2018 Market Forecast & Investment Strategy


2017 Results:

The Canadian stock market was the second worst performer of the G8 and G20 countries with an annual yield of 6.1%. Only Russia had a worse performing market. The U.S. had the best performing market out of the G8 countries with a return of 19.9% but 9 emerging markets outperformed the U.S. China, India and South Korea all had market returns in excess of 25%.

In Canada, the financial services sector was the leading performer with an annual return of 12.6%, while the  energy sector was the biggest loser with the Energy index dropping 19.8% for the year.

Our fixed income market was very predictable with an annualized yield of 2.56%. If you were invested in a Canadian balanced fund, you may not have made enough money to cover the fees.

 

2017 Performance:

2017ConservativeBalancedAggressive
RiskReturnLowMedium-LowMediumMedium-HighHigh
Fixed Income2.40%65.00%50.00%30.00%20.00%15.00%
Cdn. Banks12.59%12.50%15.00%20.00%20.00%20.00%
S & P 50020.64%10.00%20.00%30.00%35.00%40.00%
Intl. Equities15.74%2.50%5.00%10.00%15.00%15.00%
REITs9.09%10.00%10.00%10.00%10.00%10.00%
Annual Return6.50%8.91%11.91%13.49%14.40%

 

Our balanced portfolio had a gross return of 11.91% (net 11.16% after fees) as we invested 30% in Canadian bonds, 20% in Canadian financial services, 30% in the US S&P, 10% in the MCSI EAFE index and 10% in Canadian Real Estate Trusts. We hedged the US S&P and international equity investments and did not get penalized when the Canadian dollar strengthened in mid-year.

We did miss opportunities for growth by avoiding the Chinese, Indian and South Korean markets. These were 3 of the top 4 markets in 2017 and we had zero exposure. The US equity market was the big winner in 2017. The FAANGs*1 accounted for 24% of the increase in the US S&P but nonetheless, the entire marketplace responded to a pro-business government as the S&P, including dividends, returned 20.64% in hedged-Canadian dollars.

 

2018 Market Expectations:

The consensus amongst market strategists is a period of modest growth and tepid inflation. U.S GDP should grow 2.5% and Canadian GDP 2.2%. Interest rates in both Canada and the US should rise slightly in 2018 so shorter duration fixed income portfolios are a safe bet. The Canadian dollar could struggle to post another annual advance, as it did in 2017. We are betting on a weaker Canadian dollar with a target of 1.31 (currently 1.28).

We are in a low volatility regime with a stable economic backdrop. While the Canadian markets now trade at a 10% discount to the S&P 500, our low growth rates and large exposure to energy and materials lead us to believe we will have another lackluster year as far as Canadian equity returns are concerned. 

We also believe that the U.S. market is fully priced based on price to earnings metrics and we could see the Canadian equity market outperform the S&P 500 for We believe that the best opportunities to be in non-U.S. international stocks, given the cheaper valuations and robust earnings growth.

 

Our revised asset allocation for 2018 is as follows:

2018ConservativeBalancedAggressive
RiskForecastLowMedium-LowMediumMedium-HighHigh
Fixed Income2.50%65.00%52.50%30.00%20.00%15.00%
Equities
Canada6.00%15.00%17.50%20.00%22.50%25.00%
US6.00%7.50%10.00%17.50%20.00%20.00%
Intl.8.00%2.50%7.50%12.50%15.00%15.00%
Emerging12.00%0.00%2.50%10.00%12.50%15.00%
REITs5.00%10.00%10.00%10.00%10.00%10.00%
Annual Return6.30%7.62%9.73%10.71%10.91%

 

Therefore, we are reducing our allocation to US stock markets and slightly increasing our Canadian and international holdings. For the more aggressive investors, we are recommending a higher investment in China, India, South Korea and Brazil. We are also looking at the explosion of value coming out of the fledgling marijuana industry and are recommending a small allocation to this exciting new sector.

Furthermore, we are shifting away from the S&P 500 and EAFE indexes and focusing more on the MCSI  minimum volatility indexes. We find that in periods of market uncertainty, these low volatility indexes outperform the major market indexes by reducing the total exposure to high volatility stocks, such as the FAANGs.

We continue to purchase broad exchange traded funds with high liquidity comprised primarily of blue chip stocks.


¹ FAANG stocks are Facebook, Amazon, Apple, Netflix and Google (now Alphabet)

 

Conclusion

2017 was an incredible year for passive investors as a combination of changes in government in the U.S. along with global economic stability led to spectacular returns in certain geographic markets and market sectors.

In these periods of low interest rates, with real returns between 0 and 1%, investors need to take on more risk in order to achieve market yields that will support their financial goals.

Staying committed to Canadian market investments will yield lower returns than diversifying into other world markets. While we expect market yields to be tempered in 2018, we continue to believe that there are opportunities to increase your total return by incurring additional moderate risk.

Please do not hesitate to call us at 647-409-4088 or email us for more information regarding our forecast. We would be pleased to assist you and your family members with your personal investment management.

Sincerely,

Marc Bouchard

Haworth Partners Inc.
President
2006 Queen Street East
Toronto, Ontario M4L 1J3