The market seems to be pricing in future rate cuts and a soft landing for the economy. What does this mean for investors?
“We are arriving at a moment of truth,” says Daniel Ouellet, portfolio manager at Groupe Ouellet Bolduc, affiliated with Desjardins.
“We must understand that historically, rates rise to slow down the economy, consumption and the job market in order to bring inflation back towards a target of 2%. When we succeed, we then help the labor market by lowering rates to achieve a soft landing. »
This scenario is well integrated, but we must be careful not to take it for granted, warns this expert.
If this optimistic scenario is already integrated into the number of rate cuts and sectoral security rotations, it appears a little late to adjust a portfolio in order to benefit from key rate cuts. “You have to be in front of the parade and there’s already a long way to go,” says Daniel Ouellet.
Discretionary consumption
The consumer discretionary sector might seem attractive to some since it already largely incorporates a “consumer recession,” points out Daniel Ouellet.
For example, the stock of Quebec recreational vehicle manufacturer BRP is going through a difficult year. Its stock is down 11% this year. Nike stock is down 17% since 1er January. Clothing retailer Lululemon’s stock shows a 45% decline so far in 2024.
If you are convinced of the success of the soft landing, it is possible to see an entry point into the consumer discretionary sector.
Daniel Ouellet, portfolio manager at Groupe Ouellet Bolduc
“But it might still be a little early. I prefer to conserve my liquidity and a more defensive and cautious positioning due to the likelihood of the economy falling into recession. »
And if the economy does not change, the one who knows how to direct his investments is very smart. Bargains are rare at the moment, according to Mr. Ouellet.
“There was a big rotation from digital giants towards sectors that had benefited less, including small cap stocks. The drop in rates has already favored several sectors,” says Daniel Ouellet.
Bet for the long term
It’s better to stay committed to a long-term investment strategy rather than trying to predict what the market will do following a rate cut, says Ian McLean, portfolio manager at McLean Capital, an investment manager. assets of Laval.
“You should not think that you can predict the impact of rate changes on the stock market,” he adds.
We must avoid making short-term reactive decisions, including those based on rate changes. History shows us that the common idea that markets fall when rates rise and rise when rates fall is often false in the short and medium term.
Ian McLean, portfolio manager at McLean Capital
“Often the opposite happened. When rates fall, it’s usually because the economy is doing worse,” says Ian McLean.
When rates fall, it is frequently said that it is good news for growth stocks like those in the technology sector, says Daniel Ouellet. “But this market segment is already extremely valuation rich. »
The gold sector is also already up 25% this year, he says. Real estate on the stock market could benefit from rate cuts. But real estate trusts have also just benefited from a great rally, underlines Daniel Ouellet.
A “beautiful refuge”
“Utilities and high dividend stocks will often benefit from rate cuts, but these stocks have also done very well this year. Opportunities are not easy to find,” observes Mr. Ouellet.
Dividend-paying securities could, however, become a “nice refuge” for investors in the event of a more pronounced slowdown in the economy than expected, believes portfolio manager Philippe Hynes at Tonus Capital.
“In the short term, the risk that rates may not fall as much as expected is smaller than the potential return that dividend-paying securities could generate if rates fall more than expected. »
This is what worries Daniel Ouellet. If there were to be cuts in the key rate after reaching the neutral rate of around 2.5%, a negative scenario for the economy would emerge. Anticipated profits could then be revised downwards and high valuation multiples could decline.
“We have to be careful,” says Mr. Ouellet. This is why he says he recently bought more “defensive” stocks in the health sector such as those of the pharmaceutical company Pfizer and the medical equipment supplier Medtronic.
The market could nevertheless perform well if the soft landing proves successful. “But the additional gains would probably be smaller than people think,” he says.
The good performance of the markets over the past two years means that valuations are rather stretched, underlines a portfolio manager who works for a large Canadian bank and who cannot be identified because he is not authorized by his employer to speak publicly.
“There is a lot of background noise with US elections and wars. I don’t believe we will go into recession, but there will definitely be a slowdown. Future rate cuts should still support the markets, without necessarily making them progress at high speed. Hence the need to have growth securities for those who aim for the long term and who want to give themselves the ways to beat the clues. On the other hand, volatility will be there and we could see some more pronounced declines and advances,” adds this investment specialist.
Patience
According to Daniel Ouellet, we are going to hear more and more about the threshold of 6000 points for the S&P 500 index. “To get there, it takes profit growth in 2025 of 14%, another of 11% in 2026, and a multiple of 19 times 2026 profits. We must be aware that the markets are expecting significant growth in profits for the next two years, which amounts to a very positive economic scenario. That doesn’t promise a big return. Going from 5700 to 6000 points is around 5 or 6% return in 15 months,” he says.
“I expect the market to be more sideways for a while even if there is a successful soft landing,” says Daniel Ouellet.
“When it comes to investment strategy, in any environment, the ideal is to invest in high quality companies and be patient,” concludes Ian McLean.