Posturing on the truth

While investors may have a playbook when it comes to the market uncertainty associated with a Donald Trump presidency, it nonetheless still elicits reaction when the now President-elect decides to take to social media to propose new policy. This time, the target is felt close to home with his pledge to impose a 25% tariff on all goods imported from Canada and Mexico as well as an additional 10% tariff on goods from China. The 25% level on their North American trade partners is notably higher than the 10% levy that Trump campaigned on. This would undoubtedly cause a significant hit to Canadian gross domestic product (GDP) growth by affecting a large number of export industries.

So, how realistic is it that the tariffs will come to pass? The best advice we can take from the last Trump administration is to take the posturing seriously, but not necessarily literally. The fact is that this level of tariff would not only harm the countries they target, but also severely damage a number of US industries that rely heavily on cross-border trade and integrated supply chains such as the energy, auto, and forestry industries. Add on any potential retaliatory actions (consistent with Canadian countermeasures in 2018 in response to steel and aluminum levies) and US industry objections will grow louder. Additionally and importantly, the tariff threat against Canada and Mexico appears contingent on addressing the illegal crossings of migrants and illicit drugs. The details of how the Trump administration plans to monitor progress on those issues is unclear. Perhaps even small actions to enhance border security will placate the President-elect enough to avoid such a severe trade outcome. Regardless, the situation resumes the use of trade as a public negotiating tool to address both trade and non-trade issues—and with it, more volatility. For markets, the initial risk sell-off was short-lived as investors discounted the potential for an all-out trade war. For the Bank of Canada (BoC), we don’t expect the threat to dissuade it from cutting the overnight rate again next month.

Economic data

On the data front, the BoC’s case to reduce rates again at the last meeting was supported by the release of September GDP, which came in below expectations at 0.1% M/M. The monthly print also brought the annualized Q3 growth rate to 1.0%, which is down from 2.2% last quarter and notably below the BoC’s most recent Q3 forecast of 1.4%. Net trade and inventories were the main drags on headline growth, partially offset by a surprisingly resilient Q3 household consumption figure of 3.5%. The flash estimate for October GDP came in at 0.1% M/M, implying a weak handoff to begin Q4. It also creates a bigger hurdle to meet the BoC’s 1.8% Q4 growth forecast. All in all, the print supports another interest rate cut in December.

Bond market reaction: Moved lower

US and Canadian bond yields moved nearly 20 basis points (bps) lower across the curve this week. The initial decline happened on Monday following the incoming administration’s nomination of Scott Bessent as Treasury Secretary. Bonds rallied as Bessent is perceived to be a strong voice on the importance of reducing the US spending deficit. Canadian yields followed suit on the weak GDP release while the upcoming December 1, 2024 index extension provided a seasonal bid to long-term bonds. Canadian corporate credit spreads were modestly tighter as quarterly earnings from the big banks come into focus next week. Primary supply also continues to be well-received, especially those of new issuers such as Husky Midstream, Gildan Activewear and Sleep Country Canada.

Stock market reaction: Continued to rise

Despite elevated geopolitical tensions and the quantification of potential US tariffs on Canada, Mexico and China, stocks continued to rise. This pushed major indexes to record high, including the S&P 500 and S&P/TSX Composite Index. The risk-on trade was in favour. However, uncertainty lingers for companies within the consumer, energy and industrial sectors that may be impacted by a higher cost environment and reduced cross-border trade volume. Annualized market returns in North America are nearing historic record highs, albeit we’re seeing signals of a potential bifurcation of performance between Canada and the US. Company specific financial guidance and signposts indicate a stretched consumer, lower population growth and a weaker GDP set up in Canada versus tax reform, reduced regulations and more robust GDP growth in the US.

What to watch in markets next week

The data calendar is relatively light in Canada next week, but it will be highlighted by the November employment report on Friday. We’ll also see updated figures on international merchandise trade and labour productivity. US investors return from the Thanksgiving holiday to a busier slate of data, including the US November non-farm jobs report, the ISM manufacturing and services indices and the topical trade balance for October.

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Authors: Adam Ditkofsky, Pablo Martinez, Sandor Polgar, Steven Lampert, Craig Jerusalim, Diana Li, Mona Nazir and Mickey Ganguly

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