Kurt Reiman, chief investment strategist for BlackRock Canada, poses for a photo at his office in Toronto on Dec. 9, 2019.Aaron Vincent Elkaim/The Globe and Mail
The S&P/TSX Composite Index has rallied 19 per cent year-to-date with 10 of the 11 sectors delivering double-digit gains. Can these impressive gains continue in 2020?
We spoke with Kurt Reiman, BlackRock’s chief investment strategist for Canada, last week for his thoughts on how investors may want to position their portfolios to make money in 2020. When we last spoke with him in mid-2018, he expressed confidence that the bull market and economic expansion still have years to run – and so far, it’s been an accurate call.
What are your key predictions for 2020?
We have three themes. First, global economic growth edges up. We think that global industrial production will trough and move modestly higher. Our second theme is that instead of a policy pivot, we’re expecting a policy pause. Central banks, which have cut rates aggressively, will now stay on the sidelines for much of the year ahead. Third, bonds delivered an impressive year in 2019. With a bit of reflation and policy rates likely to be firm in 2020, this could lead to a modest steepening of the yield curve. That means it’s better for investors to think about owning shorter maturing bonds. [When yields go up, bond prices go down.]
Given the solid gains in stock markets globally, what are your expectations for stocks next year?
We are still moderately constructive on equities for 2020. I would say that, depending on the region, mid-to-high single-digit returns would be reasonable. Now, if you get multiple expansion in markets that have been penalized, or have not been as rewarded as much as the U.S. stock market, that could get you higher returns.
Looking at international stock markets, where do you see investment opportunities?
For us, that principally means looking to Asia. Japan is one of our new favourite destinations alongside emerging markets. This is in part due to the improvement in the economic environment but also the fading of some of the factors that weighed on economic growth, principally, the U.S.-China trade tensions.
This conflict is not over by any stretch. It’s one that we think is going to continue to persist and that has strategic implications for both the U.S. and China. But for the foreseeable future, heading into an election year, we think that there is going to be a detente, pushing this to the back burner, and this is, in our view, most beneficial to the parts of the world where there were larger questions about supply chains and the economic hit from higher tariffs. With trade tensions temporarily taking a pause, we think this is going to be beneficial for Asia and emerging Asia, in particular.
With the major stock markets in North America at or near record levels, do you favour one country over the other?
This was really a banner year for stocks.
The U.S. has been a star outperformer for three years now, and U.S. stocks are no longer as cheap as they were at the beginning of the year. We think U.S. stocks are now looking, compared to the rest of the world, a bit overvalued. Also, we're heading into an election year. This raises a little bit of political risk around investing in U.S. stocks, which may be on the pricier side of fair value now. So we've taken down U.S. equities from an overweight to a neutral allocation and we've repositioned that in some markets that we think are offering better value and have room to grow based on some of the improving economic conditions globally.
We do favour Canada. When you look at the S&P/TSX Composite Index with its forward multiple at roughly 15 times forward earnings and with earnings expectations of around 6 per cent next year, this should give a lift to those sectors that appear the cheapest.
What sectors would those be?
When we look across the landscape there’s a number of sectors that appear really cheap, almost in a way, left for dead, and that would signify some improvement in the fortunes for some of the beaten-down cyclical sectors in Canada.
It is important to note that value has had epic underperformance, one of the worst in history. Canada happens to have a fair amount of exposure to cyclical value – energy, materials and financials fall into that camp. While we’re not necessarily looking for a sharp turn higher in some of the beaten-down commodity cyclicals, we do look to some of these sectors for some improvement.
We have pretty firm oil prices and are expecting them to stay reasonably range-bound, which should be good for energy stocks. With a bit of an uplift in economic growth, global trade volumes and manufacturing activity, I would expect this would be good for some of the industrial metals. We just got through a pretty downbeat quarter from the financial companies in Canada about their prospects for next year. If consensus estimates for growth are too low and revised higher, then bank stocks would appear interesting.
What is your outlook for fixed income securities?
The bond market had a great year in 2019 when people were worried about the economic outlook. At one point, we were looking at equity like returns from government bonds on a 12-month basis.
We’re underweight European government bonds because yields have pressed so low. Here in North America, yields are very low but they’re still positive, and they’re above 1 per cent. Canada has that sought-after virtue of having a triple-A rating. Even if the economy is improving modestly next year, which would put some upward pressure on bond yields, there is still going to be an appetite from international investors looking for higher yields that they can get in North America but aren’t available in the rest of the world. So I think that thirst for safety hasn’t yet been quenched.
When it's a time of potentially higher interest rates and a steeper yield curve, we get that safety from owning government bonds in the short and intermediate maturities.
There was one more thing I wanted to say. The diversification properties of North American fixed income are still valid in the event that we see an economic soft patch. There’s still room for yields to fall and that means there’s room for government bonds to deliver solid returns during periods of heightened risk aversion.
You highlighted advantages to owning shorter-term government bonds, what about corporate bonds?
The yield advantage to owning investment grade corporate bonds is not that great, and that's because a lot of good news is already reflected in the price. So, if we want to take economic risk or an equity-like risk in our portfolio, we'd rather take it in stocks than in the investment grade corporate bond market.
Where you are getting attractive yields in fixed income and credit exposure are in parts of the market that are typically considered to be more risky - in global high-yield or emerging market bonds. There's more volatility in these segments. But some spread widening, especially in the lower rated parts of the high-yield bond market, has made it a more attractive time to raise exposures. That's why we moved to an overweight in global high-yield.
Emerging markets are regions where we’ve seen improving credit ratings. I think next year will be a year of improving growth. We think the U.S. dollar is going to be more stable in 2020 and that should be supportive for emerging market bonds. Central banks in emerging markets have room, if needed, to cut interest rates. So broadly speaking, in a world where yield is scarce, this is a part of the bond market that we think investors who have a higher risk tolerance might find some opportunities.
Are global recession fears behind us?
We think the slowdown in the global economy is going to bottom here and that we are going to see some improvement into 2020. It’s not like the economy is going to take off but we do expect some of the weakness that prevailed during 2019 to moderate.
Our view is that Canadian [economic] growth expectations for 2020 are still too low and we think that there’s room for upside revisions. In the U.S., estimates are about right, and we’ve seen some convergence of growth rates in the U.S. and Canada.
What do you believe is the greatest risk to financial markets?
Protectionism and geopolitics could return as a potentially negative force to the economy and financial markets at a time when policy makers have exhausted a lot their ammunition [with lower monetary policy flexibility].
You have accurately called for the Canadian dollar to remain stable in the mid-to-high 70 cent range relative to the U.S. dollar. Are you maintaining this forecast?
Yes. It’s seemingly at a level that is supportive for exports because that’s been one of the healthier parts of the economy this year. So I think the Canadian dollar is in a good spot.