Why do dystopian sci-fi dramas draw so many viewers on Netflix? Maybe because they cater to a fundamental human need: People love – absolutely love – to picture all the lurid ways in which things can lurch off the rails.
The same affection for disaster scenarios displays itself in the stock market. In recent weeks prices have wobbled as investors fret over rising bond yields, persistent inflation and slowing growth.
Soaring energy costs have evoked memories of stagflation in the 1970s. Throw in the debt-ceiling mess in Washington, metastasizing problems in China’s property sector and the U.S. Federal Reserve’s imminent taper of its massive bond purchases, and skeptics have had plenty of material with which to fashion their own dystopian sagas.
But investors may want to hold off before assuming all this drama is headed for a depressing 1970s-style finale. Yes, there are real reasons for concern, but what may surprise most people is the sheer amount of good news that has been quietly accumulating in recent months.
The biggest positive is the enormous progress in the fight against COVID-19. In Canada and around the world, hospitalizations and deaths are down from early this year and, despite recent resurgences from new variants, appear likely to head lower as vaccination rates rise. This bodes well for reopening economies.
Household finances offer more reason to cheer. In July, a report from BMO Capital Markets estimated that the net worth of Canadian families surged by $2-trillion during the pandemic – a 17-per-cent increase – thanks to soaring real estate prices and red-hot stock markets.
The big gains in real estate and stocks meant that Canadians actually improved their financial positions during the worst public-health crisis in years. While Canada remains a country of heavy borrowers, household debts fell in comparison to both household incomes and household assets. Contrary to the doom-and-gloom scenarios of a year and a half ago, “almost every major metric of household financial strength has improved through this highly unusual cycle,” BMO chief economist Douglas Porter wrote.
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Skeptics will worry that much of this improvement is concentrated in the top tier of income earners, but stress indicators suggest all sectors of Canadian society have benefited to some degree. Consumer bankruptcies and mortgages in arrears have plunged during the pandemic. Business bankruptcies have hit a record low.
More good news may lie ahead. The market value of household assets is now a towering 6.5 times household debt, according to BMO’s calculations. Even if some of the recent gains were to evaporate, Canadians have accumulated a substantial buffer of wealth – one that could help propel future spending.
Much the same picture holds true in the United States. There, too, surging home prices have bolstered families’ bottom lines. So have government support programs, lower commuting expenses and less travel. American households now hold a stunning US$3.3-trillion in “spare” cash, according to Longview Economics. Their vast reservoir of spending power bodes well for future consumption.
Companies are also rolling in money. As John Authers of Bloomberg recently noted, operating margins for the benchmark S&P 500 of large U.S. companies sit at their highest level since Bloomberg’s data began in the 1990s. The rest of the developed world and the emerging markets are enjoying their biggest margins since 2007.
The cash building up on corporate balance sheets offers lots of fuel for an investing spree if companies choose to deploy it. In Canada, business investment outside the oil patch is accelerating and should increase 7 per cent next year, according to the Conference Board of Canada.
To be sure, the energy sector remains challenged, but new pipeline capacity coming on stream over the next year and a half from Enbridge’s Line 3 and the Trans Mountain expansion should help alleviate the pain. A continuation of today’s high oil and gas prices would offer additional relief.
Could persistent inflation trip up what looks like a promising recovery? Those who worry about the danger, such as Larry Summers, the former U.S. treasury secretary, point to the sheer size of the stimulus that governments have unleashed. They are concerned that rock-bottom interest rates and generous government support programs have overheated key parts of the economy. Among the flashing red lights are rocketing home prices and speculative manias in everything from cryptocurrencies to meme stocks.
These are understandable concerns. However, those who worry about a return to 1970s-style stagflation are overreaching. Eric Lascelles, chief economist for RBC Global Asset Management, points out that the 1970s dystopia followed oil embargoes that abruptly cut off fuel supplies. That shock to supply sent oil prices flying skyward and hammered economic activity.
These days, the problem is not, for the most part, a negative 1970s-style supply shock but rather a positive demand shock driven by higher-than-normal appetite for consumer goods running into mostly temporary bottlenecks. “This is not stagflation,” Mr. Lascelles declared in a note this week.
What is it then? A time to be cautious. Inflationary pressures could prompt central banks to start raising interest rates sooner than forecast. The winding down of government stimulus programs could drag on growth over the next couple of years if consumers decide to sit on their wealth instead of spend it. China’s crackdown on its property sector could ripple through emerging markets and commodity markets in ways we don’t yet fully appreciate.
But investors have ways to deal with such risks. Robert Buckland, chief global equity strategist at Citigroup, suggests shifting into value stocks rather than growth stocks, and tilting away from China and other emerging markets. That sounds eminently sensible. But far from dystopian.
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Ian McGugan