Markets Down Sharply on Hotter than Expected U.S. Inflation Reports, Bank of Canada Holds Rates

The Week in Review

Note from Marc: Regular readers of The Pulse will notice a format change in this week’s edition. It’s been over six months since we launched this newsletter, and I’m always looking for better ways to provide the most value to you, our readers.

In this edition, I’ve reformatted each main story to provide an overall introduction of the story, and then break it down into digestible points, with a bit of commentary on each. The information is pretty much the same as before, but the layout is different. My hope is that this ‘key points’ format will be an easier read, with the need-to-know information being front and center. As always, for those who are interested in taking a deeper dive, I’ll provide a link to the full story.

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Now, on to this week’s Pulse

The top stories of the week have to be the higher than expected U.S. Inflation numbers and the Liberal Governments ongoing efforts to combat the Canadian Housing Crisis. I’ll talk more about these stories below.

For the second consecutive week, the S&P 500 and the Dow Jones Industrial Average pulled back from the record highs they achieved at the end of March. The Nasdaq saw a relatively smaller decline, thanks to strong performances from select technology stocks, and the TSX finished a choppy week, down just over 1½ %.

Major Stories of the Week

📈 Inflation Concerns: The U.S. Consumer Price Index (CPI) rose to an annual rate of 3.5% in March, up from 3.2% in February, with core inflation also increasing. This unexpected rise has cast doubt on the anticipated timeline for interest rate cuts by the Federal Reserve.

🏠 Housing Affordability Measures: In advance of next week’s Federal Budget and a looming election, the Liberal government has introduced a number of measures in its battle against the growing housing crisis here at home. I’ll cover these stories in more detail below.

🏦 Bank of Canada Holds Rates: The Canadian central bank held rates at 5% this week, as was widely expected. Governor Tiff Macklem cautioned that although we’d all like to see rates come down, the bank needs to see price stability first.

📉 U.S. Interest Rate Outlook: This week’s inflation data and comments from the latest Federal Reserve meeting suggest that rate cuts may not be as imminent as previously thought. Fed officials are prepared to maintain higher interest rates for a longer period, which has affected investor sentiment.

🏦 Banking Sector Performance: The major U.S. banks that reported on Friday all beat earnings expectations for the first quarter. While some banks showed earnings declines year-over-year, overall earnings for banks in the S&P 500 are estimated to have dropped by 18% compared to the first quarter of 2023.

🌐 Gold Prices Rising: Gold prices have continued to climb, reaching new highs and increasing by about 9% since late March. This trend reflects investors' ongoing interest in safer assets amid market uncertainties and inflation pressures.

In this Edition of The Pulse:

• U.S. Inflation Hotter than Expected

• Bank of Canada Holds Rates

• Backlash on Insurance/Pharmacy Arrangements

• The CRA Bare Trust Debacle Cost almost $1 Billion

• The Liberal Government Introduces More Housing Measures

• Are 30-Year Mortgages a Solution, or a Problem?

• J.P. Morgan Shares Drop as Earnings Season Kicks Off

• Market Movers | Winners & Losers

THIS WEEK’S POLL QUESTION
(Results in Next Week’s Newsletter)

LAST WEEK’S POLL RESULTS

S&P 500 Weekly Overview

S&P TSX Weekly Overview

Overbought

The Relative Strength Indicator (RSI) can provide a signal that suggest a stock is either overbought or oversold. A stock that has an RSI over 70 is considered to be in “overbought” territory. This might suggest that the stock is due for a pullback, however it is not a recommendation to sell. Always perform your own due diligence.

Oversold

A stock that is trading with an RSI below 30 is considered to be in “oversold” territory. This might suggest that the stock is due for a recovery, however it is not a recommendation to buy. Always perform your own due diligence.

