Global equity markets reached new all-time highs in February but ended on a sour note in the last week due to rising bond yields. This prompted a sharp sell-off in equities on overvaluation fears. Significant government spending and a dovish monetary policy buoyed the stock market last year. However, these measures are now fueling inflation. Low yields drove investors into equities, pushing valuations to their highest levels in years. Now that yields are soaring, equities are looking less attractive. The specter of inflation is causing investors to ponder if the Fed might raise interest rates sooner than previously thought, which could drive up borrowing costs and weigh on economic growth.
The S&P/TSX Total Return Index ended the month of February up 4.5% following a rally of commodities due to inflationary concerns. Also, the government agreed with US vaccine firm Novavax (NVAX) to produce millions of doses of its COVID-19 vaccine at a Montreal facility.
The Canadian loonie fell 0.6% against the US greenback, despite a 17.8% jump in crude oil prices. The weakening of the Canadian loonie is part of a structural shift in sentiment toward the US dollar after US bond yields pressured global equity markets. The US House has passed a $1.9T comprehensive COVID-19 relief bill with a narrow majority of 219 to 212.
Months of gains in the Canadian labor market were erased in a matter of weeks when widespread closures and school shutdowns wiped out 212,800 jobs in January – five times more than economists had expected. Since last April, the monthly job declines were the worst and sent the unemployment rate up 0.6 percentage points to 9.4%, the highest data point since August.
Bank of Canada Governor Tiff Macklem said the economy would experience a sustainable recovery this year as vaccinations increase while warning that Canada’s red-hot housing market is beginning to show signs of “excessive exuberance.” He expects the economy’s hardest-hit segments to resume activity, leading to robust job growth.
The S&P 500 Total Return index ended February up 2.6%, as it appears that the economic picture is improving with the rollout of COVID-19 vaccines and the pass of the promised fiscal stimulus package by President Biden in the House of Representatives.
The House approved President Joe Biden’s $1.9 trillion pandemic recovery plan; the COVID-19 relief bill would provide $1,400 in stimulus cheques to millions of Americans, increase unemployment benefits and raise child tax credit. It would also provide billions of dollars in aid to small businesses, states, and help support coronavirus research and vaccination. The House bill still includes the minimum wage increase to $15 per hour. The package bill is on its way to the Senate, where it is expected that the minimum wage increase provision will be removed from the bill.
In February, economic indicators have almost returned to pre-COVID-19 levels, with a V-shaped recovery looking increasingly likely with jobless claims falling to 730,000, its lowest reading since the pandemic began. Retail sales rose from -1% to 5.3%. The ISM Purchasing Managers Index rose from 57.7 to 58.7, and Consumer Confidence rose from 88.9 to 91.3.
Investors are concerned that more robust growth and rising inflation may prompt the Federal Reserve to withdraw monetary stimulus sooner than expected. Fed Chairman Jerome Powell reiterated the dovish policy stance in his testimony before Congress. Stocks rose shortly after Powell’s remarks, in which he stressed that the central bank would not raise interest rates until it holds its goals for maximum employment and the inflation targets have been met. He said it could take longer than three years to reach the central bank’s inflation targets. However, that could change after seeing bond yields rise.
The MSCI ACWI Ex-US Total Return Index ended the month of February up 2.3% on anticipations of a faster economic recovery, driven in part by expectations of a quicker rollout of vaccines against the coronavirus. However, these gains were restrained by concerns that higher inflation and bond yields could lead central banks to tighten monetary policy.
In Europe, expectations of a recovery in economic growth have lowered demand for core bonds and pushed yields higher. Better-than-expected Eurozone GDP data raised long-term inflation expectations. Peripheral bond yields declined broadly. In Italy, yields initially increased due to the collapse of the governing coalition headed by Prime Minister Giuseppe Conte. Then it fell after Draghi began discussions to form a new government. Gilt yields followed the core markets and received further support after purchasing government assets at £875 billion. The Bank of England left monetary policy unchanged and said lenders would need six months to prepare for negative interest rates.
According to the latest PMI data, Eurozone business activity shrank for four consecutive months in February; however, the shrinking pace slowed as manufacturing’s better than anticipated recovery offset the continued drop-in services.
The coronavirus vaccination rate in Europe remained sluggish but was high in the UK, in which more than 28% of the population got the first dose. After a month of tight lockdown policies in Europe, the number of daily coronavirus infections has also begun to decrease in some countries.
German Chancellor Angela Merkel has prolonged the country’s lockdown until March 7 due to the new coronavirus variants amid fears they may increase infections. Germany also closed its borders with the Czech Republic and the Austrian region of Tyrol. In the UK, Prime Minister Boris Johnson announced a plan to ease lockdown restrictions and reopen the UK economy in phases over the next months. The intent is to remove all restrictions by the end of June.
The Portfolio Management Team