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Investing basics

November 15, 2019

Q3 Market Update: Is There A Recession On The Horizon?

Central banks around the world took steps to help their local economies. But was it enough? Read on for our view on the global economy and financial markets in the third quarter.

Highlights

  • Investors around the world watched the continued trade uncertainty between the U.S. and China.
  • Tougher economic conditions might be on the horizon. Central banks around the world took steps to help their local economies. The U.S. Federal Reserve Board (Fed), European Central Bank (ECB) and other central banks lowered interest rates. The Bank of Canada (BoC) and Bank of England kept their key interest rates steady.
  • Many economies around the world were weak in the third quarter. But Canada’s economy remained strong.

How have trade concerns affected global economic growth?

Global economic activity has slowed. Weak data out of Europe, the U.S. and China showed that trade uncertainty hurt demand for manufactured goods. Other data released during the period pointed to economic slowdowns in Europe, the U.K., the U.S. and China.

Weak export and manufacturing activity caused inflation to fall below the target inflation rates of many central banks. The Fed and ECB both reduced their policy rates to bolster local economies. These interest rate reductions helped stem equity market declines. They were also positive for certain government and corporate bonds (bond prices tend to rise when interest rates fall).

Business investment also declined because of trade uncertainty. As a slowing economy causes companies to curb their spending and investment activities.

Brexit contributes to weakness in the U.K. economy

The U.K. faced economic risks due to the country’s exit from the European Union (EU), also known as “Brexit.” Boris Johnson, the new British prime minister, plans to leave the EU with or without a deal. This approach contributed to economic weakness in the U.K. Soon after the third quarter ended, a Brexit deal was reached. This deal was designed to pave the way for the U.K.’s exit from the EU in the fourth quarter of 2019.

Economic growth in Canada stays strong

Second-quarter gross domestic product (GDP) data showed that economic growth in Canada was strong. The BoC chose to hold interest rates steady, even as other central banks reduced their rates. The BoC believes its monetary policy is fitting. They’re also willing to change course in response to concerns over consumer debt, oil prices, business investment and trade uncertainty.

Business investment in Canada has declined. This includes spending in the oil and gas industry, which has fallen in response to unstable oil prices. The price of oil moved higher due to:

  • supply cuts by the Organization of Petroleum Exporting Countries,
  • a drone attack on a major Saudi oil field and
  • new U.S. sanctions on Iran.

Canadians dealing with debt

Consumer spending slowed as many Canadians struggled with higher debt levels. This high debt was made even more challenging due to rising interest rates. Canada’s economy is tied to the U.S. And because of this, any slowdown in the U.S. economy can have a negative impact on Canada.

Financial markets are mixed across the world

Financial market performance was mixed across different geographic regions. Canada’s financial markets moved in lockstep with those of the U.S., its largest trading partner. Issues between the U.S. and some of its trading partners caused instability in financial markets.

Equity markets moved higher as the Fed announced interest rate reductions and pointed to the potential for further rate cuts. Defensive stocks were in favour with investors who had doubts about the near-term outlook for economic growth.

The inversion of the U.S. two-year and 10-year Treasury yields (meaning shorter-term yields rose above longer-term yields) concerned investors. Historically, an inversion of the yield curve has been a warning sign of an impending recession. It’s the first time this has happened since right before the global financial crisis of 2008-2009. That was when almost all stocks and bonds experienced large declines in value.

China’s financial markets weakened because of lower economic growth figures and trade issues with the U.S. In Europe, investors had to cope with a weaker economy stemming from global trade disputes. The performance of emerging markets was not especially noteworthy over the period. That said, Argentina’s pro-business leader endured a major loss in that country’s first round of elections. This loss caused a massive one-day selloff in Argentinian equities and fixed income securities.

Emerging markets equities were volatile and posted a loss over the quarter. But some emerging markets equity markets received a modest recovery late in the period. Pension reform measures in Brazil and corporate tax rate reductions in India helped those countries fuel their flagging economies.

Economic outlook: Is there a chance of a recession in 2020?

Our outlook for the global economy is based on the trade uncertainty between the U.S. and China. So what if trade issues continue and a full-blown tariff war happens? We could see weakening global economic conditions. And what if trade uncertainty extends for a long period of time? Then the chances of a recession increases. Financial markets appear to be expecting a possible recession in 2020.

What does this mean for Canada’s economy?

In Canada, high debt levels and falling business investment may hurt the country’s economic outlook. Canadian investors will be watching U.S. economic developments with great interest. How the U.S. economy and financial markets fare over the next few months may indicate how Canada’s economy and markets will perform.

Global inflation has been weak. If recent interest rate cuts do not lead to growth and inflation, central banks may decide to lower rates further. Ultra-low interest rates (or even negative rates) could stop boosting financial markets.

What if these low or negative rates continue for an extended period of time? Then it may put even more pressure on the outlook for the global economy.

Investing in gold

During periods of weakening macroeconomic conditions, gold has often been in favour among investors. As such, we’ll watch the price movement of this precious metal as events unfold around the world. Even a resolution to trade issues may not be enough to reverse the global economic outlook in the near term.

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