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5 key themes that will shape the Canadian and global economy in 2023
Vanguard has released its 2023 forecast. You can access it by clicking on this link to a PDF.
We first looked at this in this Hub blog on December 12: Vanguard says Balanced portfolios still offer best chance of success as Inflation gets beaten back.
In this follow-up blog, we’re looking in more depth on the Canadian portion of the report, which begins on page 23. We have reproduced some of the text and charts from that section in the second half of this blog.
“Generally, we are calling for a global recession next year, including a milder recession for Canada with economic growth pegged at 0.7% (for Canada),” says Matthew Gierasimczuk, spokesperson for Vanguard Investments Canada Inc.
Vanguard expects five key themes will shape the Canadian and global economic environment as we move into 2023:
- Central banks’ vigilance in the fight against inflation
- Spillover effects of global economy, energy, and real estate markets on the Canadian economy
- Economic effects of the energy crisis in Europe
- China’s long-term structural challenges as it aims to end its zero-COVID policy
- Last, but not least, a more positive outlook for long-term investors across bonds and equities
Fighting inflation: Central banks maintain vigilance
Vanguard says 2022 has proven to be “one of the most rapidly evolving economic and financial market environments in history. Across the globe, central banks have responded with coordinated monetary policy changes that have outpaced anything we’ve seen for several decades.”
A globally coordinated monetary tightening regime
“This is the greatest inflation threat we’ve seen since the 1980s,” it continues, “Central banks have a difficult path ahead that will require being more aggressive with policy, making additional rate hikes, and maintaining vigilance as the inflation situation shifts.In the U.S., the Federal Reserve has adopted the position that there is still work to be done, and it appears to have the resolve to stick with it.”
For the balance of this blog, we’ll drill down on the report’s prognosis for Canada, which starts on page 23 of the forecast. We’ve selected large chunks of text, which is as it appears in the report, with minor excisions such as references to some charts not reproduced here. Therefore, we are not using quotation marks. An ellipsis (3 dots as here: …) is used to indicate sections excised between passages. With one or two exceptions, most subheadings are from Vanguard. Readers who want the full report should of course click on the PDF link above.
Canada: Reining in an overheating economy
The year 2022 has seen persistent global inflation followed by rising policy rates as central banks across the world played catch-up. Over the course of 2022, inflation in Canada continued to tread higher driven by a combination of rising demand, tightening labor markets, and volatile energy and food prices as a result of ongoing supply constraints and geopolitical events. Heading into 2023, there are growing signs that inflation will moderate due to recovery in global commodity supply and slowing economic growth driven by tightening monetary policy.
In 2022 we discussed how policy tightening will be a crucial risk behind a lower growth environment among other factors such as high inflation, further supply disruptions, and new virus variants. Looking back most of these risks occurred throughout the course of 2022. The unexpected Russian invasion of Ukraine added to supply disruptions and pushed headline CPI inflation to its historically highest level of 7.9% YoY. Continue Reading…
Diversified & Dynamic: 2023 Global Investment Outlook
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By Ian Riach, Franklin Templeton Canada
(Sponsor Content)
Investors may see key improvements in conditions in the capital markets and the wider economy in 2023 and beyond, according to the Capital Market Expectations (CMEs) from Franklin Templeton Canada. We presented our CMEs at Franklin Templeton’s Global Investment Outlook in Toronto on December 6.
We develop a proprietary set of CMEs annually, using top-down fundamental and quantitative research. Using an outlook for the next seven to 10 years, we review the expected returns and risk of investable asset classes: equities, fixed income, alternatives and currencies. Our economic outlook and 10-year asset class forecasts are driven by macro expectations, current valuations and various asset class assumptions. The CMEs are annualized 10-year return expectations, and they are intended to coincide with the average length of a business cycle and are aligned with the strategic planning horizon of many institutional investors.
Our process also considers long-term macroeconomic themes to complement the objectivity of our quantitative analysis. This year, we factored in three major themes:
Growth: We expect to see moderate growth in the next phase of the economic cycle, driven by advances in technology and increasing productivity. Demographics will likely be a slight headwind to growth as populations in developed markets age.
Inflation: Inflation is expected to remain slightly higher than the targets established by central banks over the medium term. Rising wages and energy prices are sticky aspects of inflation.
Fiscal and monetary policy: Central banks, including the Bank of Canada, will keep up their aggressive fight against high inflation. Not surprisingly, this will hamper economic growth. On the other hand, we expect fiscal policy by governments to remain accommodative. Fiscal policy can result in higher government debt, which can be inflationary. But if government stimulus targets, say, capital projects such as infrastructure, then it can be beneficial to long-term growth. Policymakers are walking a tightrope now.
Capital Market Expectations
With that background, here is a concise summary of our expectations over the next several years:
- The expected returns for fixed income assets, like bonds, have become more attractive. We also expect the recent volatility in fixed income markets to subside.
- The returns of global equities are expected to revert to their longer-term averages and outperform bonds.
- Stocks in Emerging Markets are expected to outperform developed market equities over the next seven to 10 years.
- A diversified and dynamic approach to investing is the most likely path to achieving stable returns over the long run.
The chart below sets out our range of expectations for key assets compared to historical averages:
Note that these return projections are higher than our 2022 outlook and are closer to their long-term averages.
