Market Update from the Global Asset Allocation Team – March 2021
The reflationary trade gathered some notable momentum in February as investors braced for massive US fiscal spending, which emboldened calls for a sharp revival in growth as global vaccinations accelerated and coronavirus infections receded. However, good news on the economic-front translated into some bad news for stock markets as investors contemplated the effects higher bond yields on the sustainability of the economic recovery, the outlook for corporate profits, and the record-breaking equity market rally. Investor enthusiasm faded somewhat on fears that faster growth and inflation could trigger a pullback in monetary stimulus, even after central bank officials reinforced their unrelenting support and stressed that there are no plans to tighten policy prematurely.
Global equity markets edged higher in February. The underlying sector performance underscored the reflationary narrative that took hold during the month. The cyclically-biased, value sectors whose fortunes are closely tied to the health of the global economy and the reopening trade outperformed their growth-oriented counterparts. Energy and financials fared particularly well in the environment of steepening yield curves and higher commodity prices. Meanwhile, the relatively expensive megacap technology space had more trouble digesting higher interest rates given their longer duration. The tech-heavy S&P 500 underperformed the S&P/TSX in February as the cyclical rotation boosted the Canadian benchmark, while the spike in US borrowing costs triggered some flight from the emerging market space.
Optimism on the growth outlook fuelled a profound selloff in fixed income markets. The Canadian Universe bond index shed 2.5%, while the US aggregate bond index was down 1.5% in February. While inflation expectations bounced higher, the back-up in bond yields was mainly attributed to renewed hopes for a rapid recovery that prompted investors to bring forward their expectations for tighter monetary policy. The yield on the 10-year treasury jumped by 34 basis points to 1.40%, while the 10-year Canadian government bond yield rose by 47 basis points to 1.36%.
The greenback held firm amid the superior growth trajectory in the US, while unnerved investors also bid-up the safe haven currency late in the month. However, performance versus its major trading peers was mixed. Both the pound and the Canadian dollar managed to strengthen, while the euro and yen depreciated against the US dollar. The pound thrived as fading Brexit risks, reduced wagers for negative interest rate policy, and the UK’s relative success in the vaccination rollout boosted the sterling. The Canadian dollar advanced thanks to the rapid ascent in crude prices and briefly touched the $0.80 mark for the first time in three years.
Oil continued its impressive climb as unusually frigid temperatures in Texas pummelled production and added to tightening market conditions. Indeed, expectations for a post-pandemic resurgence in demand and the discipline of OPEC and its allies in restraining output have been instrumental in rebalancing the market. Copper powered to a ten-year high given the prospect for robust industrial demand that’s emerging at a time of historic global shortages of the red metal, while gold retreated as the environment of rising bond yields dampened the allure of the non-interest bearing metal.