Financial Letter Second Quarter of 2019

Market review

By Louis Lizotte, CFA, FRM, Vice President, Investments, FÉRIQUE Fund Management


Source: MSCI

Sources: Bank of Canada, Federal Reserve Bank of St. Louis, U.S. Energy Information Administration


Source: National Bank Trust


In June, faced with generally discouraging economic data and, above all, an inflation outlook that remained contained, the cavalry (the central banks) once again rode to the rescue of the stock markets. Both the Fed and the European Central Bank (ECB) confirmed that their accommodative monetary policies would continue. Aside from the positive stock market reaction almost everywhere in the world, longer-term interest rates have fallen further since these announcements. Note that 10-year bond yields in Canada and the United States are among the highest in the developed world.

Comparison of interest rates between various countries

Source: Bloomberg

In this context, FÉRIQUE’s Bond Fund and its Diversified Income Fund1 generated a return of 1.9%, adding to an excellent start to the year for these two asset classes.

1 Since the end of June, the FÉRIQUE Bond Fund is called the FÉRIQUE Canadian Bond Fund and the FÉRIQUE Diversified Income Fund is called the FÉRIQUE Globally Diversified Income Fund.


In the previous letter, I referred to the excessive expectations for U.S. interest rate cuts that were priced into the market (two decreases at that time). Let’s just say that the situation hasn’t improved!

In fact, investor expectations, as reflected by futures contracts on the U.S. key rate, indicate no fewer than four 0.25% rate cuts over the next year. It’s a scenario that would occur if the signs of a recession in the United States were obvious. But that is not the case.

The 17 participating members of the Fed have helped raise these expectations by radically changing their stance since the beginning of the year.

Of the 17 members, 11 think there will be two increases in the key rate in 2019, one of them is predicting only one this year, and five are forecasting two rate cuts! This situation has created an interesting paradox: the global bond market has a pessimistic view of the economic outlook whereas the stock market is optimistic. Which market will be right?

Number of Rate Hikes in 2019

Source: BCA Research


Since the beginning of the year, the Canadian market has continued to lead (in local currency) in terms of returns, even though the best results have come in smaller sectors, such as Information Technology and Health Care.

Canadian Market Returns to date in 2019 and in Q2 2019


Source: MSCI

The Canadian stock market, as measured by the MSCI Canada Index, returned 2.8% in the second quarter.


After the record employment gain in April, the momentum continued in Canada in June. As a result, the Canadian economy is in a very solid position, considering that the unemployment rate, at 5.4% at the end of June, is at its lowest level since this statistic began to be published in1974.

Even so, with about 65% of our economy tied to world trade, this context makes us vulnerable to a prolonged economic downturn.

The Bank of Canada continues to be cautious in managing monetary conditions even though the Canadian economy is among the strongest in the world this year. It is generally accepted that the expectations were low! This explains the rise of the Canadian dollar earlier this year. It would probably be even higher today had it not been for the oil price decline, which took a toll in the second quarter.

Despite a significant deterioration in the global economy, the Canadian stock market is expected to maintain its year-to-date gains and even advance further, albeit more modestly.



It was a positive quarter for U.S. equities despite the sharp decline in May. This weakness did not prevent U.S. stocks from reaching new highs in June. Large caps again outperformed small caps, and growth stocks did better than value stocks.

The index returned 2.0% (MSCI USA in Canadian currency). The loonie’s strength against the greenback decreased in the return to Canadian investors by about 2%.


So, are we in 1990, 2000 and 2007 or in 1995, 1998 and 2016? The difference is important and can perhaps explain what the Fed intends to do in the near future. It will be recalled that 1990, 2000 and 2007 marked the start of rate-cutting cycles in response to recessions. But we tend to forget that, in 1995, 1998 and 2016, the Fed made far-sighted decisions concerning rates to allow the growth cycle to continue.

The Fed's Historical Key Rate

Source: BCA Research

A number of experts are predicting that the Fed will shift into precautionary mode, as in 1995, 1998 and 2016. It’s an important distinction because, if that is the case, the current business cycle will be even longer and will have a positive effect on the stock markets.

Looking at the following table, which presents a number of economic indicators, we can see that, in general, the situation isn’t excellent, but isn’t too bad either.  

Economic Indicators

*Although generally not apparent!

Source: FÉRIQUE Fund Management

Finally, the employment figures published in early July confirm the strength of the U.S. economy, with household spending accounting for 70% of GDP. A significant proportion of the job gains occurred in manufacturing, the very sector that is supposed to be hit hardest by the trade war.  If companies feel confident enough to hire workers in order to increase their output despite the uncertain business environment, this must certainly be seen as a positive sign.

Another interesting component is that retail sales in the sports and electronics sectors were up during the quarter. This is also positive because, in times of economic uncertainty, it is generally individuals who cut back on their spending first.

All eyes will be on the Fed’s meeting at the end of July, when, as always, every word will be dissected to detect its intentions regarding the key rate. There is definitely a risk of disappointment and market adjustment if the Fed does not cut the rate at this meeting.


The sectors sensitive to economic growth continued to lead the global markets, with Materials and Financials standing out, while Energy declined along with the price of crude oil.

Global Market Returns to Date in 2019 and in Q2 2019

Source: MSCI World

China, which had the best stock market in the first quarter, was one of the worst performers in the second. For the reasons cited above, this reversal affects the region as a whole and emerging markets in general.

The MSCI Europe Index, the MSCI All Country Asia Pacific Index and the MSCI Emerging Markets index returned 2.6%, -1.3% and -1.5%, respectively.


The slowdown continues in several regions of the world. For example, as shown in the chart below, the Manufacturing Purchasing Managers’ Index is pointing downward and has fallen below the key level of 50 in several important regions.

Purchasing Managers' Index

Source: BCA Research

Another indicator of this slowdown is that exports from Singapore, a global trade hub, fell by 16% over the past year.  

After the negotiations broke down, the Americans raised their tariffs on $200 billion of Chinese imports from 10% to 25% and blacklisted Huawei. The repercussions were felt around the world. The Chinese retaliated by raising their tariffs on $60 billion of U.S. imports to 25%. The focus then shifted to the G20 meeting at the end of June. There was no breakthrough but presidents Trump and Xi agreed to resume the negotiations. The Americans have also reduced the pressure on Huawei.

There is no doubt that this situation will continue to affect the markets. In this context, fiscal stimulus will be back on the agenda all over the globe. The Chinese have been moving in this direction since the end of 2018, and the effect should start to be felt in the second half of 2019.


Mr. Trump tends to be conciliatory when the markets stumble but less so when everything goes smoothly. We have to get used to this reality and the volatility it implicitly leads to. 

Nevertheless, the American President can be expected to make an effort to ensure that the economy and the market do well, to maximize his chances of re-election. The concern is that the means to achieve this goal could prove to be short term-ist and do more harm than good in the long run.

For now, the scenarios are becoming polarized. If economic growth stabilizes as a result of a tariff agreement or expansionary fiscal measures, European, Canadian and emerging markets equities could benefit. In the opposite case, money market funds and federal bonds will serve as the usual safe havens.



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