THE ECONOMY
U.S. Inflation Running Hot

Hotter than expected U.S. inflation numbers have again put a spotlight on the Federal Reserve's plans for interest rate adjustments, potentially delaying or cancelling anticipated cuts this year. Here's a deeper look at some of the economic conditions influencing these potential changes:

🌡️ Persistent High Inflation: The U.S. Consumer Price Index (CPI) surged unexpectedly in March, marking the third consecutive month where inflation has exceeded forecasts. Despite a decrease from its peak of around 9%, inflation remains stubbornly above the Fed’s target of 2%.

💪 Strong Economic Indicators: The labor market is robust, complicating the Fed's capacity to lower rates without inciting further inflation. Federal Reserve Chair Jerome Powell is opting for a cautious approach, indicating decisions will be guided by incoming data, suggesting no immediate rate cuts.

⏬ Uncertain Outlook for Rate Cuts: Initial expectations for rate reductions as early as June 2024 are declining due to persistent high inflation and vigorous economic health. Some experts are now skeptical about any rate cuts occurring this year.

🌍 Implications for Borrowing and Inflation Risks: Lowering interest rates would reduce borrowing costs, possibly stimulating consumer spending and business investments. However, premature rate cuts risk boosting inflation further, especially given the already strong economic activity.

🔍 Market Reactions and Federal Reserve Watch: As we saw with this week’s price action, financial markets have moderated expectations for rate cuts following the latest inflation figures, adopting a cautious outlook.

Overall, the Federal Reserve faces a tough balancing act in managing economic growth and controlling inflation, with future interest rate decisions critically dependent on incoming economic data.

THE ECONOMY
Bank of Canada Holds at 5%

The Bank of Canada announced on Wednesday this week that it will maintain its key interest rate at 5% for the sixth consecutive time since July, indicating a cautious approach to any future rate cuts. Governor Tiff Macklem emphasized the need for sustained evidence of slowing inflation before considering a reduction in rates.

Rate Decision Insights:

🔍 Steady Interest Rates: The central bank's decision reflects ongoing concerns about inflation levels, despite some recent declines in core inflation, which excludes volatile items like food and energy.

💬 Governor Macklem's Criteria for Rate Cuts: Macklem has clarified that while recent trends in core inflation are promising, the bank requires more time to ensure these are not transient but a stable trend towards the inflation target of 2%.

📉 Future Rate Cut Possibilities: Although a rate cut in June remains possible, the Bank of Canada is seeking more consistent signs of easing inflation. Inflation cooled to 2.8% in February, but high costs in rent and mortgage interest continue to pressure the overall inflation rate. March inflation numbers are due out this Tuesday.

📊 Economic Outlook: The bank is optimistic about reaching its inflation target by 2025 and expects solid GDP growth fueled by population growth and increased household spending.

🌐 Comparison with U.S. Economic Conditions: While the U.S. economy shows strong growth, prompting a delay in expected rate cuts by the Federal Reserve, Canada's economic situation allows for a more imminent possibility of rate reductions, potentially leading the Fed in this regard.

The Bank of Canada is balancing caution with optimism, signaling that rate cuts could be on the horizon if current economic improvements persist.

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HEALTH CARE
Insurance Backlash

Provinces across Canada are starting to place more scrutiny on exclusive deals between insurers and pharmacies, known as Preferred Pharmacy Networks (PPNs), in light of recent controversies and regulatory actions initiated by Ontario. This focus is a sign of broader apprehension concerning these agreements, which have gained public attention following high-profile cancellations and announcements.

What’s Happening?

🔍 Growing Backlash Against PPNs: Several provincial regulators of the pharmacist profession are exploring ways to limit the use of exclusivity deals, signaling a rising concern about such arrangements after Ontario's call for stricter legislation.

💬 Ontario's Regulatory Efforts: The Ontario College of Pharmacists is spearheading efforts to draft a position statement critical of PPNs and is collaborating with the Ontario Ministry of Health to develop new regulations. These efforts were inspired by existing Quebec legislation that prohibits insurance contracts from restricting a person's choice of pharmacist.

