Weekly Market Update (March 20 – March 24, 2017)

By Craig Fehr March 24, 2017

Both Canadian and U.S. stocks were lower while bonds were higher on the week, with most of the U.S. stock market's losses coming on Tuesday as investor angst grew with doubts about the passage of the health care bill in the U.S. House of Representatives. This week's U.S. stock market decline was the worst of the year, and Tuesday's 1.2% decline was the largest daily decline since mid-October, a span of 109 trading days. Given the post-election rally, we believe it’s a good time to rebalance your portfolio by adding to bonds – if it has become too overweight in equities – which can help protect your portfolio’s downside during market dips.

Stocks Post a Weekly Decline (No, That’s Not a Typo)

Canadian and U.S. stocks posted their worst week since the U.S. presidential election as policy uncertainties in Washington soured investors' moods.  Here are a few takeaways from the market's most recent move:

  • Investors have been spoiled – The TSX fell marginally and U.S. stocks dropped more than 1% last week. This is the largest weekly drop for U.S. stocks since the beginning of November, but the fact that this dip even made headlines is a sign of just how strong and steady the markets have been. Canadian and U.S. large cap stocks are still up 5.5% and 10%, respectively since the U.S. election and have delivered an average total return of nearly 17.4% over the past year. The fact that the Dow has trimmed nearly 500 points from its all-time high is hardly newsworthy, but after this period of extended gains and mild swings, even small moves like this might feel a little more impactful to some.  Investors should expect more of this ahead. Prominent elections in Europe, the execution of Brexit negotiations, ongoing sluggish economic growth in Canada, the Fed's slow but steady removal of stimulus, and uncertainties associated with the Trump administration's pro-growth policies will all serve to instigate volatility over the balance of the year. While the fundamental backdrop of economic and earnings growth looks to be improving – which will form a foundation for the broader bull market to continue – full market valuations alongside this list of risks means 1% drops could periodically become 5% dips or even produce a 10% correction this year. Long-term investors shouldn't panic. A 5% pullback would simply bring the U.S. large-cap stocks back to the level it started at this year, though the headlines or investor emotions might feel more dramatic.
  • Washington realities won’t always match expectations – The primary driver of market sentiment last week was the uncertainty related to the health care bill in the U.S. House of Representatives. From a stock market perspective, the reaction was not simply about the bill itself, but likely the perception of potential implications this rocky process might suggest about the pro-growth reforms that are up next on Trump's agenda (tax reform, infrastructure stimulus). Our view has been that the proposed economic policies can and will have a moderate positive impact on the pace of U.S. economic growth, but that the development and implementation of the policies and reforms will not be as smooth or as swift as the market has seemed to be pricing in since the election. As a result, we think the political process associated with President Trump's agenda will be a source of periodic (though perhaps only short-term) disappointments for the market, which will manifest in the form of additional volatility in stock prices and more frequent pullbacks than we've experienced lately. 

The Benefits of Balance
The strength of the stock market has bolstered investor confidence. As a bull market ages, there are often three common tendencies among investors:

  1. Sustained positive performance raises investors’ confidence that the gains will continue
  2. Perception of risk changes, resulting in a willingness to take on more risk than originally intended
  3. An inclination to stick with – or add to  – areas that have led, avoiding those that have lagged, increasing the imbalances in a portfolio

Now is a good time for a review to see if any of these tendencies have changed the complexion of your portfolio. Consider the following perspectives:  

1. Will the bull market in stocks continue?
We think so. The fact that the market rallied to new highs does not, in and of itself, suggest the end is near. In our view, the gains in the stock market reflect improvement in the underlying fundamentals – trends and factors that tend to have the most influence over the longer-term performance of the market. Domestic growth remains subdued, but has perked up a bit more recently and the U.S. economy is on solid footing. We think the risks of a near-term recession in North America are still fairly low. There is also evidence of improvement in the global economy. This forms a fairly solid foundation for corporate earnings to continue to grow, and it’s the combination of economic and earnings growth that suggest to us that the broader bull market has life left in it. Trees don’t grow to the sky, but to the extent that market gains reflect further improvement in the investment backdrop, we think confidence in the bull market is warranted. That said, we’d caution against overconfidence, as this often leads to suboptimal decisions.  And when overconfidence eventually becomes widespread enough to become euphoria, that’s when bull markets become most vulnerable. 

2. Are you taking more risk? 
The financial crisis caused many investors to become very risk adverse and have avoided stocks until recently. Others were attracted to the perceived safety of domestic investments, defensive sectors or those that offered high dividend yields.  Stocks have delivered above-average returns and bond yields have remained historically low. Now, many investors are doing the opposite, raising allocations to higher-risk assets that have outperformed. If the required return needed to reach your long-term goals has not changed, your target balance of equity and fixed income hasn't likely changed either. Consider that a portfolio of 65% Canadian and U.S. stocks and 35% Canadian bonds at the beginning of 2013 would be 76% stocks and 24% bonds today, reflecting the strong performance of the equity markets. We believe it’s a good time to rebalance your portfolio if its exposure to stocks has dramatically increased.

3. Are you “letting it ride”?
In an extended bull market, it can be tempting to chase winners and avoid the laggards. An equal mix of Canadian and U.S. stocks has outperformed Canadian bonds for 5 straight years, with an average annual return of 15.0% compared to 3.3% for bonds. U.S. large-caps have led Canadian and overseas stocks. These differences can create imbalances that can affect your portfolio’s performance over time. As the bull market continues, we think asset class and sector leadership will rotate.

The Stock & Bond Market

Index Close Week YTD
TSX 15,443
-0.3% 1.0%
S&P 500 Index 2,344
-1.4% 4.7%
10-yr GoC Yield 1.64% -0.13% -0.09%
Oil ($/bbl) $48.09 -1.4% -10.5%
Canadian US $0.75 -0.1% 0.5%

Source: Bloomberg. Past performance does not guarantee future results.

The Week Ahead

Next week, the industrial product and raw material price indexes will be reported on Thursday and January's GDP will be reported on Friday.

Important Information

The Weekly Market Update is published every Friday.

Edward Jones does not provide access to past weekly summaries.

The S&P/TSX Composite Index and S&P 500 Index are unmanaged indices and cannot be invested into directly.
Diversification does not guarantee a profit or protect against loss
Dividends may be increased, decreased or eliminated at any time without notice.

Investors should understand the risks involved of owning investments, including interest rate risk, credit risk and market risk.

Special risks are inherent to international investing, including those related to currency fluctuations and foreign political and economic events.

The value of investments fluctuates and investors can lose some or all of their principal.

The content of this report is for informational purposes only and should not be interpreted as specific investment advice. Investors should make investment decisions based on their unique investment objectives and financial situation. While the information is believed to be accurate, it is not guaranteed and is subject to change without notice.

"Member - Canadian Investor Protection Fund"

Diversification does not guarantee a profit or protect against loss.

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