Just around the corner

Another eventful week is almost behind us as markets digested a US Federal Reserve (Fed) meeting in addition to gross domestic product (GDP) numbers in Canada for the month of February and a “Flash” GDP estimate for March.

Economic data

Starting with the latter, the strong growth exhibited for the month of January appears to be short lived as growth slowed more than anticipated coming in at 0.2% in February vs. the. 0.3% expected. This was down from 0.5% in January. The Flash estimate for March showed that the economy didn’t advance at all which leaves the Canadian economy tracking for growth of 2.2% for Q1, below the Bank of Canada’s (BoC) forecast of 2.8%. January’s strong performance has been short lived and is not expected to continue into the rest of the year if the current level of restrictive policy remains in place.

In addition to dampening growth, the BoC continues to make progress in returning inflation back to their target rate of 2%. Both headline and core consumer price index (CPI) continue to show a trend of downward pressure as the excess supply returns and the Canadian economy slows. Unemployment has also been impacted from this trend with the unemployment rate expected to reach 6.2% in April, well off the lows of 4.9% reached in the summer of 2022. This also shows a material divergence from the US labour market which remains quite resilient.

One final item that will weigh on growth is the material drop in immigration expected for the second half of this year and next year. The past year’s rapid growth in immigration has been supporting headline growth (while materially decreasing per-capita growth). With immigration materially slowing, the balancing support needed is an easing of monetary policy actions. Taking all those factors into account it’s likely an interest rate cut is just around the corner for the BoC. Another positive soft, weaker inflation reading for the month of April would result in a high probability that the BoC takes its first action to begin cutting the policy rate at the June meeting. Those excited at the prospect of an interest cut in Canada should be cautioned as one to two cuts in the near term will not materially change the outlook for those renewing their mortgages. It’s likely the Canadian consumer will remain constrained for some time.

In the US, as widely expected, the Fed held the target range for the federal funds rateat 5.25%-5.50%. US Fed Chair Jerome Powell closed the door on the anticipation that another rate hike could be possible by saying “it’s unlikely that the next policy rate move will be a hike”. Mr. Powell confirmed “that rates were sufficiently restrictive” while communicating it is still the Fed’s view that inflation will move back down over the course of the year. Given interest rate cuts for the Fed have been moved already to the end of the year, overall the message was supportive for the bond market.

This week we also got jobs numbers for the month of April. Growth of job creation slowed to 175K for the month, down from 315K in March. Average hourly earnings improved Month-over-Month (M/M) as wage growth slowed to 0.2% from 0.3% and yearly wage growth was down to 3.9% from 4.1%.

Bond market reaction: Government bonds performed well

Government bonds performed well on the week with 10-year US Treasury yields moving lower by approximately 15 basis points (bps) and Canadian 10-year bonds performing similarly. The curve bull-steepened on the week with 2-year US Treasury bonds outperforming by close to 7 bps as the market brought forward interest rate cuts by the Fed. Current market expectations are for the BoC to have its first interest cut by July and the Fed is priced to have its first interest rate cut by September.

Stock market reaction: Ended on a high

Equities reversed course on Friday to end the week on a high, effectively cheering the Goldilocks jobs report and the prospects that rates could finally start to come down in a controlled manner.?Energy stocks struggled on the back of lower oil prices, despite continued strong quarterly reporting. Many of the E&Ps are now hitting or are close to hitting their targeted debt levels and flipping to 100% returns of excess cash flow to shareholders in the form of dividends and buybacks.

Financials led gains this week, from strong contributions from banks, insurance companies and the Brookfield group of companies. The only real negative standout was TD Bank, following disturbing anti-money-laundering headlines in the US. Another strong performer this week was Brookfield Renewable. The stock was up close to 20% this week following strong earnings results as well as the announcement of a 10.5-Gigawatt offtake deal with Microsoft. Finally, in the US, strength was clearly driven by the Magnificent 7, specifically with big beats from Amazon and Microsoft, and punctuated by a staggeringly large US$110 billion buyback announcement at Apple.

What to watch in markets next week

Next week in Canada the market will receive employment numbers for the month of April with expectation that 20K jobs were added to the economy while still having the unemployment rate ticking .1% higher as population growth outpaces new jobs. In the US, services PMI and ISM will be released with the market looking for any unexpected strength in the services sector—which is already expected to improve from the previous month.

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

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