For investors, 2019 has been The Year of Upside.
Every major asset class in Canada has participated in an unusual synchronized rise, upsetting the correlations that typically produce a mix of winners and losers in any given year.
Over at least the past 35 years, in fact, Canadian investors have not seen anything quite like it. Domestic stocks, bonds, crude oil, gold and even the Canadian dollar have posted a slate of year-to-date gains without modern precedent.
The market-wide ascent, which is also happening in the United States, has coincided with an easing of recession fears in recent weeks and a global shift toward lower interest rates.
“Because the central banks are on the case and keeping policy very, very easy, [the market] is almost disconnected from the fundamentals a little bit,” said Stephen Lingard, head of research at CI Investment’s multiasset team.
This state of affairs is almost certainly a temporary aberration rather than a rewriting of the rules of investing and portfolio construction, Mr. Lingard said. “If everything’s gone up together, does that mean that portfolio diversification is dead? I don’t think it does.”
One of the principles behind diversification is it helps stabilize investment returns because not all asset classes move in sync. Stocks and bonds, for instance, often move in opposite directions. Stocks tend to decline when investors, on average, are shying away from risk, pushing up the prices of relatively safe government and investment-grade corporate bonds. The inverse tends to be true in a “risk-on” environment: Investors plow money into equities and withdraw it from government debt.
The S&P/TSX Composite Index is up by 19 per cent so far this year and closed above 17,000 last week for the first time. “In a normal market, government bonds would by negative to flat in a year when equities are doing this well,” said Michael Greenberg, portfolio manager at Franklin Templeton Canada.
But the FTSE Canada Universe Bond Index – a broad measure of government and corporate bonds – has risen by 7.6 per cent this year, up to the end of October. That’s the Canadian bond market’s strongest performance since 2014.
Financial markets can break from their traditional patterns, particularly when central banks are pumping stimulus into the financial system. As the economic fallout from the U.S.-China trade dispute spread through the global manufacturing sector this year, central bankers moved aggressively to engineer a recovery.
In the third quarter of this year, nearly 60 per cent of global central banks cut interest rates – the highest share since the aftermath of the 2008 global financial crisis, according to UBS.
That monetary jolt fuelled gains in both stocks and bonds. Since bond prices rise as yields fall, the downward pressure on rates directly fuelled fixed-income gains.
Easy money also supports equities by encouraging risk-taking and making certain categories of equities, such as dividend payers, more attractive.
Gold, meanwhile, has gone on a tear of its own this year, hitting its highest price since 2013 in September. One of the biggest criticisms against gold historically is that it pays no yield. But more than US$12-trillion of global sovereign bonds currently trade at negative yields.
“In this environment, the argument not to hold gold is weakened,” Mr. Lingard said. Gold closed last week at US$1,468.50 an ounce. It started the year at about US$1,280.
It hasn’t exactly been a banner year for crude oil prices, on the other hand, although they have come well off their December lows as the global growth scare has eased. (Canadian energy stocks haven’t fared quite as well, in part because the heavy oil that comes out of Western Canada sells at a discount and natural gas prices are weak. An exchange-traded fund that tracks the S&P/TSX Capped Energy Index is down about 1 per cent this year.)
The overall sentiment that the economy has turned a corner would be strengthened by a continued cooling of global trade tensions, Mr. Greenberg said.
“But very quickly, we get to the next big concern, and it’s not that far down the road.” That would be the U.S. presidential campaign and election, which should keep markets fixated through next year.
And should the harmonized updraft in markets come to an abrupt halt, investors will be thankful for a decent weighting in defensive assets, including bonds, Mr. Lingard said.
“When it really goes wrong, you still see the benefits of owning fixed-income even at these overvalued levels.”
Tim Shufelt