The fat lady isn’t singing yet

Economic data

Canada took centre stage this week, with the Bank of Canada (BoC) announcing a 0.25% increase to its overnight rate taking it to 4.75% and ending its data dependent “conditional pause” that had been put in place since January of this year. While the move wasn’t accompanied by a press conference or an updated monetary policy report (MPR), which in July will include the BoC’s revised growth and inflation assumptions, the press release highlighted concerns surrounding surprisingly resilient consumer spending, higher than expected Q1 GDP growth (3.1% vs. expectations of 2.3% from the April MPR) and the first uptick in inflation in 10 months. Fortunately, the move had been somewhat expected and priced into the futures market, so market reactions weren’t too extreme. Still, we remain of the view that the previous rate hikes have yet to fully impact the economy, so we continue to ask the question “Is the BoC being prudent, or are they driving while looking in the rearview mirror?” Also, how does the BoC account for the federal government’s increased deficit plans when implementing policy, as the most recent federal budget seems somewhat counterproductive to the BoC’s efforts? The BoC’s statement also highlighted expectations for inflation to further ease to approximately 3% this summer, but with 3-month core consumer price index (CPI) measures running at 3.5%-4.0%, there are concerns that levels could get stuck materially above 2%. Looking forward, the BoC didn’t directly commit to further hikes, which if implemented, would increase the risk of a policy error. However, the BoC’s statement highlighted that the Governing Council will continue to assess market dynamics with a focus on excess demand, inflation expectations, wage growth and corporate pricing behavior.

In the US, economic data came in softer than expected this week, with factory orders, core durable goods orders and wholesale trade sales all coming in below expectations. We also saw the Institute for Supply Management’s (ISM) services index fall to 50.3 in May, with all subcomponents including prices paid, employment, new orders and backlog of orders all coming in soft. Worth noting, the backlog of orders index fell to 40.9, which was its lowest reading since March 2009 in the aftermath of the great financial crisis. Now that’s a showstopper, given services have been one of the key sticky elements for inflation. This should be supportive of further easing going forward and should support the view that the Fed will be on hold at their meeting next week. Weekly initial jobless claims also moved higher this week to 261,000, representing the highest reading since November 2021. However, let’s not get overly moved by this performance, as the data may have been skewed by the Memorial Day long weekend. Lastly, we saw the May employment numbers for Canada, which materially missed their mark, falling by 17,300 and representing the first decline since August of last year. Full time service sector jobs drove the decline, with the unemployment rate ticking up to 5.2% and hours worked dropping by 2.2% year over year.

Bond market reaction

Canadian bond yields moved higher on the week in response to the move by the BoC and increased concerns that further rate hikes may be needed to bring inflation back to target. Futures markets are currently pricing in another 0.25% hike in 3 months, with modest potential for a third hike in 6 months. Still, expectations are for rates to start coming down in 1 year’s time, as medium-term inflation expectations remain under control. Also, the yield curve (defined as the difference in 10-year and 2-year bond yields) remains deeply inverted, continuing to signal that recession risks are elevated. US yields were only modestly higher on the week, as economic data continues to come in softer than expected. Also, corporate bond spreads declined, despite the move in rates, with new issuance being met by strong demand as investors continued to reach for higher yields.

Stock market reaction

Equity markets globally were mostly positive this week. The S&P 500 has seen an approximate 12% rise year to date, but interestingly, the majority of the gains have come from the top 10 companies, of which most are larger technology firms: Apple, Microsoft, Alphabet and Nvidia. On the topic of Apple, the company announced an AR/VR headset for $3,499 at its Worldwide Developers Conference (WWDC) event. The announcement raised several eyebrows mostly on the price tag, given Meta’s competitive products are priced at $999 and below. The total addressable market also seems limited especially when compared to Apple’s other consumer products, given the niche applications and use cases as of today. Then again, Apple has been quite successful with their Internet of things (IOT) platform to date. On an unrelated note, US retailers from Target to Ulta Beauty are complaining about elevated levels of theft! Yes, petty crime is out of control in the US with some companies taking down guidance for the year, partly blaming shrinkage. Be careful out there.

What to watch next week

In Canada next week we’ll see housing starts, manufacturing sales, existing home sales, international securities transactions and wholesale trade sales. In the US we’ll see if the Federal Open Market Committee (FOMC) will follow the BoC or pause with their next rate decision. We’ll also get the monthly budget statement, CPI, producer price index (PPI), retail sales, industrial production, business inventories and net long term Treasury International Capital (TIC) flows.

?On behalf of: Adam Ditkofsky, Pablo Martinez, Sandor Polgar, Steven Lampert, Craig Jerusalim and Rahul Bhambhani

Adam Ditkofsky is Senior Portfolio Manager, Global Fixed Income; Pablo Martinez is Portfolio Manager, Global Fixed Income; Sandor Polgar, Portfolio Manager, Global Fixed Income; Steven Lampert is Senior Research Analyst, Investment Research; Craig Jerusalim is Executive Director and Portfolio Manager, Equities; and Rahul Bhambhani is Portfolio Manager, Global Equities.

The views expressed in this document are the views of CIBC Asset Management Inc. and are subject to change at any time. CIBC Asset Management Inc. does not undertake any obligation or responsibility to update such opinions. Certain information that we have provided to you may constitute “forward-looking” statements. These statements involve known and unknown risks, uncertainties and other factors that may cause the actual results or achievements to be materially different than the results, performance or achievements expressed or implied in the forward-looking statements. This document is provided for general informational purposes only and does not constitute financial, investment, tax, legal or accounting advice nor does it constitute an offer or solicitation to buy or sell any securities referred to. Individual circumstances and current events are critical to sound investment planning; anyone wishing to act on this article should consult with his or her advisor. All opinions and estimates expressed in this document are as of the date of publication unless otherwise indicated, and are subject to change with the exception of bond data, which is as of end of day the previous Thursday, and equity data, which is as of mid-day Friday. CIBC Asset Management and the CIBC logo are trademarks of Canadian Imperial Bank of Commerce, used under license. The material and/or its contents may not be reproduced without the express written consent of CIBC Asset Management Inc.