MARKET INSIGHTS

When less bad is good

Jun 11, 2020

Data surprised to the upside in Canada, and the Bank of Canada took a less cautious – but still cautious – tone last week. But it’s the improved situation overseas that has had the more important effect on lifting Canadian stocks in recent weeks.

Last Friday’s labour market report from Statistics Canada forced a double take. In May, the Canadian economy added 290K jobs, versus an expected further decline of 500K, and hours worked rose by 6.3% on a month-over-month basis. Together, these gains represent a 10% recovery of lost jobs and reduced hours since the pandemic lockdowns began. The unemployment rate edged up to a record high of 13.7%, though this was because more Canadians were actively searching for work – an encouraging sign. While the labour market is still feeling the pain from the initial shock as many workers remain underutilized, last month’s improvement moved forward the expected eventual recovery.

At its policy meeting last week, the Bank of Canada (BoC) also stated it believes the worst of the economic shutdown measures are now in the rearview mirror, even as it cautions that Canadian GDP could fall another 10-20% in the second quarter, with activity improving thereafter. As widely anticipated, the BoC held the overnight rate steady and announced no changes to its large-scale asset purchase program. That said, the Bank scaled back its open-market operations aimed at boosting financial market liquidity as conditions had already started to improve (see chart below).

Canadian bond market spreads, 2010-2020

Chart: Canadian bond market spreads, 2010-2020

Source: BlackRock Investment Institute, with data from Refinitiv Datastream, as of 5 June 2020.
Notes: Indexes used are the S&P Canada Investment Grade Corporate Bond AA Index, S&P Canada Investment Grade Corporate Bond BBB Index, S&P Canada Provincial and Municipal Bond Index. To approximate spreads, we compare the yield to maturity of the index to the Government of Canada 10-year bond yield. Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index.


Encouraging economic data releases and a more constructive tone from policymakers coincides with continued Canadian equity market strength and a recent pivot into cyclical, value-oriented stocks (see chart below). As of last Friday, the S&P/TSX Composite Index (TSX) had risen more than 40% since troughing on March 23 and is merely 13% below its pre-Covid-19 high. While the equity market’s undeterred climb isn’t exactly news, notable changes have occurred underneath the hood. Tech and materials (gold) stocks, which led the first leg of the TSX’s move higher, gave way to financials, consumer discretionary, and energy stocks over the past two weeks. Similarly, value stocks, which tend to have higher operating leverage, have outperformed amid hopes that economic growth and earnings have hit an inflection point.

Relative performance of cyclical and value stocks, 2020

Chart: Relative performance of cyclical and value stocks, 2020

Source: BlackRock Investment Institute, with data from Refinitiv Datastream, as of 5 June 2020.
Notes: For cyclicals vs. defense, we compared two equally weighted portfolios of cyclical (financials, energy, industrials, and consumer discretionary) and defensive (utilities, consumer staples, communication services, and gold) sectors within the S&P/TSX Composite Index. Value vs. growth compares the S&P Canada LargeMidCap Value and the S&P Canada LargeMidCap Growth Index. We use total returns in local currency.


This rotation in the TSX wasn’t principally a function of the better-than-expected turn of events in Canada but rather the outright positive developments overseas that made the most difference. The revival in Canadian energy shares and oil prices received another lifeline over the weekend on expectations that oil ministers from OPEC, as well as other producers led by Russia, would extend production cuts through July in the aftermath of the pandemic-driven demand shock and price decline. Expectations for broader fiscal stimulus in Europe, China and Japan last week as their economies reopened also helped to put a downside floor under economic expectations even as concerns mount over the risks of a second wave. In fact, Canadian stocks might have moved even higher were it not for the setback in the materials sector owing to weaker gold prices as risk appetites recovered (see chart below).

Selected sector returns, 2020

Chart: Selected sector returns, 2020

Source: BlackRock Investment Institute, with data from Refinitiv Datastream, as of 5 June 2020.
Notes: The Chart shows total returns (rebased to the start of the year) for selected sectors within the S&P/TSX Composite Index. Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index.


Have stock markets climbed too far, too fast? One could argue that revolutionary policy stimulus has provided a floor for the economy, that indicators have shown preliminary signs of stabilization, and that record low interest rates justify higher stock market valuations. But stocks are no longer definitively cheap, with cyclical sectors also becoming relatively more expensive in recent weeks. Furthermore, equity markets appear susceptible to a slower-than-expected reopening, especially if earnings don’t rebound in a V-shaped pattern as is currently anticipated in next year’ profit forecasts for the TSX. We therefore prefer the risk-adjusted performance profile of global corporate credit over stocks for the higher income potential and seniority in the capital structure.


Kurt Reiman
Kurt Reiman
Senior Strategist for North America, BlackRock
Kurt Reiman, Managing Director, is a member of the BlackRock Investment Institute (BII) and Senior Strategist for North America. In this role, Kurt contributes to the ...