Post-election, the bears are coming out of hibernation. It’s in stark contrast from the story being told during the third quarter. As the rest of the world cut interest rates to adapt to a slowing global economy, the Bank of Canada was able to stand pat. In the discussion, points were raised about their ability to do so as interest rates were at an already accommodative level. Moreover, as the Canadian central bank’s policy rate has typically closely followed the US Federal Reserve, the resounding question was if they won’t cut rates now, then when? To some, it seemed clear they were just buying time.

Consensus forecasts are for the Bank of Canada to lower interest rates in the beginning of next year. In terms of a softening Canadian economy, recent data could certainly support this action, but also to the contrary, third quarter GDP data from Statistics Canada justifies this Goldilocks’s economy (not too hot, not too cold).

There were two standout areas of concern as Canadian exports have edged lower over the past year, apart from the anomalous double-digit print in the second quarter. Household consumption growth is minimal and business investment had been lackluster, but it too saw a revival in the most recent three-month thanks to a revitalized residential housing market. What we’re witnessing is mixed economic data with a downward bias.

Canadian employment data is also flashing signs of caution. Into the election, the strong results of Statistics Canada’s Labour Force Survey were refuted by notable Bay Street economists. The issues raised were over both job quality and concentration in the public sector. The time-lagging Survey of Employment, Payroll, and Hours highlights a diverging trend in the oft volatile Labour Force Survey, which tends to steal headlines. In the latter survey, job losses were reported in retail and construction in September. It takes us full circle to what was the standout areas in the Canadian economy that now may be nearing an inflection point.

It raises the question to whether the burst of hiring and spending from Canadian businesses is sustainable in a lackluster economy. As we suggested in past newsletters, Canadian businesses will be hard pressed to escape the global headwinds of deglobalization from trade tensions and geopolitical unrest.

This was reinforced by notable comments this week from the CEO of Quebec’s Pension fund, Michael Sabia. Sabia, who will be stepping down in February following a decade of near double digit returns under his leadership, suggests a fragmented global economy with different regions of influence. Also notable from Sabia’s tenure was increasing the funds allocation to international markets, which is another key takeaway.

To what extent the prognostications of a fragmented global economy come true, the notion of a slowdown in Canada is coming to fruition. Since the inversion of Canadian and US government bond yields mid-Summer, investors have been on recession watch. Absent of a market shock, highly levered Canadian households will see continued moderation of consumer led growth. Calling or predicting the next downturn is its own challenge, but momentum is clearly slowing.

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As we make our way into the end of the year, I’m always very intrigued to read the market outlooks for the year ahead. It seems to be a time when economists and analysts make grandiose predictions for the twelve-month period yet are challenged with only having the ability to look through a myopic lens. The humour in it is, that it has some extra special significance other than creating a yardstick to compare previous periods’ gains or loses.

In addition to this though, the forecasts and predictions seem quickly forgotten. That said, one area of interest is away from the numbers and instead on the investment themes or undertones to the markets that some of these forecasts elaborate. As an active investor, this is where I often find some value. It can also suggest where the ‘herd mentality’ or most mainstream opinions in the markets are, for what they’re worth.

I was struck by a more prolific perspective though over the past couple weeks from Bridgewater Associates, Ray Dalio. From someone that co-founded the biggest hedge fund in the world, his views on the economy have been rather prescient as he has found an ability to succinctly and logically explain, in his perspective, these uncertain economic times.

Dalio suggests that the economic malaise and slowdown is of greater significance than what happens during a boom and bust cycle, and that is a bigger picture debt crisis. He refers to Monetary Policy 1 through 3 which involves lowering interest rates, to quantitative easing and expanding the central banks’ balance sheets to purchase longer dated debt and securities, and there by eventually monetizing federal deficits by printing money. None of the mentioned ‘solutions’ will actually reverse a slowing economy challenged by debt and underfunded liabilities from healthcare to pensions.

This has also been an angle of skepticism of the economic cycle that saw us escape from the Great Recession. The factors that led to the financial panic such as overextended households and governments carrying too much debt hasn’t seen much if any improvement. For those that continued to warn or speak to this issue, a kicking the can down the road approach from policy makers bought time. None the less, this year has seen reports from financial bodies including the IMF and World Bank that the composition of corporate debt has worsened. Further, the global economy now carries more debt than any point in history, and total debt is growing faster than output. Beyond the question of whether a trend like this is even sustainable is one conclusion from Dalio that it will not ever be paid back.

During the financial crisis, conventional wisdom made it hard to explain why some asset prices went higher in a period of dire outlooks and elevated uncertainty. Investors looked for safety in commodity currencies or US treasuries, despite what many perceived as inflation risk created by quantitative easing (or Dalio’s Monetary Policy 2). My favourite analogy though likened the havens of capital to the least dirty shirt. It wasn’t that the Canadian economy was scot free per se, but what mattered was how it was measured. Coming full circle on Dalio’s view and as he suggests a ‘paradigm shift,’ begs the question, which asset or asset class may be the least dirty?

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