Market Watch: December 2022

Global financial markets experienced their worst year since the financial crisis of 2008 due to a combination of factors, including inflation, slowing global growth, tightening monetary policy, extended COVID-19 restrictions in China, and an energy supply shock following Russia’s invasion of Ukraine. 2022 also saw persistent worldwide inflation, which reached a 40-year high in the US. In response, the central banks implemented aggressive measures such as raising interest rates to cool the economy. The dollar also strengthened this year, reaching parity with the euro for the first time in two decades. As we head into 2023, markets anticipate slowing the global economy, potentially entering a mild recession, and facing a challenging reopening in China.

The S&P/TSX Total Return Index was down 4.90 percent in December as the Bank of Canada raised its benchmark interest rate while indicating that a pause is possible.

The Canadian economy saw a modest increase of 0.1% in October. While the services sector showed growth of 0.3%, the goods-producing industries saw a decline of 0.7%. Decreases in the mining and oil and gas extraction and a weakening in the manufacturing sector drove the decline. Analysts are expecting annualized growth of 1% in the fourth quarter. Concerns have been raised about the sustainability of this growth in the face of the Bank of Canada’s rapid interest rate increases, which have risen four percentage points since the start of the year.

The November jobs report showed that the country’s unemployment rate declined to 5.1%, near historic lows, despite evidence of an economic slowdown. The economy added a modest 10,000 jobs in the month, beating expectations of a gain of 5,000 and pushing the unemployment rate down from 5.2% in October. Employment rose in several sectors, including finance, insurance, real estate, manufacturing, and recreation, while there were job losses in the construction and retail trade. While the labor market in Canada remains resilient, Bank of Canada Governor Tiff Macklem has stated that the current low unemployment rate is unsustainable and contributes to the high inflation rate.

On monetary policy, The Bank of Canada has raised interest rates by 50 bps to 4.25%, the highest level since 2008, but has also hinted that it may pause its tightening soon. The BoC cited growing evidence that domestic demand is cooling, despite a tight labor market and strong third-quarter GDP data. However, inflation remains high, standing at 6.9% in October, and the bank is still committed to reaching its 2% inflation target by the end of 2024. Markets will closely watch the bank’s next moves to see if it follows through on its hint of a potential pause in its tightening campaign.

The S&P 500 Total Return index was down 5.76 percent in December after the Fed maintained its anti-inflationary stance, raising interest rates again.

US economic growth in the third quarter came in stronger than expected, with GDP expanding by 3.2% on the back of robust consumer spending and investment. While the increase in government spending, led by defense and staff compensation, also contributed to the growth, it was partially offset by declines in residential fixed and private inventory investments. Personal consumption expenditures rose by 2.3%, a significant improvement from the earlier estimate of 1.7%. However, the sustainability of this level of spending remains uncertain as rising interest rates could impact consumers’ ability to make purchases.

Despite concerns of a recession, US employers hired more workers than expected in November. nonfarm payrolls increased by 263,000 jobs last month, beating expectations of 200,000. The unemployment rate remained unchanged at 3.7%. While some tech companies, including Amazon and Facebook, have announced job cuts, businesses are still desperate for workers. The labor market’s strength is one reason economists believe the anticipated recession next year will be short and shallow, with data showing an increase in consumer spending and business spending holding up. On monetary policy, The Federal Reserve raised its benchmark interest rate by 50 basis points to a target range of 4.25% to 4.5%. Policymakers also projected that rates will reach 5.1% by the end of next year before being cut to 4.1% in 2024. These projections are higher than previously indicated, as financial markets had expected rates to reach around 4.8% in May, before cuts of 50 basis points in the year’s second half. The decision to raise rates comes as the central bank seeks to ensure that inflation remains under control. Consumer price increases have slowed from their 40-year high earlier this year, but there are concerns that the Fed’s aggressive action could lead to a recession in the US next year. In response, the central bank has cut its 2023 growth forecasts, seeing an expansion of just 0.5%.

The MSCI ACWI Ex-US Total Return Index was down 0.71 percent in December after Central banks continued to increase interest rates, though at a slower pace than previously seen.

China’s economic recovery from the Covid-19 pandemic is anticipated to be somewhat difficult, despite the easing of some coronavirus restrictions. Ongoing worries about the virus’s transmission are causing individuals to be hesitant about returning to their usual routines, which has led to a decrease in economic activity. Additionally, an increase in infections has caused labor shortages for some businesses. Many countries have tightened their entry requirements for travelers from China due to concerns about new Covid-19 strains and the lack of transparency from the Chinese government.

In the EU, the ECB has decided to raise its key interest rate to 2%, an increase of 50 basis points. President Christine Lagarde stated that these rates would need to rise steadily to bring inflation back to the central bank’s target of 2%. In addition, the ECB announced plans to decrease the size of the portfolio accumulated through its Asset Purchase Program, also known as quantitative easing, by an average of 15 billion euros per month starting in March and continuing through the end of June. In the UK, the BoE has raised its key interest rate by 50 basis points to 3.5%, the highest level in 14 years, while stating that further hikes may be necessary to curb inflation. The BoE also revised its economic forecast, predicting that the UK economy will contract 0.1% in Q4, less than the previously estimated 0.3% contraction. Inflation in the UK fell to 10.7% in November, down from a 41-year high, while the unemployment rate rose to 3.7% in October. Governor Andrew Bailey noted in a letter to the finance minister that UK inflation may have reached its peak.

The Portfolio Management Team