🌐 Impact on Patient Choice and Care: The main concern among regulators is that PPNs might prioritize business interests over patient care, potentially compromising the quality and safety of healthcare services. Ensuring patient autonomy and the right to choose their health provider remains a central issue.

📉 National Response and Consultation: Other provinces, including Alberta, Manitoba, and Newfoundland and Labrador, have expressed their concerns and are looking into their regulatory options. Nova Scotia has even suggested that the federal Competition Bureau should investigate PPNs, indicating the complexity and national importance of the issue.

The reaction across Canadian provinces shines the light on PPNs, emphasizing the protection of patient rights and the need for thoughtful regulation in the healthcare sector. Whatever the outcome, the health of patients has to be the top priority.

TAXATION
CRA’s $1 Billion Embarrassment

Accountants and their clients in Canada may have incurred nearly $1-billion in costs due to new reporting requirements for bare trusts, which were ultimately not enforced for the 2023 tax year. This figure comes from a survey conducted by Joseph Devaney, a director at Video Tax News, which included responses from 118 small to medium-sized accounting firms nationwide.

Debacle Details

💰 High Compliance Costs: The survey indicated that the total compliance cost for the new bare trust rules reached an estimated $905 million. This sum reflects the significant financial impact of preparing for regulations that were not implemented as initially planned.

💬 Complexity and Reversal: The new rules required Canadians to report bare trusts for the first time, complicating tax filings for many, especially those with simple family financial setups. The CRA reversed this requirement days short of the tax filing deadline, acknowledging the unintended consequences.

🌐 Government Response and Public Reaction: The CRA's late decision to not enforce the rules for the year triggered widespread frustration, even outrage, among taxpayers and accountants, noting countless wasted resources and effort.

📉 Economic Impact on Accountants and Clients: On average, firms spent about $13,000 on staff training for these new rules and charged clients around $11,000 for preparing already submitted bare trust files. Additional costs included about $12,000 for preparing returns that hadn’t been billed to clients yet.

As I talked about on our YouTube channel, this is one of the biggest debacles in recent memory. The government should be ashamed of the undue burdens it placed on taxpayers and professionals.

HOUSING
Liberals Tackle Housing Crisis

As the Canadian housing crisis shows no signs of letting up, the federal Liberals have concluded a series of prebudget housing announcements with new initiatives aimed at addressing mortgage and real estate fraud, limiting single-family home purchases by large corporate investors, and introducing low-interest loans for secondary suites. These measures are part of a broader strategy to tackle Canada’s pressing housing issues, which include constructing 3.87 million new homes by 2031 despite anticipated short-term declines in housing starts.

Housing Highlights:

🔍 Strategic Housing Expansion: The government’s plan involves increasing the housing supply significantly by 2031, although current forecasts from the Canada Mortgage and Housing Corporation (CMHC) predict a dip in housing starts due to the effects of higher interest rates.

💬 Political and Economic Context: Prime Minister Justin Trudeau emphasized the urgency of making affordable housing available, reflecting concerns that younger generations might struggle to achieve homeownership levels similar to those of their parents and grandparents. This announcement comes as the Liberals face challenging poll numbers and growing political pressure.

🏠 Focus on New Housing Policies: Recent policies include a $1.5 billion fund to secure rental housing affordability, support for factory-built homes, and enhancements to the Housing Accelerator Fund. Additionally, the government has proposed extending mortgage amortization periods for newly built homes to 30 years to make payments more affordable for first-time homebuyers. More on this in the following story.

🌐 Legislative Measures against Corporate Ownership: In response to the "financialization of housing," new regulations will be introduced to prevent large corporate entities from buying up single-family homes. This move is designed to ensure that homes remain accessible to individual buyers and families rather than becoming predominantly investment vehicles for large investors.

🏘️ Incentives for Secondary Suites: The Secondary Suite Loan Program will offer up to $40,000 in low-interest loans to homeowners who wish to create additional rental units on their properties. This initiative aims to boost the available housing stock and provide homeowners with an avenue to contribute to solving the housing shortage.

