2017 was an eventful year with major equity markets continually hitting new highs. We started off with a new US President and Russia’s US election influence. US policy changes dominated the news with effects on trade policies, deregulation, taxes as well as the environment (the Paris climate pullout). Meanwhile, new Fed leadership was announced and the Fed continued to gradually tighten monetary policy with three rate hikes and a reduction of Federal reserves amid steady US economic and employment growth and a weaker USD.
Further afield, Europe saw renewed economic and employment growth along with increased European financial and tax avoidance regulations (MiFID II). European elections, continuing Brexit negotiations and the Catalonia secession vote had minimal impact. OPEC extended their output cut, there were tensions with North Korea and uprisings in Iran and Saudi Arabia. Finally, cryptocurrency mania rounded out the year.
Overall, corporate earnings increased by 23% globally, reflecting the more synchronized economic expansion taking place in the US and spreading to Canada, Europe and Asia, with commodity-based economies underperforming. As a result, the stock markets around the world produced very good results, whereas bond markets lagged due to gradually rising interest rates. Preferred shares made further gains in Canada as credit spreads tightened and valuations recovered from the 2015 selloff.
The appreciating CAD tempered US and emerging market equity returns in 2017 by -6.6%. However, a stronger Euro/CAD enhanced returns in those markets.
The Canadian economy had surprisingly robust growth of 3% across all sectors. This enabled the Bank of Canada to increase its bank rate by 0.25% twice this summer. After a two-year recession, resource-based provinces showed economic and employment improvements in Q4. Pipeline projects seem like a logical solution for getting our resources to global markets and creating construction projects. Keystone XL pipeline and the Trans Mountain project were federally approved. However, the new NDP government in BC vowed to stop the Trans Mountain project, while the Energy East and a $36 billion LNG plant in BC were cancelled.
Other significant events in Canada included the corporate tax overhaul, marijuana legalization bill and the increased US tariffs on softwood lumber and planes prior to the NAFTA negotiations. There was an exodus of foreign firms from oil sands projects – Shell, Statoil, Marathon and ConocoPhillips.
Canada’s economic and job growth has been surprisingly good, but we still face high household debt, rising interest rates, low commodity prices, and real estate bubbles in Toronto and Vancouver. A higher CAD is not wanted at this point.
US geopolitical policies have caused foreign countries to seek different global leadership as they become more Trump-wary. There is growing alignment with China as they make more progress on trade and investment deals. Cyberattacks and geopolitical issues in North Korea, Syria, Russia, Saudi Arabia, Iran, along with terrorism are still risks to be monitored. However, risks like who has the “biggest button” on their desk (Trump or Kim Jong-un), are difficult to quantify.
Europe appears to be following the same economic path as the US, but is 3-4 years behind. Strong job growth and leading economic indicators look promising. Japanese corporate earnings and revenues are improving with the increase in global trade. Chinese infrastructure and housing sectors are slowing but overall economic growth is holding steady at 6.8%. Synchronized global growth and a relatively stable Chinese economy bodes well for emerging markets.
We remain underweight in bonds and have a short duration, which mitigates price adjustments as interest rates slowly rise. We remain fully invested in preferred shares which nicely complement the bond component of our client portfolios.
Our Canadian equities fell behind the TSX composite in Q4 as we have minimal exposure to the recovering resource sector. We expect Small Cap stocks to outperform in this late stage of the investment cycle and we remain overweight.
Our strategy throughout 2017 was to take profits in US equities and reinvest in offshore equities. In late December, we extended this rotation into emerging markets after they underperformed US equities by 5% in the month, providing a trading opportunity.
The main factor that effected portfolios in Q3 was currency. This resulted in negative attribution for USD-based assets.