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Build portfolio resiliency as Bank of Canada highlights uncertainty
3/20/2019 5:42:16 PM
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By Fund Library News Wire  | Tuesday, July 17, 2018


By Kurt Reiman, Director, Chief Investment Strategist for Canada

One of my favorite definitions of risk and uncertainty comes from a book by Nate Silver entitled The Signal and the Noise. He defines risk as the grease that facilitates economic activity, whereas uncertainty grinds things to a halt. According to a popular index developed by Professors Baker, Bloom, and Davis, Canada’s economic policy uncertainty has moved to new highs in 2018 after rising for the past several years (see the Chart 1 below). No wonder the Bank of Canada (BoC) has been sounding so cautious even though Canadian economic data remain firm.

The most pernicious of these uncertainties has been the escalation of trade tensions in the wake of the 2016 U.S. presidential election. The heated NAFTA renegotiations and threats of a unilateral U.S. withdrawal were uncertain enough. Now, Canada finds itself ensnared in a larger ideological trade battle between the U.S. and China over the Trump administration’s broad imposition of tariffs that includes imported Canadian steel and aluminum and that has prompted Ottawa to retaliate.

The potential for more tariffs, this time on automotive imports into the U.S., and the Trump administration’s tendency to respond to trade retaliations can keep tensions high from here. Of course, there’s already a good reason for the BoC to go slow to avoid rattling a highly rate-sensitive economy, but even more so given the unpredictable path of trade negotiations and the impact protectionism could have on highly integrated global supply chains.

In that spirit, Governor Poloz seems to be abiding by the Hippocratic Oath: at first do no harm. One could easily make the argument that there’s nothing wrong when looking at the S&P/TSX Composite Index posting new highs, but this would be ignoring the signals coming from the Canadian dollar, which is probing new cycle lows.

Two things stand out. First, in Canadian dollar terms, the Canadian stock market is one of the worst performers in the developed world in 2018 (see the Chart 2 below). Second, compared to other currencies, the loonie is one of the only major currencies following short-term interest rate differentials (see the Chart 3 below). For now, high oil prices don’t matter to the loonie – these days it’s not behaving like a petro currency.

The Bank of Canada’s raised rates last week, and we think Poloz is right to highlight uncertainty at this stage. The economic outlook has become more uncertain, financial conditions have tightened, and consequently we think investors should build more resiliency into portfolios. As a result, we recommend taking shorter-duration postures in fixed income with an up-in-quality bias in credit. As well, we have focused on taking exposure in equity markets with the greatest earnings growth like U.S. equities and the technology sector. And we have recently begun to stress the importance of companies with solid balance sheets and ample cash flow generation (i.e., quality).

Kurt Reiman, Director, is BlackRock’s Chief Investment Strategist for Canada and is a member of the BlackRock Investment Institute (BII).

Notes and Disclaimer

© 2018 by Fund Library. All rights reserved. Reproduction in whole or in part by any means without prior written permission is prohibited. This article first appeared in the BlackRock Blog on the BlackRock Canada website.

Important information

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date indicated and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any of these views will come to pass. Reliance upon information in this post is at the sole discretion of the reader.

© 2018 BlackRock Asset Management Canada Limited. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. Used with permission. 50766

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