The third quarter was relatively subdued with no major surprises, unlike the Brexit results of Q2. While the EU and Britain begin posturing for the lengthy negotiations they face, the US election is taking much of the headlines away from this and other world events. Although Clinton is currently the front runner, could the world possibly face another Brexit-like surprise on November 8th? Barring any significant event that could swing voter opinions away from Clinton, we view the probability of an election surprise as very low.
Canada – Stocks have continued their rally up another 5.5% this quarter for a year-to-date return of 15.8%. After an impressive Q2, small cap stocks were up only 3.6%, whereas growth and large cap took the lead up 6.3% and 5.8%, respectively. Both oil and the TSX appear to be in a trading range, with oil topping out around $51.60; a breakout above this level would likely propel the TSX to new recent highs.
United States – US equities had a strong performance this quarter up 5.1% and up 2.0% year-to-date. Performance was strong across all sub-asset classes, but small cap lead the way with double-digit gains of 10.7%. Needless to say much of the focus in the US is on the spectacle referred to as the Presidential election as well as the final Fed meeting in December. Could the market view a Fed hike as a positive that the economy is healthy to warrant an increase or will investors panic at the beginning of the end of the low interest drug to which consumers have become addicted?
International & Emerging – Along with the US, international equities showed very strong performance in Q3, however, it wasn’t enough to pull this asset class into positive territory for the year and it is still down -3.3% year-to-date. Among the stars were international small cap up 9.9% and emerging markets up 10.7%. Brexit, Deutsche Bank, debt-ridden Italian banks and meager economic growth are still weighing heavily on Europe and we don’t see any significant shifts for the foreseeable future. Brexit negotiations will likely provide enough uncertainty over the coming years that investors may shy away.
Real Estate – Canadian REITs were the odd one out this quarter and they fell -3.6%, however, they are still up 16.9% for the year so far; global REITs were up 1.2% this quarter and 6.2% this year.
Fixed Income – Bonds have continued their slow but steady pace of positive returns with Canada again leading the way this quarter up 5.3% year-to-date while US bonds are up only 0.9% for the same period. We believe that interest rates in North America have bottomed and the upside potential for further increases in bond prices is very limited. When combined with historically low yields, we believe there is significantly more risk for traditional fixed income going forward and, as a result, we have recently liquidated all longer-term bond funds, but have maintained our short-term positions.
We are expanding our use of alternative fixed income investments with the goal of achieving better returns while maintaining the safety of capital and low volatility. We began this over a year ago with the creation of the Stewardship Alternative Income Fund. The Fund currently holds private mortgages, private corporate debt, life settlements and we are in the process of doing due diligence on expanding into income producing real estate. During this quarter, we will be making further allocations to the Trez Capital Yield Trust US, which has earned 11.3% per year since its inception in January, 2013, as well as adding new investment vehicles to accounts.
Both the Bank of Canada the US Federal Reserve held rates steady at their September meetings. The Canadian economy shrank in Q2 due to the Alberta wildfires in May and a larger than expected drop in exports; the economy is expected to recover in Q3. The Fed lowered their expectations for future rate hikes over the next several years but still maintained the expectation for one in December.
Inflation has been on a downward trend in recent months coming in at 1.1% year-over-year in August; this compares to 1.3% in July and 1.5% in June. The story is slightly different in the US where inflation was 2.3% year-over-year in August, up slightly from 2.2% in July, due to rising health care costs; the Fed may view this as supportive for a December rate increase.
While the third quarter may have been relatively quiet, the last quarter will likely be anything but that, especially with the culmination of the US election on November 8th and an expected rate increase from the fed in December. The markets could have a lot to digest with just these two events alone.