Hazy days

The coast looked clear in early June. After the Bank of Canada (BoC) cut its benchmark overnight rate, Canadian bond yields plunged to Rear-to-Date (YTD) lows and risk assets celebrated the first G7 central bank to ease policy. However, the problem for risk markets was always the possibility of inflation resurfacing, and a subsequent re-pricing of further policy easing to come. And that’s just what happened this week in Canada.

Economic data

Headline consumer price index (CPI) for May surprised to the upside at 0.6% M/M, sending the annual rate to just below 3% (2.9% Y/Y). The core measures were no better with the average of the Median-and Trim-core CPI numbers also coming in above expectations at 0.3% M/M and 2.85% Y/Y respectively. The good news is there were only a few one-off contributors to the hot monthly read (such as travel tours and cellular services) which likely won’t repeat. It’s hard to ignore the continued price pressure emanating from the overall services category, which advanced 4.6% Y/Y—the highest rate since last year. Moreover, the shelter component continues to rise at a painful pace for Canadians, highlighted by the near 9% Y/Y increase in rents last month. All in all, the CPI number was challenging for the BoC and the market agreed by pricing out the previous expectation of another 25 basis points (bps) cut in July.? In our view, a rate cut at the July meeting is not necessarily off the table just yet. Governor Macklem stressed data dependency in his public comments on Tuesday and there’s certainly no shortage of primary data to analyze ahead of the BoC’s next rate decision.

That includes today’s April monthly gross domestic product (GDP) number, which came in as expected with a 0.3% increase M/M and a 1.1% increase Y/Y. Q2 is now tracking to grow at a 1.8% annualized pace, slightly higher than Q1 and the BoC’s own forecast of 1.5%. It doesn’t exactly clear the haze created from this week’s earlier blip in the disinflationary path, but additional data such as the jobs report next Friday and another CPI print next month may help do so.

In the US, the third estimate of Q1 GDP arrived in line with expectations at 1.4%, despite the personal consumption component being revised lower to 1.5% from 2.0%. This is consistent with recent softer retail sales and durable goods orders as well as the small uptick in the savings rate (now 3.9%). The US Federal Reserve’s (Fed) preferred inflation measure, core PCE, should also give Chair Powell some comfort as it was in line with the consensus at0.1% M/M and 2.6% Y/Y. This shows it’s tracking closer to the 2% target rate.????

Bond market reaction: Relatively higher

US and Canadian bond yields diverged this week, primarily owing to the hotter than expected CPI read in Canada—which sent rates relatively higher. The Canadian yield curve (as measured by the difference between the 2-year and 30-year benchmarks) also flattened modestly as the probability of near-term rate cuts declined. That said, futures markets in both countries are still pricing in roughly two cuts each in the second half of the year. Primary activity in the corporate credit market continues to roll on, now 40% Y/Y on a YTD basis. However, investors should expect the new issue calendar to slow during a seasonally quiet summer period and as we approach earnings blackouts in mid-July. High yield spreads were unchanged on the week.

Stock market reaction: Advanced this week

Much like last night’s Presidential debate, investors and speculators alike gave the market a collective yawn as volumes significantly dried up heading into next week with the holiday. However, neither this malaise nor a rare stumble for Nvidia could prevent North American equities from advancing yet again. The S&P500 even hit yet another all-time record high. The most interesting aspect of this week’s gain was the broadening of leadership to the more cyclical sectors such as Energy and Financials in Canada, and Consumer Discretionary and Communication Services in the US.?

Amazon was a strong contributor this week, crossing the US$2 trillion market cap barrier and quietly advancing 30% YTD. The company announced plans to take on Chinese discount retailers Temu and Shein and is also working on its own retail generative AI chat box that could potentially incorporate each customer’s entire retail history. One area of concern to keep an eye on is the disappointing results from consumer stocks Walgreens and Nike. Both companies dropped significantly on poor results and outlook. This could be an indication of an over-extended consumer.

Back in Canada, Manulife wrapped up its three-day investor update in Hong Kong where it boosted key profitability targets such as Return on Equity and excepted cash returns to shareholders, while at the same time reducing and off-loading overall risks. This setup could contribute to the continued rerating of the stock closer to its peer group. And finally, Alimentation Couche-Tard reported its fourth quarter results and announced a well-choreographed CEO succession. While its quarter missed consensus expectations, its strong balance sheet, consistent operating execution and track record of success limited any significant downside for one of Canada’s few global champions.

What to watch in markets next week

The holiday-shortened week in Canada is highlighted by June employment numbers next Friday as well as international merchandise trade. The US also has a short week for Independence Day but will still see a busy calendar with the ISM Manufacturing and Services surveys, JOLTS job openings, Federal Open Market Committee (FOMC) meeting minutes and its own June jobs report on Friday. Happy Canada Day!

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Authors: Adam Ditkofsky, Pablo Martinez, Sandor Polgar, Steven Lampert, Craig Jerusalim, Rahul Bhambhani and Diana Li

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