We’re in a hiking cycle now, what that means for your clients
Why hikes now seem inevitable
Lapointe emphasized the BoC’s business outlook survey to show that as of now most businesses are only passing on about 20 per cent of the cost increases they’ve incurred from the conflict. They expect to soon pass on 44 per cent of those costs, which ought to accelerate inflation. Lapointe sees a resumption in prewar oil flows through the Strait of Hormuz as highly unlikely and so long as the conflict remains a feature of geopolitics he argues that inflation will remain elevated.
The Fed has been driven by similar inflation pressures, Lapointe notes, though their higher rates as a starting point and September hike gave Fed Chair Kevin Warsh enough cover to hold interest rates steady for this month. An unexpected slight rise in unemployment gave the central bank further cover to hold, but Lapointe is convinced that the Fed will hike again in December and will likely hike in March. He says that the BoC will likely hold in January after the December hike he predicts for them, because auto tariffs will take further hold in January if there is no resolution to US-Canadian trade disputes. He says the BoC will then move upward alongside the Fed in March.
Risks and opportunities for investors
Despite some volatility in the bond market, Lapointe argues that the higher yields a client can get in a balanced bond fund should make the asset class interesting. Even if we’re in a hiking cycle that could put further pressure on bond prices, solid yields and strong diversification might be enough to smooth out returns.
Looking at Canadian equities, Lapointe sees plenty of reason for positivity. Despite, or in fact because of, a lack of tech exposure on the TSX that equity market offers some attractive qualities to investors. Energy is, of course, in high demand but so are other commodities and mining stocks. The banks have a high degree of beta in performance to financial markets and can often do well as rates rise and increase net interest margins. Canadian financials’ exposure to under pressure aspects of the economy like the housing market should be considered, but Lapointe argues that the exposure is not as large as it once was.
Considering US markets, Lapointe says the outlook comes down more to a view on AI than a direct impact of higher capital costs. Despite large debt issuances on the part of AI ‘hyperscalers’ he argues that the existential nature of the AI competitive race means these companies are not very sensitive to interest rates in their spending strategy. AI now represents a significant portion of the S&P 500 across a number of sectors beyond technology, and an investor with a bullish view on the technology may see that as a positive. An AI skeptic may see that as a risk. US equity P/E multiples have compressed which might make the market look a bit cheaper from a valuations standpoint, while earnings continue to be strong. Lapointe cautions against a heavy weighting to tech at this point in the cycle and says that a slightly more cautious underweight to the US with a more positive view on Europe and Canada might be prudent.
