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This week welcomed mixed economic data out of Canada. According to the Canadian Federation of Independent Business, optimism among small and medium-sized businesses in Canada climbed sharply from 47.7 in April 2024 to 56.4 in May 2024. This is the highest level it’s reached in nearly two years, with the retail and transportation sectors driving the positive read. The index also showed an improvement in hiring plans and overall business health. However, it also showed a decline in the share of business owners who cited weak domestic and foreign demand as a headwind to economic growth. Additionally, according to the Survey of Employment, Payrolls and Hours (SEPH), Canadian non-farm payrolls rose by 51.4k Month-over-Month (M/M) in March 2024 and average weekly earnings of non-farm payroll employees rose by 0.5% in March 2024 — that’s 4.2% Year-over-Year (Y/Y).

Q1 gross domestic product (GDP) growth for Canada came in softer, printing 1.7% compared to the 2.2% estimate. The weaker result was primarily driven by an inventory drawdown which contributed -1.5% to the headline print. Moreover, Q4 GDP growth last year was revised down to 0.1% from 1.0%, effectively showing stalled growth. The slowdown was anticipated given high interest rates and reduced savings during the pandemic, —both of which continue to be reflected in the data. With the Bank of Canada (BoC) expected to begin cutting interest rates in the summer, GDP growth is expected to pick up in the second half of this year.

In the US, the second reading for Q1 GDP was revised lower to 1.3% from 1.6%. The downward surprise was mainly attributed to slower consumer spending, arguably weighed down by slower income growth. However, the weakness was partially offset by stronger business and residential investment. Similarly, the core Personal Consumption Expenditures (PCE) Price Index recorded 0.2% in April, down from 0.3% previously. Economic cooling could mean the US Federal Reserve (Fed) has room to cut rates this year. But that might also be a concern for consumption and therefore corporate, profits. It’s critical to monitor whether these developments will translate into continued disinflation, as the Fed repeatedly said it needs clear evidence that inflation is coming down before starting to cut interest rates.

Bond market reaction: Traded heavy

Fixed income traded heavy this week following a lead from the US which sold off sharply starting Tuesday (Monday was a holiday) after a heavy supply of Treasury auctions and corporate and provincial issuances. The selloff was further exacerbated by Neel Kashkari (President of the Minneapolis Fed) who said despite current policy being restrictive, officials haven’t entirely ruled out additional rate hikes. This quickly dimmed the short-term rate outlook and markets went from pricing a full cut in November to now pricing it in for December.

Later in the week, the bond market rebounded as the latest US economic data bolstered speculation that the Fed will have room to cut interest rates this year, given GDP and personal consumption all missed analyst expectations. With the S&P total return at 5.5% and the UST index at 3.5% for the month, the expectation for month-end rebalancing is out of equities and into fixed income. As the wave of supply has been digested and asset managers receive their semi-annual coupon payments for reinvestments next week, fixed income should have some support.

Stock market reaction: Equities declined

Equities suffered their worst weekly decline since April. We could easily paint the picture that the pullback had to do with gains in Treasuries and concerns over the timing and pace of possible interest rates cuts. However, the more probable (and less satisfying) reason likely had to do with the holiday shortened week in the US, the lack of market liquidity post earnings and the 50% advancement in the S&P500 since October 2022.

The S&P/TSX would have been down even more, had it not been for CIBC and Royal Bank (RBC) figuratively putting the Canadian market on their backs and rising 7% and 5% respectively after reporting stronger than expected second quarter results. National Bank, CIBC and RBC delivered the three best results out of the group, in sharp contrast to Bank of Montreal’s (BMO) disappointing results on Wednesday. BMO’s 9% single-day drop amounted to a 7 standard deviation event —something we don’t see very often for members of the strong Canadian Oligopoly.?

In oil news, OPEC+ members are discussing whether to prolong production cuts into the second half of the year when they meet this weekend. One signpost suggesting which way the group will lean is the US$10 billion Saudi Aramco share sale on Sunday, the same day as the OPEC+ meeting. Any extension of the cuts should support oil prices that have seen West Texas Intermediate (WTI) crude oil struggle to sustain a price above US$80 per barrel, despite resilient demand.

What to watch in markets next week

Next week will have a busy calendar. Monday is a big coupon reinvestment day for investors as Treasury and provincial bonds pay their semi-annual coupons. Wednesday we’ll get the BoC’s interest rate policy decision. The market is currently pricing in an 80% chance of a 25 basis point (bps) cut. All eyes are on the headline decision as well as the forward guidance for any hints on the future path of interest rates. Finally on Friday, we’ll get employment data out of both Canada and US for the month of May.??

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

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