I am happy to announce that we have launched our monthly update video! The video will be available shortly after month’s end and will cover a variety of topics. We also had a webinar conversation with Cidel Bank and Trust about the role of corporate executors and representatives (powers of attorney). Both are available on our website or our X and YouTube channels.

As always, if you have any questions about the Quarterly Compass Newsletter or anything else in your financial life, please use our Calendly link to set up a time to talk or reach out to Jordan or Scarlett, and they will be happy to set up a time!

For those that believe “brevity is the soul of wit”, here is the Quarterly Compass Newsletter in four key points:

• Per normal, Q3 was a volatile quarter with several “risk off” events followed by swift recoveries and multiple rotations into and out of certain equity sectors/factors/styles.
• Q3 2024 saw continued positive returns in the U.S., Canada and internationally.
• Our outlook remains positive for the next 12 months. This is supported by macro-economic, qualitative and quantitative factors. Examples are below.
• Markets continue to climb the “wall of worry”—this is expected from a historical perspective.

Quarterly Compass Newsletter – September 30, 2024

Q3 2024 saw positive performance from major indices. The NASDAQ-100 and S&P500 gained 2.01% and 5.89% respectively (in U.S. dollars) while the Canadian S&P/TSX Composite gained 10.54% (in Canadian dollars) and international markets, as measured by the MSCI EAFE Index, rose 7.33% (in U.S. dollars). Q3 started on a strong note with markets gaining into mid-July. Mid-month then saw the beginning of a rotation away from the year-to-day leaders to the laggards. This “catch-up” or broadening out trade then continued through to quarter end, powered by optimism around a large Chinese government stimulus package. This “catch-up” trade and notable strength in real estate, gold mining and financial stocks, helped the TSX to close some of its year-to-date (YTD) performance gap vs. the S&P 500.

During Q3 there were two distinct episodes of market weakness in early August and September. Both these episodes were followed by powerful recoveries that led to new all-time highs in late September. Sector performance was mixed in Q3. In the U.S., leading sectors included the utilities, real estate and industrial sectors. Lagging sectors included the energy, technology and communication services. In Canada, the real estate, gold mining and financial sectors led. All figures are per Refinitiv.

Per Refinitiv, key global fixed income benchmarks, such as the Bloomberg U.S. Aggregate Bond Index posted strong returns during Q3. Intermediate and long-term interest rates fell substantially which caused bond prices to rise. In its September meeting, the U.S Federal Reserve (the Fed) reduced its key overnight interest rate and clearly indicated that more cuts will likely be coming. In Canada, the Bank of Canada (BoC) continued to cut its key overnight rate. The markets are currently pricing in further cuts this year from both the BoC and the Fed.

During Q3, commodity prices initially fell but recovered much of their decline by the end of September per the Bloomberg Commodity Index. Notably, there was a big increase in the price of gold and a notable decline in the price of oil as Saudi Arabia abandoned its $100 oil price target in favour of defending market share. Furthermore, as per Refinitiv—market-based expectations of inflation remain well-contained with longer-term inflation “break-even” rates ranging from 5 to 30 years, all remaining near 2.20% at the time of writing.

Based on questions from clients I have collected a few thoughts:

First and foremost—let’s look at what happened in Q3 and what the outlook is for the next few quarters. Over the course of Q3, we saw several volatility events driven by recession worries, geopolitical fears and repositioning trades by global investors. As the quarter played out, we also saw a “catch-up” trade that began in mid-July where stocks that had previously underperformed (lagged) all appreciated sharply at the expense of the YTD leaders.

In thinking about this sequence of events there were several questions that generalized to— “does this change anything.” The short answer is not at this point. In the big picture, we are entering a period where we have moderating growth, falling inflation and falling interest rates. These conditions have historically been good for equities and the type of stocks that have led this cycle so far (growth factor). It is important to remember that many of the sectors that benefited from the rotation in Q3 are very interest-rate sensitive (bond proxies) and typically have low rates of earnings growth. It is normal that with falling interest rates the shares of these types of companies appreciate.

That said, we don’t want to confuse this boost in share price from falling rates with long term fundamental trends—for example slightly lower rates are unlikely to “super charge” the rate at which real estate investment trusts (REITs) develop and lease properties or remove balance sheet pressure from banks. Current conditions mean that we need to keep two ideas in our minds simultaneously. First, in the short term as rates fall these rate-sensitive stocks can do well—there is a trade here. The second is that in the longer term investors will realize that in a slowing growth environment, they need to own what is scarce—high earnings growth—and will rotate back towards quality stocks that have a higher business/earning growth rate—there is an investment here.

Currently I remain optimistic about the picture over the next few quarters. In addition to the macro economic tail winds coming from a lower interest rate, lower inflation and moderating growth environment, examples of data points that are contributing to my belief that a positive 2024/2025 is highly likely. From a qualitative perspective, these include:

• As was the case through all of 2022 and 2023, it seems that investors remain biased towards skepticism. There is now over US$6.2 trillion “parked” in money market funds and growing!
• Based on data compiled by Fundstrat, margin balances remain well under levels where historical market peaks have occurred.
• Investors continue to be very anxious about the path forward which, all else equal, is usually a positive sign. One example of this anxiety is apparent in the Chief Investment Officer (CIO) community. At a recent conference, Fundstrat reported that there was a widely held view amongst participants that the U.S. is in a recession right now. This also “jives” with my comments from last quarter about the how many in the professional strategist community at major institutions are openly admitting that they are “reluctant bulls”.

