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TD Waterhouse anticipates rising, choppier tide for 2010
- TD Waterhouse releases new Market Outlook quarterly report -
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TORONTO, Jan. 11 /CNW/ - TD Waterhouse today released the first issue of its quarterly Market Outlook, which reviews the dramatic market moves of 2009, anticipates developments in the markets in 2010 and recommends investing strategy for the next six to 18 months.
The report focuses on four areas: equities versus fixed income; domestic versus international equities; corporate versus government bonds and Canadian versus foreign currency exposure. Major themes of the report include:
<< - Overweighting equities versus fixed income, as equities offer better relative value. - Within the equity component of the asset mix, keeping a neutral stance across Canada, US and international markets. - Within the fixed income component of the asset mix, overweighting investment grade corporate bonds versus government bonds for the incremental yield. - Currency fluctuations, as not likely to be dramatic, are not sufficient to discourage foreign diversification. >>
Looking back at 2009:
2009 was characterized by dramatic market moves, from the stomach-churning drops of the S&P/TSX Composite and the S&P 500 during the first quarter, to the impressive returns by the end of the year.
"The sharp rebound in equity markets has been largely based on beating low expectations for both the economy and corporate profits. As expectations rise, that hurdle will be more difficult to beat," says Bob Gorman, Vice President, TD Waterhouse and member of the TD Wealth Management Asset Allocation Committee.
The Road Ahead:
While financial market history is never a perfect guide, this year's stock market rebound has, in many ways, followed a familiar script. Coming out of a bear market, smaller companies generally lead the recovery because they are more sensitive to the economy. This took place in 2009, as exemplified by the path of the small cap Russell 2000 Index in the U.S. versus its large cap counterpart, the S&P 500. Early in the market recovery, the Russell out-distanced the S&P 500 by a wide margin but in more recent months, the S&P 500 has gained ground. TD Waterhouse expects this rotation to larger cap companies to continue in 2010.
In a similar fashion, the more volatile sectors of the equity markets, which in 2009 were metals and minerals, technology and financials, also lead in recovery. Meanwhile, the more stable, defensive sectors such as utilities, telecom and consumer staples, scarcely moved in comparison.
"As the stock market recovery begins to mature, investors increasingly focus attention on the sectors and companies that demonstrate more consistent sales, earnings and dividend growth. We believe we are now in the early stages of this shift, another part of a rotation of market leadership," says Gorman.
As part of this trend, investors will increasingly emphasize dividends as a larger element of total return. Today, dividends in a number of sectors are abnormally high relative to bond yields, even before considering the dividend tax credit, which makes each dollar in Canadian dividends like earning $1.30 in interest. For example, the Government of Canada 10-year bond yield has been historically well above the yield of the Canadian banks. "This is not true at the moment and we expect stocks displaying growing dividends to garner increasing attention in 2010," continued Gorman.
Equity/Fixed Income Split:
TD Waterhouse's optimistic view of the stock market's prospects is based on a series of positive factors that outweigh the negative. A year ago, the credit markets were in disarray, with fear pervasive and credit inaccessible for many corporate borrowers. The situation has greatly improved, with measures of fear markedly lower. The TED spread, which Gorman notes, is a barometer of fear, has fallen from a peak of 4.6% in October 2008 to approximately 0.4% now.
At the same time, the yield curve has steepened. This means that the difference between those short and long-term rates has widened, which is an indicator of an improving economy. For consumers, this is great for those buying a home, as mortgage rates are low, but painful for savers who are investing in bonds and GICs.
As for valuation, stocks remain reasonably priced. To illustrate, the S&P 500 is trading at about 15 times the estimated 2010 operating earnings, a multiple in line with the long-term average. TD Waterhouse believes that the current market environment favours equities over fixed income.
Liquidity remains very high, both in Canada and the U.S. showing latent buying power on the sidelines. Market volatility, an indicator of the stability of financial markets, has fallen sharply from a year ago.
Finally, both monetary and fiscal policies remain stimulative and should lead to better economic growth, which in turn will lead to strong earnings growth, particularly as companies have done a terrific job of controlling costs.
"While there remain many issues to worry about, including U.S. real estate plus the turbulent currency markets, the greatest concern is the growing fiscal imbalance caused by the stimulus packages and the pace and timing of the removal of the stimulus," says Gorman. "However, the weight of evidence is on the side of the bulls and we are recommending an equity overweight."
Canadian/U.S./International Equity Split:
One of the main reasons there has been a strong stock market performance in Canada and the emerging markets this past year is due to strong commodity prices. These strong commodity prices have resulted from the economic recovery we have seen, particularly in China.
"However, given the sharp recovery in commodity prices last year due, in part, to re-stocking on the part of China, leading to outperformance in Canada and the extraordinarily strong performance of emerging markets in 2009, we believe these returns will moderate," says Gorman. "Therefore we recommend a neutral stance across geographic regions, highlighting a more cautious view."
Corporate Government/Bond Split:
Over the past year, Canadian corporate bonds have represented better value than government issues and have outperformed as a result. This was due to the fact that the credit crisis had pushed corporate spreads (the difference between the yield on a Federal Government bond and corporate issues) to exceptionally high levels. Corporate spreads declined as the credit crisis receded; the bonds rose in price and generated very good total returns. Corporate bonds recorded double-digit returns in 2009 versus low single-digit returns for government bonds.
Corporate bonds continue to present better value than government issues due to the incremental yield they provide and their relatively short duration, which makes their investors less susceptible to any uptick in interest rates. TD Waterhouse anticipates that corporate spreads should narrow modestly from here and therefore recommends corporate bonds over government bonds, though the risk/reward relationship is not as favourable as it was previously.
Canadian/Foreign Currency Exposure:
The Canadian Dollar should remain strong. Strength in commodity prices, especially oil, and a weakening U.S. Dollar combined to push the loonie higher in 2009. As the credit crisis eased, the flight to safety reversed and the U.S. Dollar fell about 13% on a trade-weighted basis from its March 2009 highs, a major factor in propelling the Canadian Dollar higher. TD Waterhouse holds a positive view toward both commodities and the Canadian Dollar but upward moves in Canadian currency will not likely be dramatic and not sufficient to discourage foreign diversification as outlined above.
About the TD Waterhouse Market Outlook Report:
The report draws on the views of the TD Wealth Management Asset Allocation Committee. The committee was established to provide a consistent market outlook and asset allocation view across TD Wealth Management. The quarterly report articulates broad market themes, provides macro-level asset allocation direction and identifies the major risks on the horizon. To discuss your particular investment strategy and portfolio with an advisor, please contact us at 1-866-280-2022, by visiting a TD Waterhouse branch, or through www.tdwaterhouse.ca.
<< The committee members include: Co-Chair R.B. Kenneth Miner, CFA, Vice Chair, Fixed Income, TD Asset Management Co-Chair Bruce Cooper, CFA, Vice Chair, Equities, TD Asset Management Deborah Leckman, MBA, CFA, VP, TD Waterhouse and Head of Portfolio Advice and Investment Research Bob Gorman, MBA, CFA, Vice President, TD Waterhouse Geoff Wilson, CFA, Managing Director, TD Asset Management Les Grober, MA, CFA, Managing Director, TD Asset Management Scott Colbourne, MBA, CFA, Vice President & Director, TD Asset Management Glenn Davis, CFA, Managing Director, TD Asset Management U.S.A. >>
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