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INVESTMENT STRATEGY QUARTERLY

Letter from the Chief Investment Officer

Time Is On Our Side

Start me up! Why would this iconic Rolling Stones song keep racing through my mind? Because it seems like the
drivers of this turbulent market—Federal Reserve tightening, inflation, recession worries and geopolitical fears—
feel like they will never stop. They seem to have more staying power than lead singer Mick Jagger (who turns 80 in
July). As we dig deeper into our more optimistic market and economic views, we’ll unearth relevant lyrics from
some of the Stones’ impressive 422-song portfolio to make our case. With equities struggling and interest rates
moving higher, investors could be seeking some emotional rescue. But time is on my side, yes, it is, for two reasons.
First, we believe we are closing in on the end of the equity bear market, peak yields, and Fed hawkishness. Second,
we expect investors to be rewarded for enduring the current volatility as it should lead to robust performance for
most asset classes in the long term.

The US economy remains resilient, driven by the wild horses of In bonds, investors have complained for decades that you can’t
consumer spending. While consumers are shifting spending from always get what you want when it comes to higher interest rates
goods to services, overall spending continues at a healthy clip. and meaningful income. But wait... now you can… with interest
But three factors—dwindling excess savings, higher interest rates rates soaring to levels not seen since 2008. The rate reset has
and softening job creation—should curb growth soon. Despite the flipped the script to focusing on attractive yields rather than
outsized job gains in January and February, economic undertones stretching for yield in lower-quality bonds. Indeed, this is not
suggest employment gains are already slowing. Withholding simply a feature limited to the US as yields have risen across
taxes’ growth has slid lower on a year-over-year basis, companies developed economy sovereign bond markets. In addition,
have begun to lay off employees (particularly in tech-related busi- improved yields afford investors the ability to balance their port-
nesses), and both online and professional recruiters have folios better. But the higher interest rate opportunity probably
lamented slackened hiring. Indeed, the unemployment rate could won’t last long. We are still forecasting the 10-year Treasury
climb near 5% from its current level of 3.6% by year end. Weak- yield to head lower toward 3.00%. Lower rates will enhance the
ened consumer consumption is one reason our economist expects returns of the sectors we favour, including Treasurys, municipal,
a mild recession in the second half of this year. investment grade, and emerging market bonds. We still shy
away from lower-quality high yield bonds; their yields aren’t
Another recession reason: The Federal Reserve (Fed) kept raising
interest rates because it can’t get no satisfaction with inflation until compensating investors for the threat of a recession.
recently. Look for possibly another rate hike in the fed funds rate to Equity markets want the Fed and inflation to get off of their
5.25% at the May meeting. The problem is this: Monetary policy cloud. Why? Because equities tend to rally when the Fed ends
acts with a lag of approximately one year. So, much of the economy its tightening cycle, inflation decelerates, and interest rates
is just starting to feel the impact of the first interest rate increases fall. Assuming the Fed doesn’t overtighten and take the
from about a year ago. As we progress further into the year, the economy into a severe recession, S&P 500 earnings should
accumulation of these rate boosts will crimp both capital spending remain solid around $215. If anything, the economy’s bet-
and consumer spending. We’ve already seen a bit of this beast of ter-than-expected start this year gives us more confidence in
burden in the Silicon Valley Bank failure. While we believe the SVB the upside potential of those numbers. A weaker dollar, quickly
fallout will be contained before things go all the way down, it’s an improving supply chains, and easing commodity and labour
example of the Fed squeezing... until things break. This year, there costs should help support margins. The current decline in equi-
will be little, if any, help from Washington as lawmakers focus on ties has likely already priced in a mild recession. When we
the battle to avoid a government shutdown over the debt ceiling. finally get to the recession, sentiment should turn more posi-
We believe they’ll avert a shutdown at the eleventh hour—as usual. tive—as markets anticipate coming out of it. As these factors

Investment Strategy Quarterly is intended to communicate current economic and capital market information along with the informed perspectives of our investment professionals.
You may contact your financial advisor to discuss the content of this publication in the context of your own unique circumstances. Published 5/4/2023. Material prepared by Raymond
James as a resource for its wealth managers.

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