Market and economic commentary
August 2024

August had a rocky start. Unfavourable economic data and the unwinding of carry trades in Japanese markets led to developed equity markets falling over 5% in Canadian dollar terms by the first week of August. Further into the month, equity markets pared back losses, and focus shifted to tech earnings and central bank comments on anticipated rate cuts. Other than the US equity pool, all Compass Portfolios and ATBIS Pools (the Funds)¹ saw positive returns. Find up-to-date performance data here.

Below are index total returns in Canadian dollar (CAD) terms for August and year-to-date, respectively:

Economics

August began with news from the US jobs report stating that only 114,000 jobs had been added in July. The unemployment rate rose to 4.3%, continuing its upward trend since hitting a historic low in January 2023. It also triggered a widely watched recession indicator: the Sahm rule. The rule has been triggered by month four in all recessions since 1960 but did trigger in 1976 without a subsequent or ongoing recession². This means the US is either within months of—or already in—a recession. The report fueled further volatility in the market, contributing to rising bond yields and falling equity markets. While unemployment alone doesn’t trigger a recession, there are indicators of the US economy slowing, such as the ISM Manufacturing Purchasing Managers Index (PMI), which fell for the fourth straight month in July, suggesting continued softer demand for goods. On the other hand, US retail sales grew more than expected, and continuing and initial jobless claims were either on par or under expectations, other than the first report of the month.  While the data doesn’t necessarily imply the US is currently in a recession, there is evidence that the economy is slowing down.

The Bank of Japan (BoJ) has been the outlier at this point of the rate cycle, raising its policy rate to 0.25% right before the end of July and likely contributing to the turmoil seen in markets as carry trades started to unwind. In short, a carry trade is the act of borrowing in a cheaper currency and investing in a higher-yielding market or currency. In this case, the BoJ had zero, or even negative rates, for an extended period, which was brought to an end when they raised rates from -0.1% to 0.25% beginning earlier this year. A combination of the US dollar falling over 10% versus the yen from the middle of July to the beginning of August, and US equity markets falling, likely led to traders closing their carry trades and exacerbating the sell-off in equity markets worldwide. 

Back home, the economic data released throughout August likely hasn’t materially changed the Bank of Canada’s rate-cutting path. The unemployment rate stayed steady despite the number of jobs falling by roughly 2,800, and inflation cooperating with core inflation measures, continued to decline. Quarterly GDP on an annualized basis showed a 2.1% increase for the second quarter. This provides little cause for celebration; as GDP per capita continues to decline, at least the economy isn’t contracting.

Markets

Equity markets started the month on a volatile note with a perfect storm including: worse-than-expected US job numbers, the cumulation of disappointing tech earnings since mid-July, a surging yen, and the BoJ raising its policy rate. The latter two were likely the catalysts behind the Nikkei falling over 17% in JPY terms between August 2 and 5, as investors were unwinding carry trades. Spillover into other developed markets was seen, as between the end of July and August 5, the S&P500 lost just over 6%, and the Nasdaq lost just under 8% in USD terms. Markets calmed down by the end of the month and were largely positive in local terms. One silent detractor of global equity performance for Canadian investors was the Canadian dollar, which strengthened versus most developed market currencies. In particular, the USD lost over 2% to the CAD, leading to the TSX outperforming the S&P 500 in CAD terms, but not local terms. 

The equity holdings separated by geographic allocation within the portfolios were largely in line with bench performance other than the US holdings. US small cap-equities, in particular, lagged the large-cap index, falling 3.6% in CAD terms. Small-caps in Canada and EAFE also fell behind their large-cap counterparts, likely pointing to a more ‘risk-off’ sentiment after a turbulent month. 

Interest rates were also on the move in Canada, with yields moving as much as 22 basis points³ within the first week of the month due to the noted market events. Overall, yields dropped approximately four basis points—short yields dropped, while long yields rose. Despite the short duration, the twist was more or less neutral for the funds as high-yield bonds underperformed due to spreads widening. 

¹ Using F series returns
² https://crsreports.congress.gov/product/pdf/IN/IN12410
³ As measured by the ICE BofA Canada Broad Market Index Yield