This week was little different from last, with Greece and The U.S. Federal Reserve dominating the news driving global capital markets.
The noise surrounding Greece has certainly been turned up since last week, hitting a high point (or low point depending on your definition) when Greek Prime Minister Alexis Tsipras said the IMF’s policies towards Greece have been “criminal”. For some reason, Victor Kyriakos versus Bo and Hope from the 1980’s classic Daytime Soap Opera Days of Our Lives kept coming to mind as I read those press releases. But seriously, we are coming down to the short strokes with the IMF, EU leaders and Greece and the likelihood of debt default is increasing.
Christine Lagarde, International Monetary Fund chief, has been helping European officials and the central bank review emergency funding that is keeping the Greek banking system afloat. German Chancellor Angela Merkel (Greece’s largest debtor) has signaled a desire to keep the process alive, telling German lawmakers this week that “if Greek authorities show some will then an agreement with the three institutions is still possible.” However the caveat to all this is that the IMF has also stated that there will be no grace period beyond the June 30th deadline for the indebted nation to reach a deal with creditors.
Should Greece default on its debt payment July 1st, the IMF procedure could still drag out for another 2 years, however, credit default swaps could be triggered immediately. Thus we expect the next 2 weeks to continue with the volatile “risk-on / risk-off” trading pattern we have seen as of late. Unfortunately we think this “soap opera” will continue for a while yet within the global capital markets, but not derail them. We will be taking advantage of one of these risk-off periods to modestly increase our ownership of the First Asset low Risk Europe ETF or the MSCI EAFE Index ETF because when you look past Greece, the European economy is actually improving and beginning to provide nice returns to investors.
Now for news that will have a much greater impact on and importance to the North American capital markets - the U.S. Federal Reserve announced that key overnight interest rates are not going up just yet, but that the economy is strong enough to withstand higher rates.
Within the minutes of the FOMC policy meeting, officials indicated that the U.S. economy is growing moderately after a very weather related winter swoon and likely enough to support increased interest rates by the end of the year. The degree and speed at which rates will rise remains data dependent, and with jobless claims and an unemployment rate that continues to decline, it looks more and more like we could see rates begin to rise in September.
Central bankers know that rates cannot stay at near zero for much longer, as one only needs to look at Japan, where rates have been near zero for a decade without stimulating any meaningful growth. The resulting problem is that policy makers can be left with no method to deal with the next recession, other than getting creative with policies such as “Abenomics”. In taking a more detailed look at the minutes we think the FOMC has gotten that message, as we noticed that Federal Reserve Officials polled 10 to 7 in favour of 2 rate increases this year, and projections for the appropriate federal funds rate at year’s end remain clustered around 0.625%.
Further to that bond markets are forecasting a mid-3% 10 year bond rate by 2018, so we need to ask ourselves how do we change our fixed income investments given that we look to be entering a negative market for this asset class. Keep in mind we have had a 30 year bull market in bonds as rates declines to near zero, and with that about to reverse, so should the expectations around holding traditional fixed income assets.
We are certainly not advocating to not hold bonds in a portfolio, but rather to manage them correctly to better take advantage of the changing macro-economic environment. Focusing more on actively managed funds / ETF’s containing Senior Secured Loans and High Yield Bonds, along with managers that have the ability to take advantage of both rising and declining asset prices.
Last week in BC we saw Malaysia’s Petronas announced overnight a conditional green light for the $11 billion Pacific NorthWest LNG project in Prince Rupert. This week we saw Royal Dutch Shell secure their environmental permit for their B.C. LNG project from federal and provincial regulators. While several conditions have yet to be met, it does look like these massive projects are beginning to move forward, which should begin providing economic growth to the province later this year and for several to come.
For those of you who enjoy golf and are still thinking of something to do with Dad on Sunday, there is not much better than just hanging out with Dad maybe having a beverage or two and telling some of the best golfers in the world that you could have made that shot. But whatever it is that you decide to do with Dad on Sunday enjoy the day.
We never forget that working for our clients is an expression of your trust, and we promise to always uphold that trust. Thank you.
As always, we welcome your feedback.
Have a great weekend.
The Dekker Hewett Group