July 2022 Portfolio Management Team Update  

Elvis Picardo

July 22, 2022

July 2022 Portfolio Management Team Update 
By Elvis Picardo, CFA®, CIM, Portfolio Manager, iA Private Wealth
July 15, 2022

Market & Economic Environment
Global equity indices plunged in June, capping an exceptionally challenging first half of the year, as recession concerns escalated amid softening economic data and tighter monetary policy. 

The TSX Composite tumbled 9.0% in the month, bringing its Q2 decline to 13.8% and taking it into official correction territory with a YTD change of -11.1%. All 11 sectors that comprise the index fell, with the health care group (-18.1%) the worst performer for the month, followed by the cyclical materials (-15.0%) and energy (-12.5%) sectors on steep price declines for commodities, crude oil, and natural gas. Real estate plummeted 10.2%, while the financials and technology sectors declined 9%. On a relative basis, the best performing sectors were industrials (-1.4%) and utilities (-3.2%).  

Including dividends, the TSX had a total return of -9.9% in the first six months of the year. The energy sector was by far the best performer, with returns of +26.2%, while utilities was the only other group to finish in the black as it eked out a 1.3% return. In addition to the utilities sector, other defensive groups such as communication services (-0.7% return) and consumer staples (-1.1%) also significantly outperformed the TSX Composite. The worst performing sectors in the first half were health care and technology, with both tumbling more than 50%. Shopify plunged 77% for the dubious distinction of being the worst performing TSX stock in the first half, with Aurora Cannabis and Bausch Health rounding off the bottom three.  

In the U.S., the S&P 500 fell 8.4% in June, for a Q2 loss of 16.5% and a YTD decline of 20.6%, making it the worst first-half performance for the index since 1970. The Nasdaq Composite fell 8.7% for a Q2 decline of 22.4%, bringing its YTD loss to a whopping 29.5%. The Dow Jones fared better, with its 6.7% pullback in June taking its Q2 loss to 11.3% and YTD decline to 15.3%. Many major bourses in Europe and Asia endured similar double-digit declines in Q2 for a YTD loss of 20% or more.   

(Data Source: FactSet)   

Our Strategy 
The global growth outlook has deteriorated remarkably quickly in the space of a few short months. With inflation at a four-decade high of about 8% in Canada and the U.S., investors’ attention remains focused on central banks’ efforts to quell inflation through sustained interest rate hikes. 

On July 13, the Bank of Canada boosted its benchmark interest rate by a full percentage point, the biggest increase since 1998. This was the BoC’s fourth rate hike since March and followed two subsequent 50 basis-point increases, taking the benchmark rate to 2.5%. The Federal Reserve has also embarked on an aggressive rate hike strategy, with an increase of 75 to 100 basis points in the federal funds rate expected later this month.  

 10-year government bond yields have declined by 38 and 36 basis points in Canada and the U.S. respectively, suggesting slower economic growth in the months ahead. As a result, the spread between 2-year and 10-year Treasury yields is currently the most inverted since 2000; market-watchers interpret this yield curve inversion as a signal of an imminent recession.  

Recession fears have also taken their toll on the TSX, which is dominated by cyclical sectors such as financials, energy, and materials. The TSX’s margin of outperformance versus the S&P continues to narrow and is presently at 5.6 percentage points (TSX -13.4% YTD vs. S&P 500 -19.0%), compared with a 17-year high of almost 13 percentage points at end-April. (Data Source: FactSet, Bloomberg) 

Some economists believe Canada may be hit harder than the U.S. if a recession materializes, because of the substantially greater contribution of housing to the Canadian economy. This concern may be manifesting itself in the performance of the Big Five banks, which have plunged from record highs earlier this year into a bear market, with declines of more than 20%. This does not bode well for the TSX Composite’s near-term outlook, as the financials sector makes up almost one-third of the index.  

The PMT has already rebalanced client portfolios three times in the first half of 2022. In our larger models, our Canadian and U.S. stock picks are outperforming the TSX and S&P 500 by about 8 percentage points. While we see plenty of buying opportunities in the U.S. markets, we are presently proceeding cautiously with adding to equity positions, given the heightened degree of uncertainty. Our gameplan for the rest of the year hinges on whether recession concerns intensify or recede.   

If a recession appears imminent, we intend increasing the defensive tilt in client portfolios by trimming growth-oriented securities and allocating the proceeds to fixed income and dividend paying stocks in sectors such as health care and consumer staples. Conversely, if wildcard events that have affected investor sentiment get resolved – such as an end to the Russia-Ukraine conflict, or an easing of supply chain issues and labour shortages as the Covid pandemic recedes – investors may expect inflation to peak and monetary policy to get less restrictive. In such a scenario, we intend paring down our exposure to alternative investments and topping up our allocation to growth securities to capitalize on the anticipated relief rally.  

Please contact any member of the PMT if you have any questions or concerns regarding your accounts.