Ashleay: Welcome to iA Financial Group’s “In Your Interest” podcast, where we aim to share with you the essentials of economic news and its impact on your finances. My name is Ashleay, and this week we're taking a look at the latest economic news with, as always, Sébastien Mc Mahon, our Chief Strategist and Senior Economist, and Adil Mahroug, Senior Strategist and Director in the Asset Allocation team. The year 2023 is still very young, and it seems to me that the markets are in a state of flux. After a hectic year in 2022, our listeners would certainly have preferred a return to calm. Sébastien, Adil: welcome! Can you summarize the major themes at play since the beginning of 2023 for us?
Sébastien: Hello, Ashleay. It's great to be here and especially with my colleague Adil.
Adil: Hello, Ashleay, Sébastien.
Sébastien: First time on the podcast, but first of many, I'm sure, Adil. You've been with us for, what, six months?
Adil: Just about six months, yeah.
Sébastien: Yeah. And we've been working together all this time. Adil is part of the Asset Allocation team. So we're looking at the economy, we're looking at markets, we're looking at fundamental trades together. It's great to have you here today. When we discuss strategy, of course, we’re at the beginning of 2023; like every other economist out there, we’re expecting a recession at some point—which people were calling the most expected recession in history--and everyone was looking at inflation slowing down in 2023, rates from central banks rising early in the year, then a pause followed by a fall. But now post SVB—post Silicon Valley Bank—maybe things have changed a little bit?
Adil: Yeah, absolutely, Sébastien. So pre-SVB—pre banking crisis in the United States, and then a little bit later in Europe—the major themes were inflation, growth and monetary policy; we were in a situation where there was quite a bit of uncertainty—even though you're absolutely right, it was probably the most anticipated recession in history—but given the high inflation, there were some sectors that were still interesting and were opportunities to position in terms of investments. And one of them was the utilities sector, which is a very strong inflation hedge. So with utilities: if you're, let's say, an electricity producer and you're selling electricity to the retail market, usually you would have clauses in your contracts that specify that you can index your prices to inflation. So whenever inflation goes up, your prices go up as well, and in that way you're kind of protected from rising prices.
Sébastien: Yeah. And we were also wondering about the lingering impacts of the very quick rise in interest rates by the central banks. That was a theme we were looking at in 2023; we've been advocating prudence, let's say a defensive stance in portfolios—not, you know, running for cover, but at least not plunging into the most speculative themes right now. I mean, when rates rise quickly, at some point something somewhere is going to break. Maybe that's what we saw. Maybe that's just the beginning. Maybe it's going to be contained. But still, for investment themes post-SVB, we need to look at the world differently, right?
Adil: Yeah, absolutely, Sébastien. We're in a different world. I mean, some sectors are still going to be good: Consumer staples, for example—people still need toothpaste, so that's there to stay. But we're looking at higher uncertainty and we're looking even within the banking sector at differences, let's say, between Canada and the United States. So Canadian banks have traditionally been more resilient than those in the US, thanks in no small part to a stronger regulatory framework and more stringent constraints on Canadian banks. This is something that we do look at quite a bit
Sébastien: Yeah, and the Canadian stock market is diversified in a different way than in the US. The US is more widely diversified, but here we have a lot of exposure to banks. The exposure of energy and natural resources is a bit higher in Canada. So investing locally you get a different flavour.
Adil: Yeah, absolutely. Just by being exposed to the Canadian market, we get exposure to some sectors that are really going to be major over the next decades. For example, we have a strong base metal industry—and you might say “what does this have to do with the growth sector? It's been around for a while”—but if we want to reach the target set by the Canadian government of having 100% of new car sales being electric by 2040, then we need those metals to build those cars. We’re talking about copper, lithium and nickel, for example. And there has been a chronic underinvestment in these metals for the past decade. Meaning that it's a good opportunity for us to position ourselves in those markets. Not only that, but if you look at it from an ESG perspective, this is the best of both worlds.
