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While much has been said about the rally in U.S. equities, Canadian markets have also been reaching record highs. Michael O’Brien, Managing Director and Head of the Core Canadian Equity Team at TD Asset Management, discusses some of the different factors fueling the gains in Canada and the outlook for markets going forward.
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[AUDIO LOGO]
Our headlines get dominated by the rally in US equities. Canadian markets have also reached new record highs recently. Joining us now to discuss whether this run can continue is Michael O'Brien, Managing Director and Head of the Core Canadian Equity team at TD Asset Management. Michael, great to have you back on the program.
Yeah, thanks for having me on. It's always fun.
You think about the quiet grind higher. Even today, we breached, I think, 24,000 for the first time ever. We'll see where we are at the close. But still, these are new highs for the Canadian market. Perhaps hasn't been as in focus as the US market. What's going on here? What has been working in Canada?
Yeah, well, I mean, it's a typically Canadian approach, isn't it? Just understated and getting the job done. So, yes, it's been a really good year for Canadian equities.
And when you look across, you know, where did that come from, a whole bunch of different sectors have really contributed over the course of the year. Earlier in the year, the oil and gas stocks did very well. They were kind of leadership in Q1.
That trade's cooled off a little bit. People are a little less certain about where oil prices are going. But they kind of handed the baton off to some of the different sectors. So you've seen your insurers have a very solid year. The banks have really come to life lately as people are getting a little more confidence around the upside towards loan losses potentially not being as bad as feared.
You've seen the gold stocks just on fire. So a lot of the different parts of the market. And then the most recent-- I would say, most recent participants or most recent leaders have been those interest-sensitive names benefiting from the beginning of the rate cut cycle, both in Canada and south of the border with the Fed cutting 50 last week. So your traditional yield sectors have really been strong the last month or two. So it's been a pretty broad swath of the market that's kind of been leadership in any given day.
If we compare that to the run that we've seen in US equities, obviously, the big part of the story was about the tech names. Has there been a broadening out in the States, too, or is our rally a different composition than theirs?
Yeah, well, I think there has been a bit of a broadening out in the States. I mean, the S&P is still making new highs. But if you look at the Mag 7 or what has been viewed as leadership there, the Nvidias, the Microsofts, the Amazons, all of those stocks are still below their year to date highs. So, clearly, there's been a broadening out in that market as well.
I think it's just more pronounced in the Canadian market because we've got less of the Mag 7 and much more of all the other stuff. So I think it's a North American phenomenon, but it has a bigger punch here in Canada just by the composition of the market.
Well, you mentioned the three rate cuts we've already seen from the Bank of Canada. They started in June. The Fed finally got in on the game, as well, last week and come right out of the gate with 50 basis points. We put that kind of activity together and the expectation of more, what could this mean for the market?
Well, clearly, I mean, that's one of the reasons the markets are at highs today is that market investors have been expecting this. Investors have been anticipating it. They've been salivating, waiting for these rate cuts. They finally come.
So now, it's almost one of those situations where the dog has finally caught the car. Now, what's he going to do with it? So going forward from here, we've got the rate cut cycle. That debate's over.
In my opinion, I think the next leg higher, if there's going to be continued gains in the market, it has to be from confirmation that we are, in fact, going to get a soft landing, in other words, bringing it back to your basics, bringing it back to fundamentals, I think the next leg higher from here has to be driven by good, old-fashioned earnings growth.
And so we need to see economic data giving us comfort, not so much that things are great today but that they're not going to get worse and that those rate cuts will have time to kick in and really stimulate the economy. And if that happens, then we can start looking forward to the back half of 2025, into 2026, and feel better about the earnings prospects for all of these companies as, hopefully, these rate cuts begin to bolster the economy.
Bolstering the economy but also-- and the argument that's been made. And you and I have talked about this through the year as we waited for those rate cuts that, once you start to see the Bank of Canada trimming its trend-setting rate, then maybe some of these yield plays-- and I think this is already starting to happen-- start to look more attractive to investors. We're not going to get the yield that they were getting in savings products or in GICs.
Yeah. No, you're absolutely right. And this clearly is something that investors have been anticipating as well. There are a whole legion of people-- I would count myself among them-- that you had a few thousand bucks or whatever it is you had a year, year and a half ago, put it into a nice, juicy GIC yielding 5%, 6%, no risk. No shame in doing that. I think a lot of people have done that.
So I think the view is there's quite a bit of money parked in those types of short-term, high-yielding, cash-like vehicles. What's going to happen-- and again, people are anticipating this with a lot of excitement, I think-- is that GCI that you took out a year ago at 5.5%, the next time you go to renew it, it's going to be maybe 3.5% or 3% or 2.5%.
I think a natural home for that type of investor isn't necessarily to buy the sexy tech stock south of the border. It's more to buy one of those good, old-fashioned regulated utilities or pipeline companies--
But they're still looking for the yield. They're still looking for the dividends.
