Q: The current American bull market began in 2009, following the Great Recession, and is now officially the longest in American history. Should that worry investors, or is there still room for this bull to run?
A: Owning pieces of great businesses is one of the best ways to preserve and grow wealth over a lifetime, and that reality doesn’t change because of the length of a bull market. Shares of American businesses have appreciated considerably since the Great Recession, but so too have business profits. It’s time in the market that matters, not timing the market. Those that try to anticipate economic cycles and market corrections do worse in the long run than those that accept market volatility and stay invested. We continue to see plenty of opportunity to own businesses that will be bigger, more profitable and more valuable over time.
Q: What factors are most likely to cause a market downturn, if one is to take place?
A: The media headlines are full of things to worry about, but risks are ever present at all points in the economic cycle, and we don’t believe today’s risks are extraordinary. Periodic market corrections are inevitable, and there are many reasons why investor sentiment and stock prices could get depressed in the short term. The relevant question for the long-term investor is whether conventional wisdom and stock prices are consistent with the economic outlook. With the global economy strong, corporate profit growth robust, inflationary pressures moderate and interest rates still relatively low, we are not overly concerned about the economy and the prospects for stocks.
Q: Canadian markets haven’t exactly mirrored American markets and have experienced a minor correction already. What are the implications for Canada if the U.S. markets experience a correction?
A: It depends on what precipitates a correction. If it is something that causes investors to be fearful of the economic outlook, odds are that Canadian stocks and our dollar will perform worse than their American counterparts. On the other hand, if the correction is due to a surge in commodity prices and inflation, the opposite would likely be true.
Given the performance bust that Canada has experienced over the last 10 years, it’s tempting to wonder if Canadian stocks are due for a period of better relative performance. While we think that is quite possible over a three-to-five-year horizon, we are not sure if that will be the case over the next couple of years. We think its best to hedge one’s investments with a 50-50 split between Canadian and American stocks.
Q: Investor and business confidence has not been as strong in Canada as in the U.S. How much of this is attributable to the uncertainty over the North American Free Trade Agreement?
A: Domestically, investor sentiment is likely subdued due to the poor relative performance of Canadian stocks. For the decade through to the end of August, the Canadian S&P/TSX index produced a total return, including reinvested dividends, of almost 60%, or less than 5% compounded annually. In Canadian-dollar terms, the U.S. market did four times better over the same period, with the S&P 500 total return index appreciating by 244%, or more than 13% compounded annually. The Canadian stock market has underperformed primarily because our market has too many companies in cyclical resource sectors that have performed poorly and not enough stocks in sectors like technology and health care that have performed very well.
Uncertainty over trade has no doubt had a negative influence on business confidence in Canada, but a less competitive tax regime, weak commodity prices, controversy over pipeline projects and other factors have likely had a negative influence on attitudes as well.
Q: It has now been a decade since the last American recession, which became global. Canada did not suffer as profoundly as the U.S. did, thanks to our banking system. Are we necessarily any more insulated now?
A: Canada’s economy didn’t suffer as much as America’s because our banks didn’t make nearly as many reckless mortgage loans. Consequently, our housing and credit markets performed much better through the cycle. Contrary to the meaningful contraction in credit that occurred south of the border, our banks kept lending and consumers kept borrowing and buying homes. In other words, our credit-fuelled housing boom continued. Unfortunately, we are much more vulnerable today, with record consumer debt and less affordable housing. Comparatively, the U.S. is in much better shape today.
Q: The last recession in the U.S. was triggered by a real estate asset bubble, and the one before that was triggered by a stock market bubble – the dot-com crash. What are the big risks today?
A: The lesson from history is to consider whether conventional wisdom is consistent with economic fundamentals. In late 1999/early 2000, the vast majority of the popular dot-com and technology companies didn’t have the revenue, profits and prospects to justify sky-high valuations. Similarly, it didn’t make sense to love cyclical resource stocks in 2008, when the combination of significantly higher interest rates, crippling oil prices and weakness in the U.S. housing market were causing us to worry about the economic outlook.
Today, most stocks and sectors are reasonably and appropriately valued relative to each other and the economic outlook. Consequently, we don’t see big risks like we did at the turn of the century and prior to the 2008-09 financial crisis.