Sébastien: An ESG, of course, is very important in 2023 and is likely going to be growing in importance over the next decade or decades. So it's important to environmental issues, but also in terms of social and governance. And there are some issues regarding the social part—very importantly—around the production of resources across the globe. So in Canada, maybe we're favoured in this respect.
Adil: Yeah, definitely. Let’s look at cobalt, for example. Cobalt is a prime example of ESG issues when it comes to base metal production in the Democratic Republic of Congo, where 70% of the world’s production of cobalt comes from. But the working conditions are absolutely unacceptable there. So when we're looking at base metals, we're also looking at where to source them. And of course, we favour Canada when it comes to these metals.
Sébastien: And, you know, we've been saying for months now that we tend to be underweight equities, but it's pretty much all in the US, the underweight elsewhere. We tend to be neutral and we even tend to be positive on the Canadian stock market because it's relatively cheap historically and compared to other markets. But also, it has strong exposure to some sectors like that, where, in the ESG world, if you want to have resources but you also want ethical production, then Canada makes a lot of sense.
Ashleay: And even before the health crisis, we were already hearing about the decoupling or the disassociation between the economies of China and the United States. The pandemic we recently experienced has reminded us of how interconnected global economies are. Has the global dynamic we once knew changed?
Adil: Well, the global dynamic—that is the decoupling of the US economy and the Chinese economy—had started even before the pandemic. So, for example, I mean, we all remember some of President Trump's tweets that shocked the world and set in motion that decoupling between China and the US. But we also remember that during the pandemic, there were some goods that we were unable to get, and there were runs on supermarkets, grocery stores and pharmacies. This showed us the need to move from a just-in-time system to a just-in-case system. This will lead to a reshuffling of the global supply chain. And we see a wonderful opportunity there.
Sébastien: Yeah, and globalization has been one of the drivers of growth for the last 50, 60 years. And we, the developed world, sent its production of more polluting goods to other parts of the world, therefore providing those things at lower costs—which was disinflationary. Now that we need to reshore some of that production, we might see increased inflationary pressures for the next few years. So, again, having some exposure to the more cyclical parts of the economy, like in the Canadian market, also ties with this this view.
Adil: Yeah, absolutely, Sébastien. There was always an implicit cost of having to produce goods far away from Canada. There was always a cost: not only the cost of transportation, which we did pay, but there was a cost in terms of security, in terms of, you know, pollution, which is not directly accounted for in the price that we pay. So having warehouses in Canada to stockpile those resources, but also having assembly factories, for example, that are closer to home—or at least more diversified geographically—represents a big plus from the ESG perspective.
Ashleay: So we spoke a lot about terms and equity. Can we maybe speak a little bit more about bonds?
Adil: Yes, absolutely. So, as we all know, bonds are closely related to monetary policy and the additional uncertainty that was created because of the regional banking crisis in the US and the banking crisis in Europe shows us that there will still be lingering uncertainty when it comes to the bond market. But we still believe that we are near or at peak rates and therefore are constructive when it comes to the bond market. We're still expecting positive returns, but massive volatility over the next few weeks, at least.
Ashleay: Great. Thank you so much, Adil. Thank you, Sébastien. It was great. And to all our listeners: Thank you for being here and we hope to see you next week. Love this podcast? Want to know more about economic news? Follow our “In Your Interest” podcast, available on all platforms. Visit the Economic News page on iA.ca or follow us on social media.
Sébastien Mc Mahon joined iA Financial Group’s economy team in January 2013. Throughout his career, Mr. Mc Mahon has held various positions in several prominent financial institutions, notably at Quebec’s Ministry of Finance and the Autorité des marchés financiers, Quebec’s financial market regulator.
Sébastien Mc Mahon also serves as Vice-President, Asset Allocation, and Portfolio Manager for our subsidiary, iA Investment Management Inc. (iAIM), with assets nearing $15 billion. Mr. Mc Mahon is also a member of the firm’s asset allocation committee.
Sébastien Mc Mahon and Adil Mahroug
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