Welcome to the Chalten Investment Review for Q2 2016. This quarter we all became very familiar with a new word – Brexit! The results of the long awaited referendum on whether or not the UK will remain as part of the European Union surprised many and none more so than the markets. Right up until the last moment both currency and equity markets seemed quite comfortable that the chance of a successful “leave” vote was slim to none. Then POW! The pound quickly dropped to levels not seen in 30 years versus the US dollar and global stock markets gyrated wildly trying to figure it all out. Two weeks later we have a leadership vacuum in the UK and every democracy in the entire world is wondering what it all means for their own political, social and economic future. Populism seems to be the new catch word of the day. We tried to tell our old colleagues in London and New York that it didn’t start with a Trump in the US or a Boris in the UK but with a Rachel in AB back in May 2015 – “Rachel who?”, they ask.
We highlighted early in June that now more than $10 trillion of global sovereign debt is trading at a negative yield. What will this mean for savers and for markets going forward? It is difficult to say but no doubt more interesting changes await us.
Change is constant and always a source of both risk and opportunity. Some change is foreseen well in advance, and some, like that driven by the Brexit vote results, hits us a little more unexpectedly. While surprises can shock financial markets and economies, that doesn’t mean we can’t be very well prepared to react. A well thought out financial and investment plan should give you the confidence to react in a predetermined and disciplined manner, adjusting and rebalancing when necessary. Those without a plan are more likely to react poorly and make rash, heat of the moment decisions that are more likely to cause harm than be opportunities for a speculative windfall or astute defensive manoeuvre.
Q4 Market Review
The equity markets generally started Q2 2016 marching forward with confidence – the US Federal Reserve further delayed increasing interest rates, monetary and fiscal policy around the world continued to accommodate economic growth and higher oil prices seemed to signal better demand in the commodity and industrial sectors. However the quarter finished in a Brexit inspired volatile flurry with most turbulence hitting the European stock markets in the days following the referendum. Markets came back quite strongly in the final days of the quarter, with overall returns for the three months ending in June positive for North American equities and a little more mixed elsewhere in the world. Government bond yields were down across much of the world with more and more sovereign yields moving into negative yield territory. The end of quarter volatility saw an increased demand for government debt as investors flocked towards safe assets. The Canadian dollar also began the quarter strongly versus the USD, faltered a little with the uncertain impact of the Fort MacMurray fires and a pause in the rise of oil prices towards the end of the quarter but still finished slightly up on the USD for the quarter and is still up approximately 7% year to date.
- In Q2 the total return on the Canadian stock market was 5.1% overall and positive in each individual month.
- In the US, the Q2 total return on the S&P500 in Canadian dollar terms was 1.9%.
- The Q2 total return on the MSCI EAFE Index of stocks outside of North America was -1.8% in Canadian dollar terms weighed down by underperforming European stocks.
- The Canadian dollar gained 0.5% against the US dollar during Q2.
- Q2 total returns for Canadian bonds were 2.5%, beating US bonds in CAD terms by a little under 1% and just edging global bond indices in CAD terms. Yields on bonds are at historic lows, but returns can still be positive and attractive if yields can continue to fall and demand for the asset class remains robust.
Financial Planning topics of interest
On June 20, the provincial and territorial governments agreed a deal with federal Finance Minister Bill Morneau to expend the Canada Pension Plan. What is the motivation for doing this? According to the Globe and Mail and Statistics Canada, in 1971 roughly half of the male working population in Canada had a defined benefit pension plan meaning they were entitled to a set monthly pension in retirement calculated as some percentage of the pay they received while working. The pension was guaranteed by the employer and the risk of delivering the pension benefit remained with the employer. By 2011 only 25% of working men had a defined benefit pension as defined contribution pensions became more popular, leaving the responsibility and risk for saving with employees. This hasn’t actually turned out particularly well for the average worker as there is now a fairly widespread concern that current savings rates are insufficient for people in the future to be sure of adequate living standards in retirement.
The new liberal federal government seemed to be catalyst enough to make the changes that led to the June agreement and starting in 2019 workers and their employers will begin to make increased CPP contributions with total increased contribution rates rising from 4.95% to 5.95% by 2025. The projected benefit will see CPP payments increase from an average of 25% of preretirement earnings to 33% for pensionable earnings up to the current limit of $54,900. The other change is that the maximum amount of pensionable earnings will also increase from $54,900 to $82,700.
While some question whether the CPP Investment Board is up to the job of properly managing the assets at a reasonable cost, many agree that something had to be done to ensure Canadians have a respectable pension backstop in retirement.
We expect to see more volatility and more change as the implications and knock-on effects of Brexit become clearer. This fall’s US election is also surely to bring some interesting twists and turns as the situation plays out. Remember to watch with interest, curiosity and fascination but not with an eye towards speculation with your investments!
Good luck for the second half of the year!