Equity Markets

This quarter was marked by the inauguration of President Trump and the political circus that followed, including new concepts such as “alternative facts”, the triggering of Article 50, which signals that Britain will officially leave the EU no later than April 2019, and continued concerns about pro-protectionist sentiment in Europe. While all of this made for great headlines, it hasn’t rattled the markets as all the major stock indices generated positive returns in the first quarter of 2017. Investors focused on the positive economic data, signs of global reflation and improving earnings outlook.

In Canada, equities are giving back some of their relative gains from last year but still performed well in the absolute sense. The first quarter of the year was positive as the S&P/TSX Composite returned 2.4%, which is lower than the return generated by US and International equities. The big banks performed well, which enabled Financials (+4%) to support the benchmark return. In contrast, the energy sector was notably weak (-5%). Given the latter’s important weight, this dragged down our market’s return for the quarter. All other sectors, except the tiny Health Care component, managed to generate positive returns for the period. Materials, Consumer Discretionary, Industrials, Utilities, and Technology all performed admirably during the period.

US equities outperformed the Canadian stock market in the first quarter of 2017, with the S&P 500 index extending its strong post-election rally in the, delivering a 6.1% total return in USD for the period. The loonie was modestly stronger leading to a 5.5% total return in CAD terms. Investors have embraced the prospects for reflation of the US economy, driven by increased investment, higher wages, and prospects for deregulation and lower taxes. Investor and business confidence has risen since Trump was elected. Market earnings multiples have expanded and are now 1.5 - 2 points higher than historical average. Earnings growth was strong in the last quarter of 2016 (+5%) and analysts are expecting nearly 10% earnings growth in 2017. Finding a single theme to this first quarter is difficult, but clearly large cap Technology names such as Apple, Amazon and Facebook were the big winners, accounting for 23% of the total S&P 500 return this quarter. There was a welcome revival among the beaten-up Health Care sector after a tough 2016. In March, the Federal Reserve delivered the first of three anticipated 2017 rate hikes. Despite this, the US 10-year bond yield traded in its post-election range and was little changed overall. This lead to uninspired performance from Financials and other interest rate sensitive stocks, except for Utilities, which performed well in the quarter.

Bouncing back from a dismal 2016, this has certainly been a great start to the year for international equities as continued improvements in economic data and corporate earnings resulted in strong outperformance versus North American equities. The MSCI EAFE Index had a positive 6.7% return in Canadian dollars for the quarter. This was more than welcomed by investors given last year’s underperformance. We have seen strength in most international regions this quarter as well as across all sectors, except for Energy, which was the only sector with a negative return (-2%).

We continue to be wary about being overly exposed to fixed income assets and interest sensitive equities. Although the recent failure of the health care reform in the US raises questions on the implementation of other Trump policies, signs are pointing to higher interest rates with the Fed having already increased rates this quarter and signaling for more rate hikes this year. There is limited room to move interest rates lower and we believe that this most recent trend has further to go over the medium term, which would be a headwind for interest sensitive assets. We are generally constructive on equities given reasonable valuation levels and improving earnings trend. We nevertheless are expecting bumps along the way, especially given the more volatile geopolitical picture.

Fixed Income Markets

The beginning of 2017 was one of mixed signals as economic data in Canada strengthened while the US delivered weaker data. As a result, the bond market had little direction and traded within a defined range through the quarter. Bonds rallied in February and March producing lower yields primarily in the seven to ten-year area of the curve due to bond short-covering activities coupled with weaker US data and a decline in oil prices. In the US, a failed bid to pass a healthcare bill to repeal Obamacare in the House of Congress has brought into question the ability of the new President to implement many of his domestic growth initiatives. Even if the US does not deliver on the expected fiscal initiatives, continued improvement in economic fundamentals for growth is expected as employment, consumer confidence and the wealth effect of consumer balance sheets showed increasing strength throughout the quarter. In Canada, growth in the fourth quarter of 2016 and first quarter of 2017 has remained strong with better than expected gains due to strong employment and income. Consequently, GDP growth for the first quarter in Canada has been revised up to 3.5 - 3.8% from 1.9% previously and should outperform the US where GDP growth is expected to slow to 1.6% for the quarter.

The Bank of Canada remained neutral throughout the quarter as Bank officials continue to remain cautious despite the strength of recent data. While a chance for a rate cut is now remote, the cautious stance by Governor Poloz and the uncertainty surrounding the impact of Trump’s pro-protectionist policies reduce the likelihood for a rate hike by the Bank of Canada in 2017. In contrast, the US has weakening economic data but it is viewed as transitory, with the economy expected to gain momentum as confidence continues to improve. While the US Federal Reserve was less hawkish at the March Federal Open Market Committee (FOMC) meeting, members nonetheless voted to continue to reduce policy accommodation with a 25 basis point rate increase, the second in three months. Going forward, the US Fed remains on track and is expected to implement two additional 25 basis point rate hikes before the end of the year.

The yield delivered by fixed income assets remained relatively stable through the first quarter of 2017 and traded in a narrow range. The Canadian two-year bond yield experienced no net change, closing the quarter at the same level of 0.75%, while five-year yields increased by only one basis point to 1.12%. During the same period, Canadian ten-year bond yields declined 10 basis points to 1.62%, while the thirty-year Canada yield declined only one basis point to 2.30%.