--the telcos. And they want relatively safe yield. And so I think that's an opportunity from a funds flow perspective. There could be a fair bit of money coming in over the next year, year and a half, as long as this rate cut cycle continues, that could be finding a new home in some of these higher yielding, more stable parts of the equity market.
And that takes us back to a comment you were making earlier, while these plays, because of the yields, might look a little more attractive, when I think about who are the yield payers, they're either the telcos, the banks, some of the other sectors. They're very economically sensitive. So there's sort of like a we've got to have that-- we've got to stick that soft landing for all of this sort of to work together hand in hand.
Yeah. And now, I mean, it's interesting if you sort of carve up the different parts of the TSX composite in terms of what we would consider the interest sensitives. There's one group, which is the single biggest basket in the TSX composite, which is your financials, your banks and your insurers. They're very rate sensitive, but they're also more playing offense.
They need a good economy. They need that soft landing to stop the loan loss cycle from continuing, re-accelerate earnings growth. So there's that basket. And then there's the more traditionally defensive basket, like your REITs, your pipelines, your regulated utilities, which, traditionally, investors have viewed them as a good option in a risk off market, more defensive posturing.
They both benefit from this same theme of rates coming down and potential fund flows out of these GIC-like instruments. But it really depends. Do you want to put your foot on the gas or put it on the brakes? There's a bit of a flavor for both, depending on how you want to approach that.
Now, this is hard to say, but we've had the quiet run. The US makes new highs. We make new highs. Is there a case for Canadian outperformance in the near term?
Well, I think what Canada has going for it is-- I mean, what Canada has had going for it all year is, from a contrarian perspective, the attention hasn't been on us. The attention has been south of the border, like you mentioned earlier. Much more exciting stories there, that type of thing.
AI chips, this and that--
Yeah, exactly. That's where--
--cars driving themselves, the future.
Exactly. So that's where the market focus has been on. And so that, what I would call, very subdued sentiment towards Canadian equities, from a contrarian perspective, that's what you love to see because it means they're under-owned, room for upside. So I think that is still the case today, if you look at valuations south of the border and compare them to the TSX composite.
You know, investors are far less demanding of the stocks and the TSX composite here. In order to sort of fulfill that hope of Canada outperforming the US, I think the Canadian market expectations are lower, but it's also a more traditionally cyclical market. When you look at the heart of it, your banks, your insurers, your resource complex, your energy producers, your miners, you need a good backdrop economically in order to make those sectors work sustainably.
So we've kind of had that. The first leg of the trade was valuations going from very low levels to what I would characterize as reasonably priced. The next level has to be driven by earnings growth, and that's going to come with an improvement in the economic backdrop. [AUDIO LOGO]
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Our headlines get dominated by the rally in US equities. Canadian markets have also reached new record highs recently. Joining us now to discuss whether this run can continue is Michael O'Brien, Managing Director and Head of the Core Canadian Equity team at TD Asset Management. Michael, great to have you back on the program.
Yeah, thanks for having me on. It's always fun.
You think about the quiet grind higher. Even today, we breached, I think, 24,000 for the first time ever. We'll see where we are at the close. But still, these are new highs for the Canadian market. Perhaps hasn't been as in focus as the US market. What's going on here? What has been working in Canada?
Yeah, well, I mean, it's a typically Canadian approach, isn't it? Just understated and getting the job done. So, yes, it's been a really good year for Canadian equities.
And when you look across, you know, where did that come from, a whole bunch of different sectors have really contributed over the course of the year. Earlier in the year, the oil and gas stocks did very well. They were kind of leadership in Q1.
That trade's cooled off a little bit. People are a little less certain about where oil prices are going. But they kind of handed the baton off to some of the different sectors. So you've seen your insurers have a very solid year. The banks have really come to life lately as people are getting a little more confidence around the upside towards loan losses potentially not being as bad as feared.
You've seen the gold stocks just on fire. So a lot of the different parts of the market. And then the most recent-- I would say, most recent participants or most recent leaders have been those interest-sensitive names benefiting from the beginning of the rate cut cycle, both in Canada and south of the border with the Fed cutting 50 last week. So your traditional yield sectors have really been strong the last month or two. So it's been a pretty broad swath of the market that's kind of been leadership in any given day.
If we compare that to the run that we've seen in US equities, obviously, the big part of the story was about the tech names. Has there been a broadening out in the States, too, or is our rally a different composition than theirs?
Yeah, well, I think there has been a bit of a broadening out in the States. I mean, the S&P is still making new highs. But if you look at the Mag 7 or what has been viewed as leadership there, the Nvidias, the Microsofts, the Amazons, all of those stocks are still below their year to date highs. So, clearly, there's been a broadening out in that market as well.
I think it's just more pronounced in the Canadian market because we've got less of the Mag 7 and much more of all the other stuff. So I think it's a North American phenomenon, but it has a bigger punch here in Canada just by the composition of the market.
Well, you mentioned the three rate cuts we've already seen from the Bank of Canada. They started in June. The Fed finally got in on the game, as well, last week and come right out of the gate with 50 basis points. We put that kind of activity together and the expectation of more, what could this mean for the market?
