The odds that the U.S. Federal Reserve will raise interest rates on March 15 have jumped from 33.5 per cent on February 22 to 90 per cent now, according to Bloomberg data. A Fed move will push U.S. bond yields higher and, for domestic investors, the process will have one of two results – a rise in Government of Canada bond yields or a sharp drop in the loonie.
Canadian bond yields have historically moved with Treasury yields even when domestic economic conditions don't warrant any change. During the past 10 years, for instance, the average difference between U.S. and Canadian five-year bond yields has been a scant 10 basis points, even though the two nations' economies were frequently trending in different directions.
The link between bond yields and the loonie is extremely strong. The two-year yield spread – the difference in yield between the two-year Government of Canada bond and the two-year U.S. Treasury bond – is even more highly correlated with the value of the Canadian dollar than the oil price. When U.S. bond yields rise relative to domestic bonds, the loonie falls in value relative to the greenback.
If Federal Reserve chair Janet Yellen announces a rate hike on March 15, U.S. two-year yields will rise. In Canada, domestic bond yields could climb along with Treasuries. In this case, the value of the loonie won't change because the spread, the difference in yield, won't change. But, if domestic yields remain unchanged, the loonie will fall – the spread will have increased.
Economists believe that the Federal Reserve will hike interest rates two to four times in 2017 so this 'yields and loonie' market drama will play out numerous times this year. Canadians should not be surprised to see either higher domestic bond yields – with potentially negative effects on domestic dividend stock performance – or a significantly lower currency as the year progresses.
-- Scott Barlow
Stocks to ponder
H&R Real Estate Investment Trust. This stock appears on the positive breakout list. It recently experienced a bullish 'golden cross' technical pattern, writes Jennifer Dowty. The security offers investors a 5.9 per cent yield. The consensus one-year target price is $25.36, implying the unit price may appreciate almost 8 per cent over the next 12 months. H&R REIT has a diversified portfolio of North American real estate assets containing office properties, retail properties, industrial properties, and residential properties.
Canadian Real Estate Investment Trust. In June, 2015, John Heinzl wrote that this REIT had tumbled in price and it might be a good time to buy. Well, that turned out to be the right call. In the 20 months since, CREIT's units have rebounded by about 16 per cent. Including dividends, the total return was more than 21 per cent, topping the S&P/TSX composite index's total return – also including dividends – of about 11 per cent over the same period. So is it time to sell CREIT and lock in the profits? Heck no. Mr. Heinzl says he owns units and considers them a core long-term holding. Here's why he believes CREIT has a bright future.
Fairfax Financial Holdings Ltd. Does Prem Watsa have to prove himself to you? The man in charge of Fairfax Financial Holdings Ltd., often called "Canada's Warren Buffett," and David Milstead has written pieces skeptical of the doings at his insurance-and-investing concern. However, by the end of 2016, Fairfax's book value has shown little growth from several years before. The big culprit last year was the choice, in the waning weeks of 2016, to unwind long-standing multibillion-dollar wagers that the U.S. equity market was poised to decline. This is prompting analysts to question the prospects for Fairfax shares, with the phrase "show me" appearing in at least one recent note. But investors continue to bet on Prem: Despite the shares' decline from 52-week highs, they're actually trading at a higher price-to-book-value multiple than the historical average. In the midst of this disconnect, one thing seems clear: With the company ending its pessimistic U.S. equity bets and going all-in on Donald Trump, Fairfax is less of a contrarian play than perhaps ever before.
Canfor Corp. This security appears on the positive breakout list and has had significant insider buying activity, writes Jennifer Dowty. It also has a positive price momentum. Vancouver-based Canfor is an integrated forest products company focused on lumber production with operations in B.C., Alberta, Ontario and the U.S. In addition, the company has a 53.6 per cent stake in Canfor Pulp Products Inc. The consensus one-year target price is $20.50, implying the stock price may appreciate 13 per cent over the next 12 months.
Snap Inc. The first sell-side call on Snap Inc. is a resounding "sell," writes Tim Shufelt. The owner of the Snapchat messaging app made its public market debut on Thursday, with its shares soaring by 50 per cent by mid-afternoon. From its IPO price of $17 (U.S.), Snap shares surged north of $25, lifting the company's market capitalization to nearly $30-billion. Fair value for the stock, however, would be closer to $10, and even that's generous, according to the first analyst to issue a recommendation on the stock.
Rogers Sugar Inc. This dividend stock offers investors an attractive 5.7 per cent yield that appears sustainable. The company appears on the negative breakouts list and the downtrend remains intact for this high yielding stock. However, at some point, as the stock price continues to drift lower, its valuation may become compelling. This may be a stock to monitor and put on your radar screen, writes Jennifer Dowty. Rogers Sugar is a sugar manufacturer with refineries in Montreal, and Vancouver.
'Big, fat, ugly bubble' getting bigger? How Trump (and the Fed) blasted the Dow past 21,000
Add one more bullish signal to the roster: A presidential president. The Dow Jones industrial average enjoyed its biggest gain of the year, surging to a new record high above 21,000 on Wednesday, a day after U.S. President Donald Trump delivered a surprisingly reassuring address to Congress amid upbeat economic news, writes David Berman. The blue-chip Dow, the subject of front pages just a month ago when it closed above the 20,000-threshold for the first time ever, ended the day at 21,115.55, up 303.3 points or 1.5 per cent. The index has added more than 1,000 points in just 17 trading days.
