Executive Summary
Last quarter, our message was that Q3 is historically a positive quarter, but not as strong as Q1 and Q4. The message was also that we should expect to see our recent string of 1%+ monthly returns come to an end. Well it took until September, but it did indeed come to an end.
As the bad news from around the world seems to keep coming in, and people’s fears for the market escalate, TriDelta remains fairly confident in North American stock markets as we head into the fourth quarter. This isn’t because we are ‘fiddling while Rome is burning’. It is because:
- corporate earnings remain strong
- interest rates remain low (more on that further in our commentary)
- the US economy is growing
- you can buy BCE stock and get a 5.1% dividend that will grow every year or you can get a 5 year GIC at 2.5% that will not grow (and will get taxed more in a taxable account).
We recognize some of the challenges in the market and world, and are watching them closely but a big part of our job is to try to separate the meaningful information from the short term noise. For now, we believe that the meaningful information is telling us that stocks remain a better investment option than bonds or cash.
Two other notes on the month and quarter ahead. Only once in the past decade has a negative September been followed by a negative October on the Canadian and US stock markets. Of course, we all remember 2008 (sorry for reminding you).
As a final point, the broad US based S&P 500 has had a great run since March of 2009. However, within that run, the market has dropped 5%+ 11 different times, and each time has rebounded quite quickly and advanced further. As of this writing, for all of the noise, the S&P 500 still isn’t down 5% from its peak for a 12th time. While the TSX and other areas of the world were down more, the point is that these pullbacks are very normal, and we believe this is one more of them.
The Quarter that Was
The quick summary is decent numbers for bonds, a little weak for stocks, very weak for emerging markets, metals and mining and smaller cap stocks.
After a drop of 4.3% on the TSX in September, Toronto stocks ended the quarter down 1.2%.
The DEX Bond Universe saw a loss of 0.6% in September, and a quarterly gain of 1.1%.
Preferred shares saw small quarterly gains in the 0.5% range.
Both the S&P500 (US) and the MSCI World Stock Index had losses in September, and had similar quarterly returns with small gains of 0.6% and 0.4% respectively.
Currencies played a role in the quarter with the US dollar appreciating strongly against most world currencies and also to the Canadian dollar. Greater exposure to US dollar investments helped Canadian investor returns on the month. For example, while the S&P 500 was down 1.4% last month in US dollars, it was in fact up 1.6% on a Canadian dollar basis – for a 3% swing on currency.
How did TriDelta Clients Do?
Fortunately, most TriDelta Financial clients had a decent quarter.
Conservative clients did very well – with most up 1.5% to 2.5% on the quarter.
Growth clients were a little weaker – most were flat to slightly down on the quarter.
The reason that conservative clients did better was two-fold. Bonds and preferred shares outperformed most sectors of the stock market for the quarter, but within the stock market, large cap, dividend payers (outside of metals and mining) had solid returns, and these are the types of stocks that TriDelta owns in our Pension style portfolios. Of course, owning Tim Horton’s in Pension portfolios also helped.
Even in September, as the TSX was down over 4%, most of our Conservative clients (who are up between 8% and 10% on the year to date), kept September returns to a loss of less than 1%.
Over the long run Growth clients should outperform, but so far in 2014, our Conservative clients have seen better returns.
TriDelta High Income Balanced Fund
Some clients who are accredited investors ($1 million+ in investment assets or $300,000+ in household income or $200,000+ in personal income), have been able to invest in the TriDelta High Income Balanced Fund. This pooled fund aims to deliver high yields, and broad diversification, through stocks, options, and low cost leverage of bonds. Year to date the fund has returned just under 10%, and has been in the top decile (top 10%) of all balanced income funds in Canada. In Q3, the fund was up 0.7%. We are very pleased with the performance of the fund so far this year.
Pending legislation changes may mean that the Fund could be available to all non-accredited investors soon. We will keep you posted as soon as this change comes into reality.
Positive Dividend Changes Continue
We continue to pay close attention to dividend growing stocks. We believe that this is a strong part of long term, lower volatile investment success. Again this quarter we are pleased to say that there were no dividend declines, and the list of seven dividend growers are as follows:
| Company Name | % Dividend Increase | Company Name | % Dividend Increase | |
|---|---|---|---|---|
| Home Capital | +12.5% | Emera | +6.9% | |
| Conocophillips | +5.8% | Royal Bank | +5.6% | |
| McDonalds | +4.9% | Verizon | +3.8% | |
| Bank of Nova Scotia | +3.1% |
The Quarter Ahead
We believe that interest rates are one of the biggest drivers of the market today, and the better handle we have on future interest rates, the better we will manage your overall portfolio. In summary, we believe that short term rates will rise in the US in late 2015, but only by a small amount. We believe that short term rates in Canada likely will track those of the U.S. – perhaps with some lag. We believe that long term rates in the US and Canada will remain fairly volatile, but could in fact move lower.
The basic message being that meaningful interest rate rises are unlikely to take place and that this helps guide our investments in two ways.
The first is that this will help the stock market as growth is encouraged by low borrowing costs.
The second is that long term bonds are a reasonable investment as well, and are not to be feared.
Here are 6 items driving our view of interest rates:
- “Everyone” thinks interest rates are going higher, but the market seems to be telling us something different. This can most easily be seen in the 10 year bonds in virtually all Western countries that have seen meaningful declines in 2014 – most notably in Europe.
- Yes it is true that Quantitative Easing will end by the end of this year, but US long term interest rates have actually fallen during most of the months that the US government has been reducing its bond buying. The noise about the end of Quantitative Easing has upset the market, but the reality is that long term interest rates may come down further from here. Don’t get caught up in the noise.
- Short term rates in the US are going to rise in 2015 – but it will likely be so small that it won’t make much of a difference? Fed Funds Futures currently give a 75% chance that the first US rate hike will be around September 2015 (still almost a full year away). There is a 50% chance of a second hike of 25 basis points (0.25%) by the end of 2015. IF both happened it would move the US Fed Funds rate from 0.25% all the way to 0.75%. This would mean that in 12 to 15 months, the US Fed Funds rate will still likely be at close to historical lows.
- Geopolitical risks (Russia, ISIS and Hong Kong) are providing a safe haven trade into bonds – especially in the US and Canada. This flood of funds into bonds is keeping interest rates low.
- As the largest debtor nation in the world, the United States doesn’t want to have to pay more on their own debt. Just like you want your mortgage rate to be low, imagine how much a country with $18 trillion of debt would like to have low interest costs!
- Household debt levels are significantly greater now than before the financial crisis. If the US Fed hikes rates prematurely, there is a risk of a recession.
Summary
While you don’t want to sift investment decisions down to a couple of numbers, we do feel that today, interest rates play a bigger predictor of future stock market returns than they have in a long time.
Fortunately for us, our view is that long term rates in particular, will be supportive of higher equity markets, particularly in the U.S., for the period ahead. Corporate earnings remain very important and have been largely positive of late, but we believe that low interest rates will also be key to continued earnings growth.
As an aside, investment markets tend to perform better from October to March than the 6 months that have just past. Let’s hope that trend continues.
May we all enjoy the beautiful fall colours that Canada provides, and remember to take time to be thankful for the good in our lives.
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TriDelta Investment Management Committee
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Cameron Winser VP, Equities |
Edward Jong VP, Fixed Income |
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Ted Rechtshaffen President and CEO |
Anton Tucker Executive VP |
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Lorne Zeiler VP, Wealth Advisor |
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