September Market Minute





Markets continue to be volatile as central bank policy expectations dominate markets. The hawkish tone has sent equity and housing markets tumbling, the dollar to multi-year highs and bond yields higher.


Canada House Prices

Canadian Real Estate Association data shows that the average (a not seasonally adjusted) house price declined 3.9% in August from a year ago, and forecasts are for further declines as the cost of borrowing increases further in coming months.

Since the peak in February 2022, before the Bank of Canada (BoC) started raising interest rates, home sales have declined over 31% and the average house price in Canada has declined by 21% or close to $180,000. Note that this decline is the overall average on a not seasonally adjusted basis, the MLS seasonally adjusted benchmark price index has declined 7% from its February 2022 peak. The decline through August put house prices back to early 2021 levels. However, with continued interest rate increases house prices are expected to decline further. Toronto has had the most significant slowdown in sales - recording a 48% decline in total home sales in July compared to a year earlier.


Inflation-Recession

The BoC hiked interest rates a further 75bps points at its September meeting to bring the target rate to 3.25%. However, this is still well below inflation, which came in at 7.6% in July. Transportation costs grew at a much slower pace (14.4% vs 16.8% in June) due to a sharp decline in gasoline (35.6% vs 54.6% in June). Food prices increased 9.9% in July 2022 from approximately 2.5% in July 2021. Rent prices continue to be a major concern for many across the country with the average monthly rental cost rising to 10.4% in July compared to the previous year. Although the July number was was a slightly lower increase than the 39-year high of 8.1% set in June 2022, it is well above the BoC’s 2% target, which indicates more interest increases on the horizon. A 50bps increase is likely at the Otober 27 meeting.

South of the border the US saw its inflation rate also slow slightly further in August to 8.3% from an over 40-year high of 9.1% in June. The concern in the August report, released on Tuesday was the Core Inflation, which takes out energy and food prices, rose. This indicates that inflation is widespread in the economy. The inflation report sealed at least a 75bps hike in interest rates by the Fed at its meeting next week and increased the probability that the Fed will hike a full percent to try and slow demand to bring down inflation.


The challenge for central banks to bring down inflation by slowing demand without sending the economies into recession, a so-called ‘soft landing’. When recession does set in, and the unemployment rate starts to rise central banks will hold on interest rates and then start to reverse course.


China

China’s economy slumped further in the second quarter of 2022 with manufacturing slowing down unexpectedly and the downturn in the real estate sector intensifying. China’s zero covid policies are hampering its economic outlook. The economy shrank by 2.6% (q-o-q, annualized) in Q2. The 5.5% full-year growth target appears to be out of reach as the economy would have to grow 7% to 8%. China’s property boom has been a huge driver of the country’s economic growth with the sector responsible for one-quarter of GDP. The zero covid policy and the governments effort to rein in the real estate market’s soaring debt are weighing heavily on the overall outlook. Hundreds of thousands of homebuyers are refusing to pay their mortgages for pre-sold properties as developers struggle to complete housing projects on time. Property prices declined for an 11th-straight month in July and are down as much as 30% compared with last year.


China is also facing challenges on the international front. Relations between China and Taiwan don’t appear to be improving and on August 30th Taiwan fired warning shots at a Chinese drone near its offshore island. Relations with the US also appear to be further apart with Apple telling some of its contract manufacturers that it was looking to India and Vietnam to boost production, seeking to reduce its dependence on China, as strict anti-Covid policies have resulted in continued supply-chain bottlenecks.


Natural Gas-Electricity Costs soar in Europe

Electricity prices in Europe have soared almost 10-fold in one year. Natural gas, which is used to generate electricity and heat, now costs 250% more than it did a year ago. Russia, which supplied roughly 40% of Europe’s natural gas last year, has shut down the key Nord Stream pipeline for days at a time for maintenance and has drastically reduced flows to Europe in recent weeks. European governments are currently scrambling to fill underground storage facilities with gas supplies in order to have enough fuel to keep homes warm during the winter months. The Belgian Energy Minister warned that the next 5 to 10 winters will be terrible unless the EU moves to impose a price cap on natural gas prices.


Drought

Adding to higher food prices drought is currently affecting many aspects of the North American agricultural sector. Forbes (09/02) reports: As drought extends its deadly fingers from California to the eastern side of the Mississippi River — a vast stretch of the continent that produces most of America’s food, including three-quarters of its beef cattle and 70% of its vegetables, fruits and nuts — farmers and ranchers are facing a double whammy. They have to go farther to find water and higher fuel costs are forcing them to pay more to pump whatever isn’t coming from the sky. In regions that rely on rainfall for agricultural production, drought can diminish crop and livestock outputs and may severely affect farm profitability, pushing many farmers to the edge. These impacts can reverberate throughout all levels of the domestic and international economies. According to the U.S. Drought Monitor (USDM), on July 11, 2022, more than 32 percent of land in western states was classified as experiencing extreme or exceptional drought.


Bonus Tip:

Lithium stocks are riding on rising prices for the in-demand commodity. Lithium prices are up 357% vs. a year ago and nearly 123% so far in 2022. Demand for the battery metal is expected to soar in the coming decades, with questions about how quickly supply will be able to increase.


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