Bubble indicators for the stock market aren't flashing red yet
Is this the time to run in the opposite direction from an overvalued U.S. stock market that depends on a long-in-the-tooth recovery and the dubious merits of Trumponomics to keep going even higher? Common sense suggests the answer is yes. But research begs to differ, writes Ian McGugan. Three Harvard academics – Robin Greenwood, Andrei Shleifer and Yang You – argue that a big run-up in stock prices doesn't necessarily mean investors are doomed to future disappointment. In a paper entitled Bubbles For Fama, they look at cases in which stock prices within a sector have doubled over two years. They find – rather surprisingly – that the big gains aren't usually offset by periods of unusually low returns over the subsequent two years.
Snap IPO: Why I'm content to watch this party from the sidelines
Growth investor Chris Umiastowski explains why he's not buying into Snapchat's story, and his reasons have very little to do with the high valuation or mounting financial losses. The success of an IPO is a short-term phenomenon. The fund managers who were able to grab IPO shares look like geniuses, but they were taking a gamble. Tech IPOs don't always exhibit huge first-day pops. And even when they do, things can quickly sour if Wall Street doesn't see strong financial results in the first few quarters of being public. As for Mr. Umiastowski, he takes a much longer perspective and won't invest in the shares unless he thinks they're clearly leading an important, new area of technology where they also have a sustainable competitive advantage.
Cyclical or defensive stocks? How your strategy hinges on economic growth forecasts
The Canadian economy and equity markets are resource-rich and export-dependent, and this made domestic growth perfectly positioned for the increase in U.S. growth and inflation expectations that began in mid 2016. Higher growth forecasts led to rising prices for cyclical, economically sensitive stocks (such as commodity producers) that form large portions of the S&P/TSX composite index, and also for the manufacturing and industrial companies that drive economic growth, writes Scott Barlow. The last six months of 2016 saw a dramatic outperformance of cyclical stocks relative to defensive market sectors. The trend of cyclical stock outperformance, however, stalled out and to some extent reversed in 2017. Whether this is just a pause or a return to the slow growth environment that previously boosted conservative, high-quality defensive sectors stocks such as telecoms and utilities, will be a major determinant of both portfolio positioning and investment returns for Canadian investors.
David Rosenberg: Now at extreme levels, there are ominous signs for the markets
Sentiment is wildly bullish, and while it has been such for weeks now, we have hit some pretty extreme levels, writes David Rosenberg. The Investors Intelligence poll now shows there to be 63.2-per-cent bulls, up from 61.2 per cent a week ago, and the highest since January 1987 (i.e. when we last saw the Dow on a 12-day winning streak). The bear share fell a point to 16.5 per cent, the lowest since July 2015 (and the correction camp is down to 20 per cent — one in five see at least a 5-per-cent correction coming even though the declines roughly of this magnitude have happened at least once per year for 88 of the last 89). The bull-to-bear spread is now in proverbial danger-zone at 46.6 percentage points, up from 43.7 and just took out the 45.5 nearby high in February 2015. That is an ominous sign, even if not yet apparent amidst the euphoria.
Gordon Pape: This tech ETF delivers both growth and income
It's not easy to find a security that delivers a high yield while offering strong growth potential. But here's one that was recommended to Gordon Pape by his broker and he now own shares of it himself. Its the First Asset Tech Giants Covered Call ETF (CAD Hedged). This ETF is run by First Asset Investment Management. It provides exposure to the 25 largest high-tech companies listed on the New York Stock Exchange and Nasdaq. That includes names such as Apple, Alphabet (which is the parent company of Google), Yahoo, Cisco Systems, IBM, Microsoft, Facebook and others.
How investors in factor-based indexes take bigger risks
Confucius said, "Life is really simple. But we insist on making it complicated." This could be a great lesson for investors. Low-cost index funds beat most actively managed funds. The actively managed funds that win during one time period rarely win the next. That's why it makes more sense to build a portfolio with simple low-cost index funds, writes Andrew Hallam. Many have given up on actively managed funds. But hope springs eternal. Many who want to beat the market have found a different ride. They're called factor-based funds. But they could result in you taking more risk.
Threat of capital gains hike has investors pondering stock sales
Investors looking to unload assets such as stocks, bonds or investment properties are considering selling – soon – based not just on the recent run-up in value, but also the threat of a potential increase in taxes paid on the capital gains in the upcoming federal budget, writes Brenda Bouw. Today, capital gains on investments outside of a registered account are taxed at 50 per cent. There is speculation across the financial services industry that the Liberal government might increase the amount taxed to two-thirds or even 75 per cent, where it has been in the past, to try to raise billions in new revenue. The Liberal government has been reviewing tax credits in recent months, with a focus on Canada's highest income-earners.
Concerned about your retirement finances? Don't be
Here's a quick way to address your financial concerns about retirement, writes Rob Carrick. Just retire. A four-country survey has found that people who left the workforce recently were notably more satisfied with their financial position than those who were looking just ahead to retirement.
He invests like a machine, buying and selling by rule
This investor says his investing success is based on the fact he tries to act like a machine or algorithmm, he tells Larry MacDonald. "This means automatically buying low and selling high. As soon as one of my holdings increases in value by 50 per cent," he continues, "I sell it back down to its normal weighting of 5 per cent in the portfolio and invest the proceeds in the stock which is the most beaten down of my holdings. This is harder to do than it sounds … but it becomes easier over time."
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What's up in the days ahead
On Saturday, watch for David Berman's take on the value of buybacks for investors, Tom Bradley's push to keep things simple, and John Heinzl's explanation of what to do if you've lost your trading records and need to calculate your capital gains. On Monday, Jennifer Dowty talks about two companies that are "triple threats"; David Berman looks at whether IPOs are worth the investment; Rob Carrick explains why an organization of investment advisers wants investors to sign a petition urging regulators not to move ahead with reforms to the way advisers are paid; and Frederick Vettese looks at what happens to your retirement income when you take the Canada Pension Plan early or if you wait.
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Compiled by Gillian Livingston