Living with ease (ing)

Well, it happened. After the market got ahead of itself with pricing in rate cuts in January, Canada finally saw its first cut this year with the Bank of Canada (BoC) lowering its overnight rate from 5.00% to 4.75%. And while many investors questioned whether Canada could go at it alone and move ahead of the US Federal Reserve (Fed), in fear of what would happen to the currency, the reality is this cut was largely priced into the market.? Also, the BoC didn’t act alone, with the European Central Bank (ECB) also announcing a rate cut on Thursday, bringing its deposit rate to 3.75%. The key question now is where do we go from here?

In Canada, Governor Macklem’s comments were seen as dovish. The futures market is now fully pricing in two more cuts by the end of this year and some economic experts believe we could even see four rate cuts in 2024. In contrast, the ECB’s comments are viewed as being more hawkish with inflation expected to remain above the target rate well into next year. This leaves markets less confident as to when Europe will see further easing.

Our interpretation remains the same, that any further rate cut decisions in any market will be data dependent and made on a meeting-by-meeting basis. But, there are a couple of points worth highlighting: (i) Canada’s future rate decisions are not dependent on the Fed, which means we can see the Canadian dollar weaken further (ii) the BoC is not the only central bank in rate cutting mode and we shouldn’t be looking at North America in a vacuum (iii) one 25 basis point (bps) rate cut is not an overly significant move and it was largely expected(iv) if inflation remains on its current trajectory, we’re likely going to see more cuts this year, but with intermittent pauses.

Economic data

While there was no rate decision by the Fed this week (its next meeting is June 12), there was a lot of US economic data to digest. First, we saw both ISM surveys for May, and while the manufacturing survey came in softer than expected, the services survey exceeded expectations. One positive aspect is that service prices paid saw modest easing—which is positive for the inflation trajectory. Construction spending also came in softer than expected, while Wards vehicle sales increased to an annualized rate of 15.9 million. Although they improved, vehicle sales remain below levels seen pre-pandemic. Today, all eyes are focused on the monthly jobs reports in both the US and Canada. In the US, payrolls came in ahead of expectations at 272K.However, the household survey lost 408K jobs, causing the unemployment rate to rise to 4.0%. Canada saw 26.7K jobs added in May, all of which were part time, while the unemployment rate continued to rise to 6.2%. Both countries continue to see elevated hourly wage growth, which both central banks highlight as a key metric when making future rate decisions.

Bond market reaction: Yields were lower

Bond yields were lower on the week, despite moving higher on Friday following the release of the strong twin employment reports in North America. Earlier in the week, bond yields saw strong demand attributed to June coupon payments and index extensions, which provide seasonal support to the bond market. This was further supported by the BoC cutting its overnight rate and accompanying statements that implied further rate cuts are likely coming this year. Corporate bonds were also supported by tightening credit spreads, following last week’s large multi-tranche new issue by Coastal GasLink, which saw very strong demand, causing investors to see low fills on their orders. This week new issues were well received, seeing limited concession and performing well once they entered the secondary market.

Stock market reaction: Global equities were up

Global equity markets were up this week, with Technology and Health Care driving the S&P500, which hovers near all-time highs. Investors saw similar trends in Canada, with the Consumer and Technology sectors driving gains, whereas Energy and Materials underperformed. Waste Management announced the acquisition of Stericycle, an operator in the medical waste and document shredding end-markets. Also, GFL Environmental saw upward movement in its stock price, following headlines on potential offers by private equity investors. On an unrelated note, both Spotify and Max announced subscription price increases this week, which raises suspicion that other peers, like Netflix, may follow.

What to watch in markets next week

Next week will be another busy one in the US, with CPI, PPI, the monthly budget statement and the next Fed rate decision. While the market doesn’t expect the Fed to cut rates next week, all eyes will be focused on the updated projection material (the dot plot) to see how voting members will revise their expectations. Recall, current projections include three rate cuts in 2024. In Canada, we’ll see building permits for the month of April and the Bloomberg confidence index.

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

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