Market Watch: February 2023

Global financial markets had a difficult month in February, reflecting concerns over the global economy’s growth prospects. In Canada, the economy stalled in Q4 2022, but there are indications that it may improve in 2023. Meanwhile, the US economy expanded slower in Q4 2022, with weaker-than-expected consumer and business spending losing momentum. However, the job market remains robust, and the US inflation rate has risen again. As a result, the Federal Reserve is expected to implement further interest rate hikes to combat high inflation. These developments highlight the delicate balancing act faced by policymakers as they navigate a challenging economic landscape marked by subdued growth prospects and inflationary pressures.

The S&P/TSX Total Return Index was down 2.45 percent in February after various mixed economic signals in Canada: GDP fell short, jobs exceeded expectations, and inflation decelerated.

The Canadian economy did not grow in Q4 2022, which was a surprise and lower than the expected 1.5% rise. However, the economy likely recovered in January with a 0.3% increase. Despite a contraction of 0.1% in December, the economy is expected to have a better start in 2023, as shown by the growth in sectors such as mining, oil and gas extraction, and wholesale trade.

The Canadian job market added 150,000 new jobs in January, ten times the expectations of 15,000. This contrasts with the Bank of Canada’s recent survey, which showed firms planning to hire fewer people. However, the growth was driven primarily by less economically sensitive industries and sectors that have yet to hire as aggressively in the past year. Employment growth was mainly in retail, healthcare, and educational services, while transportation and warehousing saw a decline in net jobs. The unemployment rate remained steady at 5.0%. This could be an indication of a slowing economic backdrop.

The January consumer price index (CPI) in Canada rose 5.9% year-over-year, which is lower than the expected 6.1% and indicates a deceleration in inflation. The 0.5% month-over-month increase was also lower than the expected 0.7%. Despite the inflation data being higher than the Bank of Canada’s 2% target, easing inflation is positive and may lead to the central bank holding rates at 4.5% during its next meeting in March.

On monetary policy, BoC Governor Tiff Macklem reiterated the bank’s mandate and tools to target price stability, as well as the time lag in the impacts of monetary policy on the economy. Macklem also stated that Canadians already feel the effects of rising borrowing costs, which could dampen spending on big-ticket items. He pushed back against market expectations for rate cuts in the second half of 2023, stating that the Bank of Canada won’t cut interest rates anytime soon. Finally, Macklem recognized that a significant drop in inflation would require a moderation in wage growth and noted that markets would closely watch upcoming labor data.

The S&P 500 Total Return index was down 2.44 percent in February after the US Economy slowed in Q4 2022. The job market remained strong, inflation came higher than expected, and Fed signaled more rate hikes.

The US economy expanded at a 2.7% annual rate in Q4 2022, slightly lower than the initial estimate of 2.9%. This growth rate was also lower than the previous quarter’s 3.2% rate. The report revealed a weaker-than-expected consumer spending growth rate of 1.4%, the weakest since the first quarter of 2021. Additionally, business spending also slowed, indicating a loss of momentum in the economy at the end of 2022. The deceleration in private consumption and household and business investment contributed to this slowdown, confirming that the US economy is losing steam. Economists predict a noticeable deceleration in US real GDP growth throughout 2023.

The US job market kicked off the year on a remarkably high note, defying expectations with an impressive surge in hiring and a corresponding drop in unemployment to 3.4%, the lowest level since 1969. According to the latest jobs report, nonfarm payrolls rose by 517,000, demonstrating widespread hiring nationwide. This is almost twice the previous month’s gain and indicates the labor market’s strong momentum.

The US inflation rate picked up again in January, with the core personal consumption expenditures (PCE) price index rising by 0.6%, surpassing expectations of 0.4% and marking the most significant increase since August. The year-over-year increase also increased from 4.6% to 4.7%, the first acceleration since September, defying consensus expectations of a decline to around 4.3%. Personal spending also rose by 1.8% in January, the biggest increase in nearly two years, indicating that rising interest rates still need to deter consumers and employers. Despite this, some major retailers reported disappointing earnings and offered cautious guidance, suggesting a possible tightening in household budgets.

The Federal Reserve’s most recent meeting on monetary policy highlighted the likelihood of more interest rate hikes to tackle high inflation. Regional Fed leaders’ public comments suggest that current employment and inflation data have strengthened the case for tighter monetary policy. As a result, investors have adjusted their expectations, with interest rate futures pointing to a high probability of 5.5% overnight target rates by midyear and policy rates above 5% until early 2024. This marks a significant shift from earlier this year when futures indicated a peak rate of 5% and the expectation of multiple rate cuts in 2023.

The MSCI ACWI Ex-US Total Return Index was down 3.50 percent in February as OECD predicts modest global economic growth in 2023, with inflation remaining challenging. Meanwhile, Eurozone and UK implement rate hikes to curb inflationary inflation pressure.

Mathias Cormann, the Secretary-General of OECD, has stated that the global economic forecast for 2023 is slightly more optimistic than expected two or three months ago, but inflation remains a challenge. This week, the G-20 financial leaders meeting will be held in Bengaluru, India. According to the OECD chief, energy and food prices have decreased substantially since their peaks. Europe successfully diversified its energy sources, and a mild winter reduced energy demand, resulting in low gas prices. According to the OECD, the global economy is predicted to grow modestly, with a growth rate of 3.1% in 2022, decreasing to 2.2% in 2023 and recovering to a still sub-par 2.7% pace in 2024.

Germany’s economy experienced a bigger contraction than anticipated in the last quarter, with a 0.4% decline in the gross domestic product compared to the previous three months, indicating the possibility of a recession. The final figures showed that household consumption and capital investment were weaker than initially estimated.

Eurostat said eurozone inflation remained elevated in January, with consumer price inflation easing slightly to 8.6% from 9.2% the previous month. The data confirm that inflation growth is now past its peak, although core inflation – which excludes volatile food and fuel products – increased to 5.3% from 5.2%. The ECB has already raised rates by 3% since July to counter inflationary pressures, but policymakers remain concerned about underlying inflation, which reflects future price developments. Some have called for rate hikes to continue until there is an apparent turnaround in core price developments. The ECB has promised another 50-basis point interest rate hike in March, with further moves expected.

The Bank of England (BoE) increased the base interest rate by 50 basis points to 4%, the highest rate over a decade. However, it strongly indicated that further hikes would only occur if evidence of more persistent inflationary pressures existed. The UK’s Consumer Price Index data revealed that the inflation rate slowed by 0.4% in January, but at 10.1%, it remains over five times higher than the BoE’s target of 2%. Energy costs and dramatic wage growth are the main contributors to inflationary pressure. While the BoE will want to curb inflation, it must balance this with economic growth as the UK teeters on the edge of a recession. The BoE is expected to hike the base rate again in 2023, but further hikes could push the economy into a recession. Market expectations suggest a peak of 4.5% in summer 2023, with rates potentially being cut in early 2024.

The Portfolio Management Team