Interest Rate Bears Maul Markets - Your Money for August 18th, 2023

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Sometimes we have to wonder what goes on the minds of Wall Street traders. The Federal Reserve has been telegraphing as much as legally possible to state their interest rate policy stance to bond and stock portfolio managers and it is just dawning on them now that interest rates will stay higher for longer. In fairness, many of the economists advising Wall and Bay Street were forecasting a recession before the end of 2023 and it now looks like that will be pushed out to 2024 at the earliest. We would agree with that prognostication especially if central bankers on both sides of the border continue to ratchet up interest rates in the face of steady inflation. In addition, we believe we are seeing the beginnings of cost push inflation setting in due to tight labor markets and union led wage demands. If that were the only cause for concern, then the approach taken by central bankers could engineer a soft landing. But, in our opinion, at all levels of government on both sides of the border, “the borrow and spend” mantra will add economic stimulus well beyond what is financially feasible. The US Government already received a debt downgrade, and yet we are not seeing any fiscal measures to slow down government spending. Plus 2024 is another election year with oodles of cash being thrown in every direction that in our opinion will only bolster inflationary pressures.

And don’t get us started on Canada. Listing: Major settlements reached by month and COLA - A quick jump to this website shows the rapid rate at which labor contracts are starting to go up. When labor costs go up, businesses and governments have two choices. First, they can pass the cost on to the consumer through higher fees and prices or they can’t, and they either must reduce labour or see their profit margins shrink. And this is where it gets interesting. Take the auto workers for example. On the one hand, governments are legislating the adoption and manufacture of electric vehicles despite the massive costs of the batteries which lowers the profit margin and at the same time, labor is looking for huge bumps to their wage contracts. So, either car prices are going to soar which is inflationary forcing central bankers to keep the pressure on, or the auto manufacturers will bleed money out their income statement that will lead to lay offs, bankruptcies or bailouts.

Speaking of unintended consequences, has anyone thought about the price of electricity that must go up to offset the losses associated with gasoline taxes collected at the pump? We have already heard rumors of price increases at charging stations, but we think it is just the tip of the iceberg. We have been told over and over again the total cost of ownership of an EV is cheaper than a gasoline powered car but between the huge upfront cost of ownership differential and rising electricity prices, we think we will hold on to our gas guzzlers for now.

That thought alone keeps us looking at oil stocks for the foreseeable future. But in terms of safe haven asset classes, cash continues to be an acceptable alternative with money markets surpassing 5%. We would minimize our exposure to the middle end of the curve ie 7 to 10 year bonds as yields spiked up to a 16 year high earlier this week. Unfortunately, rising bond yields are causing interest rate sensitive sectors to get hit. In Canada think telecom, real estate and financials. In the US the worst performing sectors were real estate and consumer discretionary both down 3%.

With that in mind, the economists and analysts are turning their attentions to the economic summit in Jackson Hole next week aka the North American version of Davos in winter. Fed presidents kick off on Thursday with Mr. Powell speaking on Friday. On the earnings front, things are settling down although Nvidia reports on Wednesday and at current prices, management will need to knock it out of the park on all metrics. Other names of note are many of the retailers including Macy’s Kohl’s, Gap and Nordstrom’s. if nothing else, it will give greater clarity on consumer spending patterns.

Happy trading and stay safe.

Steve Bokor and the Ocean Wealth Team.

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Steve Bokor

Steve Bokor

Portfolio Manager