We’ve been enjoying major growth of investment accounts since 2023 opened, and especially the past six months. I’m grateful my notes of last spring and summer proved true – and no credit to myself but to our team and partners to keep things moving forward. Recent weeks paused which is natural given rising interest rates. Then Thursday 9th stormed in with the failure of Silicon Valley Bank and a few more of the 4700 regional US banks, also Switzerland’s Credit Suisse. By Sunday night SVP deposits gained federal guarantee and regulatory bandaides to help avoid contagion. As I write this, St. Patrick’s Day markets are less than vibrant green, being 3rd Friday of a month which marks the expiry of futures options; this exaggerates whatever is happening in the markets.
As for SVB and other banks … the clearest background I can offer is this. Banks let us deposit money which means it’s a debt they owe us, matched by credit which banks offer and we owe back at higher interest rates — so that the bank pockets the spread between those two rates. But now remember, (i) Covid drove interest rates so low that banks paid no interest, but also charged low interest, earning next-to-nothing on the tiny spread. (ii) Since 2021 Central Banks accelerated interest rates higher, so retail banks have been drawing overnight money, paying interest much higher than what they’re earning on fixed-rate loans and mortgages. (iii) Blue-chip banks cautiously invested their reserves in short-term treasuries, but SVB sought higher income in long-dated securities. (iv) Rising rates have punished those long-dated securities, to the point that SVB and a few others became technically insolvent. It has been said that central banks will raise rates against inflation until something breaks: so SVB now marks the spot. With lightning speed, government and regulators in the US and Switzerland acted to quell the storm and rebuild confidence.
It’s no exaggeration to say lightning speed. U.S. 2-year bond rates have dropped 1.12% in a week, with 5- and 10-year rates also dropping strongly. In a single week, US rate expectations have shifted sharply downward; no longer heading toward 6%, all terms from 2- to 30-year are now solidly below 4%. Is it true, interest rates rise until something breaks? Indeed rising rates were a primary cause of SVB failing (along with poor risk control on their reserves). Is it possible interest rates suddenly passed their peak?
Important questions, indeed, for boomers and seniors investing for a steady life income! Also for younger and middle ages carrying hefty mortgages and loans. So what are the key indicators for inflation and interest rates, now and the year ahead?
- Food prices: rose 10% last year but 2023 is trending nearer 5%: possibly 0-2% by year-end.
- Energy prices are down by a third or more, so this trend is anti-inflationary, even deflationary.
- Supply chains were 90% of inflation in 2021 but global shipping costs have fallen 85%: now deflationary.
- Rent prices: dramatic increases are already baked in, easing now with 2.5% guideline (except new renters).
- Wages: pushing 4-5% especially in lower-paid service industries; for now this remains inflationary.
- Interest rates are another input to inflation: lower rates eventually can help dampen inflation.
- Housing: covid’s “work-from-home” sustained incomes alongside near-zero interest rates, so a 40% jump in house prices “borrowed activity from the future” (Benjamin Tal, CIBC) with the natural result that prices fell back sharply but will resume an upward trend … still driven by lack of available housing for a growing population.
The Bank of Canada and Federal Reserve must ensure inflation is subdued before cutting % rates, but they also must avoid pushing too hard toward recession. Reaching a desired 2% target requires artful balancing. Allowing inflation between 3-5% hurts everyone, increases our tax burden, diminishes what money can buy. Yet pushing too hard carries greater risks of deflation such as ailed Japan the past thirty years, or Europe’s malaise of the past ten years. Hopefully we have some natural stabilizers for 2-3% inflation which include:
- De-globalization: it’s the opposite of jobs going to Asia for lower wages. Instead, some manufacturing returns to N. America to enhance corporate and national security, although with higher wage costs.
- End of “just-in-time inventory”: covid severely restricted manufacturing and transportation, so we’ve adapted to realize companies need to store more inventory despite higher incremental costs.
- Green initiatives: $20-$40 Trillion global investment in environmental sustainability – this is modestly inflationary for the next twenty years but lower costs will eventually prevail with more efficient energy and infrastructure.
- Social factors etc.: aging population, rising medical costs, inadequate supply of housing for relocations and immigrants, investment in high-value skills development.
Vital Investment Themes for Inflationary Times follow what I’ve been sharing for over a quarter century. Absolutely, dividends because they represent your piece of corporate earnings, and they tend to increase year over year over year. Absolutely, hard assets such as real estate (especially industrial and multi-family residential), and infrastructure (anything that moves people, products, and data), because income from these assets keeps paying you more, and their value rises substantially over time. Absolutely we want to be conservative with growth, owning companies with low debt, high earnings, essential products and services for expanding markets, and leading their peers in governance and environmental integrity.
Similarly our partners at RBC-GAM share that long term investors stay focused on the long term plan. Their picture gives the results of a balanced portfolio ranging from worst-case 4.9% to a best-case 9.7%, averaging 7.1% per annum over rolling 20-year periods. They compare 1-year GICs ranging from 1.2% to 4.7% with an average 2.4% per annum (pretty close to zero after inflation). Bond funds would sit between those two. Dividend-equity would gain more than them all. Long term thinking pays long term results — to safely and sustainably assure your personal goals and safeguard your income for life.
Our promises have never changed. We are with you the whole way. We see beyond any momentary crisis to the rewards that follow on our planning. Through everything we aim to protect and sustain A Lifetime of Wealth.
Yours always in Financial Security for LIFE.
Brian Weatherdon, MA, CFP, CLU. 905-637-3500
627 Guelph Line, Burlington, Ont. L7R 3M7. 1-877-937-3500
Brian@SovereignWealth.ca.
Certified Financial Planner, Certified Retirement Coach
Author: A Lifetime Of Wealth — And How Not To Lose It (2013). Protecting Life, Loved Ones, and Future Dreams (2013). Your Business, Your Retirement: Halton Retirement Study (2015).
** This monthly letter touches on key strategies in Canadian and global investing and financial planning. This letter is not an offer to sell any kind of security, insurance, or program. Historical returns and risk measures are not a valid guide to future performance. Returns are from publicly available sources and research from a variety of firms including but not limited to Canada Life, CIBC, Dynamic, Mackenzie Financial, RBC / PH&N, and more. Opinions in this letter belong solely to the author and no other body is responsible for the content expressed here. We value opportunity to coordinate with your legal and accounting advisers to further your financial goals in home and business. We are grateful always to receive your comments and questions.