🌐 First Time Homebuyer Limits Upped to $60,000: Ottawa is also raising the limit for first-time homebuyers to withdraw from their Registered Retirement Savings Plan (RRSP) for home purchases from $35,000 to $60,000 without tax penalties.

Recent numbers have confirmed the growing challenges for those who want to get into the housing market. In particular, younger Canadians are the hardest hit. The government is throwing billions of dollars at the problem in search of a solution, and we can only hope that a solution is found before it’s too late, if we’re not already there.

HOUSING
30-Year Mortgages are Back

Ottawa has announced a new policy allowing first-time homebuyers to secure 30-year mortgages for newly built homes, a change aimed at making homeownership more accessible amid Canada’s housing crisis. This marks the first relaxation in mortgage rules in over a decade, previously tightened to protect the financial system and ensure homeowners could manage their debts.

Particulars of this Policy:

🔍 Extended Amortization for New Builds: The policy introduces a longer amortization period, extending the maximum from 25 years to 30 years for insured mortgages, but exclusively for newly constructed homes. This is intended to reduce monthly mortgage payments, making them more manageable for first-time buyers.

💬 Limitations and Industry Reactions: The change is restricted to new builds, which often require a wait of several years for completion. Critics, including James Laird of CanWise Financial, argue that while the adjustment is helpful, it is limited in scope and does not apply to the purchase of existing homes where most first-time buyers might look.

📉 Impact on Housing Demand and Construction: By incentivizing the purchase of new builds, the government aims to boost demand for preconstruction homes, which have seen reduced interest due to rising borrowing costs. The real estate industry has advocated for broader application of the 30-year amortization to include all home types.

Here’s my take: Yes, we have a crisis. But I’m not sure I agree with this policy of extending the mortgage amortization to 30 years. As I started this story with, we’ve been here before and the government previously banned the same 30-year mortgages in order to protect the financial system and ensure homeowners could manage their debts. Are we now ready to throw that ‘protection’ away to solve a short-term problem, only to make the long-term debt problem worse? I hope not.

FINANCIALS
JP Morgan Beat But Shares Drop

Earnings season is again upon us, and things kicked off Friday with early reporting from the major U.S. Banks. JPMorgan Chase’s share price was down more than 6% Friday after releasing guidance for 2024 that disappointed investors, despite beating earnings and revenue expectations for the first quarter. The bank reported profits and revenues that exceeded Wall Street predictions, buoyed by lower credit costs and stronger trading revenue.

Highlights

🔍 Earnings and Revenue Beat: JPM reported first-quarter earnings of $4.44 per share, above the expected $4.11 per share. Revenue also exceeded expectations, reaching $42.55 billion against a forecast of $41.85 billion.
(Wells Fargo, BlackRock and Citigroup all beat EPS expectations as well.)

💬 Steady Interest Income Forecast: Despite the earnings beat, the bank's guidance for 2024 net interest income at around $90 billion remained unchanged from previous forecasts, leading to a more than 6% drop in share prices as some investors were hoping for an increase of $2 to $3 billion.

📉 Credit and Trading Performance: On a positive not, the bank posted a $1.88 billion provision for credit losses, significantly lower than the $2.7 billion analysts had expected. Trading revenue, particularly from fixed income and equities, also outperformed expectations by over $100 million in each category.

🌐 Economic Outlook and Challenges: CEO Jamie Dimon described the bank's results as strong, supported by a robust U.S. economy. However, he also expressed caution about future uncertainties including international conflicts and inflation pressures.

🏢 Commercial Real Estate Concerns: CFO Jeremy Barnum highlighted ongoing challenges in the commercial real estate sector, particularly in office spaces, indicating no signs of improvement and a lack of positive outlook for this asset class.

JPMorgan's results, along with those of Wells Fargo, BlackRock and Citigroup, set a precedent for other major banks reporting in the coming week, including Goldman Sachs, Bank of America, and Morgan Stanley.

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