The third quarter of 2022 was another difficult one for investors with the Canadian and U.S. stock markets both losing ground regained in the summer and the bond market continuing to fall in response to rising interest rates.
Central banks in Canada, U.S. and Europe have all increased rates aggressively and show no signs of letting up in their determination to bring down inflation. Tough talk on inflation from Federal Reserve Chairman Jerome Powell in particular has heightened investor fears that rate hikes will provoke a global recession.
The U.S. market re-entered bear market territory in September while lower prices for oil and other commodities reduced the outperformance Canadian stocks enjoyed earlier in the year. Still, the relative strength of the Canadian market and the Canadian dollar have cushioned portfolio losses sustained in U.S and international stocks.
For the year to September 30, Canadian stocks were down 11.2% and U.S. stocks were down 18% in Canadian dollar terms (24.6% in U.S. dollars). The bond market continued its rarely seen run of losses in response to rapidly rising interest rates. The Canadian bond market was down 11.8% to the end of September while the global bond market (hedged to Canadian dollars) was down 12.3% year to date. Short term bonds have been hit less hard, down only 4.7% since the beginning of the year.
A big story in 2022 has been the impact of currency fluctuations on the global economy and investor returns. The U.S. dollar strengthened against every major currency in September and has now risen by almost 20% against a trade-weighted basket of currencies this year.
The dollar’s gains were in reaction to past and expected rate hikes by the Fed as well as a flight to security amid geopolitical turbulence caused primarily by Russia’s invasion of Ukraine.
The powerful rise of the dollar has masked the relative performance of international developed and emerging stock markets. Certainly, international markets have been hard hit this year, but they have performed relatively better than U.S. stocks in local currency terms.
Large and mid-cap developed international stocks are down 20.7% in Canadian dollar terms (14.5% in local currencies) and emerging markets are minus 20.5% in Canadian dollars. While those numbers aren’t pleasant for Canadian investors, they’re not so far off the US stock market performance this year.
Many investors assume the strong U.S. dollar combined with economic and geopolitical trouble would make for even worse performance in international markets. But it’s important to remember that a strong dollar isn’t all bad news for international markets. Companies trading on those markets often have global operations where they earn U.S. dollars that pump up their profits when converted into local currencies.
The countervailing forces acting on markets are too complex to be summed up by easy narratives. As I explained in this column, I continue to believe that international and emerging markets stocks are an essential part of a broadly diversified portfolio.
There’s no getting around the fact that it’s not an easy time for investors. However, it’s for times like these that we prepare a financial plan where prudent asset allocation, broad diversification and periodic rebalancing all contribute to managing risk and positioning portfolios to reap gains when they come.
In these unsettling times, it’s especially important to remember just how much we have to be grateful for in Canada. I wish you all a happy, healthy and relaxing Thanksgiving among family and friends.