Franklin Templeton Canada uses its CMEs to shape strategic asset allocation for our portfolios. However, we do not just “set it and forget it”. We employ a dynamic asset allocation process over the shorter-term, taking into account market conditions. While we are optimistic over the next decade that returns will favour risk assets, our short-term preference (next 12 months) is to be cautious as recession risks rise. Continue Reading…
Innovation is the key to growth
By Erin Allen, CIM, VP Online ETF Distribution, BMO ETFs
(Sponsor Content)
It’s simple, innovation has the potential to create higher productivity: the same input generates higher output. As productivity moves higher, more goods and services are produced, and as such the company or the economy grows.
Innovative companies in turn will displace industry incumbents as they see an increase in efficiencies and productivity leading them to gain market share. The long-term growth potential of these innovative companies is what investors in this space are after.
In the late nineteenth century, the introduction of the telephone, automobile, and electricity changed the way we communicated, travelled, transported, and powered our economy. The world’s productivity went through the roof as costs dropped, creating demand across sectors.
Source: BMO ETFs, Nov 2022
Today, the global economy is undergoing a technological transformation that will shape the future. Innovations in areas such as artificial intelligence, robotics, DNA sequencing, energy storage and blockchain technologies are evolving at a rapid rate and seeing cost declines that are expected to further lead this growth.
BMO Global Asset Management offers three ETF series in partnership with ARK Invest that focus on disruptive innovations. BMO ARK Innovation Fund ETF Series (ARKK), BMO ARK Genomic Revolution Fund ETF Series (ARKG), and BMO ARK Next Generation Internet Fund ETF Series (ARKW). ARK believes innovations should meet three criteria and invests accordingly in these unconstrained, high-conviction portfolios.
3 Criteria for Innovations
- Dramatic cost declines
- Cuts across sectors and geographies
- Serves as a platform for additional innovations.
For illustrative purposes only. Source: ARK Invest
Retired Money: Direct Indexing has drawbacks but a hybrid DIY strategy may have merits
My latest MoneySense Retired Money column looks at a trendy new investing approach known as “Direct Indexing.” You can find the full column by clicking on the highlighted headline: What is direct indexing? Should you build your own index?
Here’s a definition from Investopedia : “Direct indexing is an approach to index investing that involves buying the individual stocks that make up an index, in the same weights as the index.”
When I first read about this, I thought this was some version of the common practice by Do-it-yourself investors who “skim” the major holdings of major indexes or ETFs, thereby avoiding any management fees associated with the ETFs. It is and it isn’t, and we explore this below.
Investopedia notes that in the past, buying all the stocks needed to replicate an index, especially large ones like the S&P 500, required hundreds of transactions: building an index one stock at a time is time-consuming and expensive if you’re paying full pop on trading commissions. However, zero-commission stock trading largely gets around this constraint, democratizing what was once the preserve of wealthy investors. According to this article that ran in the summer at Charles River [a State Street company], direct indexing has taken off in the US: “ While direct index portfolios have been available for over 20 years, continued advancement of technology and structural industry changes have eliminated barriers to adoption, reduced cost, and created an environment conducive for the broader adoption of these types of strategies.”
These forces also means direct indexing can be attractive in Canada as well, it says. However, an October 2022 article in Canadian trade newspaper Investment Executive suggests “not everyone thinks it will take root in Canada.” It cast direct indexing as an alternative to owning ETFs or mutual funds, noting that players include Boston-based Fidelity Investments Inc, BlackRock Inc., Vanguard Group Inc., Charles Schwab and finance giants Goldman Sachs Inc. and Morgan Stanley.
An article at Morningstar Canada suggested direct indexing is “effectively … the updated version of separately managed accounts (SMA). As with direct indexing, SMAs were modified versions of mutual funds, except the funds were active rather than passive with SMAs.”
My MoneySense column quotes Wealth manager Matthew Ardrey, a vice president with Toronto-based TriDelta Financial, who is skeptical about the benefits of direct indexing: “While I always think it is good for an investor to be able to lower fees and increase flexibility in their portfolio management, I question just who this strategy is right for.” First, Ardrey addresses the fees issue: “Using the S&P500 as an example, an investor must track and trade 500 stocks to replicate this index. Though they could tax-loss-sell and otherwise tilt their allocation as they see fit, the cost of managing 500 stocks is very high: not necessarily in dollars, but in time.” It would be onerous to make 500 trades alone, especially if fractional shares are involved.
Ardrey concludes Direct indexing may be more useful for those trying to allocate to a particular sector of the market (like Canadian financials), where “a person would have to buy a lot less companies and make the trading worthwhile.”
A hybrid strategy used by DIY financial bloggers may be more doable
I would call this professional or advisor-mediated Direct Indexing and agree it seems to have severe drawbacks. However, that doesn’t mean savvy investors can’t implement their own custom approach to incorporate some of these ideas. Classic Direct Indexing seems similar but slightly different than a hybrid strategy many DIY Canadian financial bloggers have been using in recent years. They may target a particular stock index – like the S&P500 or TSX – and buy most of the underlying stocks in similar proportions. Again, the rise of zero-commission investing and fractional share ownership has made this practical for ordinary retail investors. Continue Reading…