Well, clearly, I mean, that's one of the reasons the markets are at highs today is that market investors have been expecting this. Investors have been anticipating it. They've been salivating, waiting for these rate cuts. They finally come.
So now, it's almost one of those situations where the dog has finally caught the car. Now, what's he going to do with it? So going forward from here, we've got the rate cut cycle. That debate's over.
In my opinion, I think the next leg higher, if there's going to be continued gains in the market, it has to be from confirmation that we are, in fact, going to get a soft landing, in other words, bringing it back to your basics, bringing it back to fundamentals, I think the next leg higher from here has to be driven by good, old-fashioned earnings growth.
And so we need to see economic data giving us comfort, not so much that things are great today but that they're not going to get worse and that those rate cuts will have time to kick in and really stimulate the economy. And if that happens, then we can start looking forward to the back half of 2025, into 2026, and feel better about the earnings prospects for all of these companies as, hopefully, these rate cuts begin to bolster the economy.
Bolstering the economy but also-- and the argument that's been made. And you and I have talked about this through the year as we waited for those rate cuts that, once you start to see the Bank of Canada trimming its trend-setting rate, then maybe some of these yield plays-- and I think this is already starting to happen-- start to look more attractive to investors. We're not going to get the yield that they were getting in savings products or in GICs.
Yeah. No, you're absolutely right. And this clearly is something that investors have been anticipating as well. There are a whole legion of people-- I would count myself among them-- that you had a few thousand bucks or whatever it is you had a year, year and a half ago, put it into a nice, juicy GIC yielding 5%, 6%, no risk. No shame in doing that. I think a lot of people have done that.
So I think the view is there's quite a bit of money parked in those types of short-term, high-yielding, cash-like vehicles. What's going to happen-- and again, people are anticipating this with a lot of excitement, I think-- is that GCI that you took out a year ago at 5.5%, the next time you go to renew it, it's going to be maybe 3.5% or 3% or 2.5%.
I think a natural home for that type of investor isn't necessarily to buy the sexy tech stock south of the border. It's more to buy one of those good, old-fashioned regulated utilities or pipeline companies--
But they're still looking for the yield. They're still looking for the dividends.
--the telcos. And they want relatively safe yield. And so I think that's an opportunity from a funds flow perspective. There could be a fair bit of money coming in over the next year, year and a half, as long as this rate cut cycle continues, that could be finding a new home in some of these higher yielding, more stable parts of the equity market.
And that takes us back to a comment you were making earlier, while these plays, because of the yields, might look a little more attractive, when I think about who are the yield payers, they're either the telcos, the banks, some of the other sectors. They're very economically sensitive. So there's sort of like a we've got to have that-- we've got to stick that soft landing for all of this sort of to work together hand in hand.
Yeah. And now, I mean, it's interesting if you sort of carve up the different parts of the TSX composite in terms of what we would consider the interest sensitives. There's one group, which is the single biggest basket in the TSX composite, which is your financials, your banks and your insurers. They're very rate sensitive, but they're also more playing offense.
They need a good economy. They need that soft landing to stop the loan loss cycle from continuing, re-accelerate earnings growth. So there's that basket. And then there's the more traditionally defensive basket, like your REITs, your pipelines, your regulated utilities, which, traditionally, investors have viewed them as a good option in a risk off market, more defensive posturing.
They both benefit from this same theme of rates coming down and potential fund flows out of these GIC-like instruments. But it really depends. Do you want to put your foot on the gas or put it on the brakes? There's a bit of a flavor for both, depending on how you want to approach that.
Now, this is hard to say, but we've had the quiet run. The US makes new highs. We make new highs. Is there a case for Canadian outperformance in the near term?
Well, I think what Canada has going for it is-- I mean, what Canada has had going for it all year is, from a contrarian perspective, the attention hasn't been on us. The attention has been south of the border, like you mentioned earlier. Much more exciting stories there, that type of thing.
AI chips, this and that--
Yeah, exactly. That's where--
--cars driving themselves, the future.
Exactly. So that's where the market focus has been on. And so that, what I would call, very subdued sentiment towards Canadian equities, from a contrarian perspective, that's what you love to see because it means they're under-owned, room for upside. So I think that is still the case today, if you look at valuations south of the border and compare them to the TSX composite.
You know, investors are far less demanding of the stocks and the TSX composite here. In order to sort of fulfill that hope of Canada outperforming the US, I think the Canadian market expectations are lower, but it's also a more traditionally cyclical market. When you look at the heart of it, your banks, your insurers, your resource complex, your energy producers, your miners, you need a good backdrop economically in order to make those sectors work sustainably.
So we've kind of had that. The first leg of the trade was valuations going from very low levels to what I would characterize as reasonably priced. The next level has to be driven by earnings growth, and that's going to come with an improvement in the economic backdrop. [AUDIO LOGO]
[MUSIC PLAYING]
