on an all growth portfolio; if you're completely risk averse you would lean to the other extreme. Think of it like buckets.

Now that you’ve decided who’s going to manage your money (you or them), and how much you should put into each of the asset class buckets, it’s now time to think about where you put the money from each bucket. You’ve read that the best way to protect your investments is to diversify them; so you start there.

With bonds, you will need to decide on credit quality (investment grade versus junk debt), terms to maturity (1 year to infinity), geographic location (Canadian bonds, US fixed income securities, global or emerging markets), and lastly do you want to pick the bonds yourself, hire a mutual fund manager to make the decisions for you, or simply buy an index ETF and let time work for you?

Stocks require similar questions to be answered: dividend or growth; large cap or small; Canadian and/or US? If you want exposure to foreign markets (other than the US) do you use mutual funds, ETFs or will you venture into direct ownership using ADRs (American deposit receipts)? Also to be considered with each position is the sector weighting: how much energy; do you want exposure to mining; a big tech weighting given its importance; what about biotech and pharmaceuticals? This is easier to manage with individual securities as you generally know what they do, inside of funds or ETFs it takes a little more digging to understand their sector weightings. If you elect to use funds, how do you know which ones are the best: do you use their 1 year performance numbers, three years or five years? Is the annualized rate of return more important than the calendar returns? What are the MERs on these funds; are the performance numbers net or gross of fees; are the fees deductible?

Finally, we’re at cash, this should be the easy part you think: money market funds, premium savings accounts or short maturity term deposits? How much liquidity do you need; cash at the ready or do you have other sources if you need to dip? Do they charge management fees on money market funds, are there transaction costs? What is the settlement: same day, one day or three days? If it’s a term deposit can you get your money when you want? If so, is there a penalty for taking it out early, can you take just a little or do you need to sell the whole position? What about treasury bills or commercial paper, do they pay more than the other cash equivalents?  So much for easy.

This is all before you’ve actually bought the investments. Then you need to think about fees: whether you buy or sell, it will cost you money: if not directly in the form of commission are there imbedded fees, is there a spread? What about annual account fees: RRSPs, RRIFs, TFSAs and RESPs, will you be charged each year or will they wave it based on a minimum balance? If you’re buying individual securities, do you feel confident putting in market orders or should you be concerned about liquidity and trading volume? Do you do a day order, a limit order, all-or-none or a fill-or-kill? What do you do with partial fills if you’re putting in limit orders? Buy the balance tomorrow and pay another commission or do you raise your price so you get filled today? So let’s say we get through all those decisions; what now, can we relax and let the magic of buy-and-hold take over?

Or do you need to watch them? Should you use stop losses to protect your downside? Sell it all when it hits the target price (you used research, right?), or do you take profits and move back to your original weighting? What about the tax consequences of the trades? Do you have losses you can carry forward or is there some positions that would best be forgotten and you can sell those for their losses?

These are the questions you need to be able to answer if you are going to manage your own money properly. Sure, you can ignore most of it and hope for the best - sometimes that works, at least for a while. In the end, managing your money is like any other endeavour: there is right way and a wrong way. Problem is, if the DIY shed from Home Depot that you built in the back yard falls apart, life goes on; if you mismanage your financial future, the long term ramifications are considerably worse.

So, my advice? If you’re going to do it yourself make sure you cover all your bases, do your homework and have a discipline; otherwise, leave the driving to some who will.



Read more Navigating Your Wealth articles

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About the Author

Jeff Stathopulos, CIM, CFP, Portfolio Manager

After two decades in the financial services industry, Jeff's experience as an advisor and branch manager define his approach to providing customized financial planning, estate planning, and managed income solutions. Key to this approach is a thorough understanding of the unique challenges and goals that exist in every client's life. He is a partner in Navigation Wealth Management.

Jeff holds the Certified Financial Planning and Chartered Investment Manager designations. He lives in Kelowna with his wife Tanya, and their two (almost adult) enterprising children.

 

You can contact Jeff by email at [email protected]

Website:  www.yourlifeyourplan.ca







The views expressed are strictly those of the author and not necessarily those of Castanet. Castanet presents its columns "as is" and does not warrant the contents.



These articles are for information purposes only. It is recommended that individuals consult with a financial advisor before acting on any information contained in this article. The opinions stated are not necessarily those of Scotia Capital Inc. or The Bank of Nova Scotia. ScotiaMcLeod is a division of Scotia Capital Inc., Member CIPF.


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