From a quantitative perspective, there is a laundry list of positive patterns. A pattern is not a prediction but based on these studies here are a few examples that remain relevant today:

• Fundstrat points out that when the S&P 500 is up more than 10% on June 30 it produces an additional 10% return through year end 83% of the time. Furthermore, when the Fed cuts rates in a non-recessionary environment, the average six-month forward return of the S&P 500 is +13.2% with a 100% win ratio.
• On March 1, 2024, we experienced four positive months in a row for the S&P500. Based on data from the Stock Traders Almanac, this pattern has occurred 14 times since 1950, and has been positive 100% of the time 12 months later with a median gain of 21.2%.
• In addition, historically, there has been a tendency for “the year to play out in January.” A positive/negative January usually leads to a positive/negative year.
• Sentimentrader also points out that when, as we saw in September, the S&P 500 has a short sharp decline and a fast recovery within 3% of all time highs that the S&P500 is positive 90% of the time a year later with a mean return of 16.2%. A study reported by Dr. James Thorne, Chief Market Strategist at Wellington-Altus Private Wealth indicates that since 1980, in the 12 times that the Fed has cut interest rates when the S&P 500 is within 1% of an all-time high the index was higher one year later 100% of the time by an average of 13.9%.
• On a longer-term basis: Ritholtz Wealth Management also recently published a study of three year returns which indicated that since 1957, when the Fed has cut interest rates within 5% of an all-time high, the S&P500 was higher 88% of the time by an average of 51% vs. 38% higher when they cut when the S&P500 was not within 5% of its all-time high.

There is an old Wall Street saying that “bull” or up trending markets “climb a wall of worry”—that is what we seem to be doing right now.

I have also fielded a few questions about how my view on the path forward has evolved as time has gone by. A key part of my process is using historical patterns and cycles to understand what the road ahead may look like—not to predict but to be prepared for a wide range of outcomes. Because of this, my positive view is becoming more nuanced when looking out into 2026. Past cycles indicate that we could see a tougher year in 2026. For example, the well-known U.S. presidential four-year cycle typically has its worst performing year in the mid-term election year. Furthermore, the number of months that will have elapsed by the late 2025/early 2026 period corresponds closely to the number of months that have passed from the first Fed rate hike to the onset of recession in the last two cycles. Fundamentally, government budget deficits, which have supported growth, will need to be reduced. Based on the approximate timing of key budget processes, a substantial reduction in government spending looks to be a significant possibility as we enter 2026.

It is important to remember that these examples are observations and that none of these observed cycles are destined to play out—a lot can happen between now and then. For example, Dr. James Thorne points out that a continued ramp up in AI spending could help the U.S. avoid a recession if/when government spending falls. Understanding historical patterns and cycles helps to form a composite picture and gives us “reasonable working assumptions” to gauge the evolution of circumstances. That is why we always stick to our fundamental risk management principles to ensure that no matter what surprises the world throws at us, we are prepared to react intelligently and take action to help you achieve your long-term goals and objectives.

There were also a lot of questions about Bitcoin (BTC) and its outlook in the coming months. After an initial surge of performance in the fall of 2023 to the spring of 2024, BTC has largely traded in a wide range between approximately US$70K and US$55K. Despite this long period of range bound trading the outlook is still strong. First and foremost, it is important to recognize that BTC is a volatile asset and usually sees most of its annual returns occur in just 10 days per year. Studies by The Stock Traders Almanac indicate that most of these days happen between October and May. Secondly, BTC is still within the 21-month period around “the halving” which has historically been positive for prices due to the supply reduction. Third it is important to recognize that this range bound trading for the last few months has happened despite several large price insensitive sellers entering the market. For example, the German government recently sold off all of its holding of BTC over a weekend. Typically, an asset that “bends but does not break” in the face of selling events is strong.

We have taken several actions in the portfolio entrusted to us since our last update. First, as a part of our routine quarterly portfolio review, we removed the communication services ETF (XLC-US) because its key holdings overlapped with other portfolio holdings. Secondly, we allocated funds to two low volatility factor ETFs—one in the U.S. Equity Model and one in the Canadian Equity Model. The goal here is to efficiently increase diversification into sectors we have been underweight and to catch some of the “catch-up” trade we discussed earlier.

As always, the focus of the Kluge Wealth Advisory Group is on preparation and not prediction. Irrespective of any views, we always acknowledge and prepare for a wide range of events and outcomes. As we move through 2024 and look towards the first parts of 2025, the picture painted by our dashboard remains positive.

The information contained herein has been provided for information purposes only.  The information has been drawn from sources believed to be reliable.  The information does not provide financial, legal, tax or investment advice.  Particular investment, tax, or trading strategies should be evaluated relative to each individual’s objectives and risk tolerance.  This does not constitute a recommendation or solicitation to buy or sell securities of any kind.  Wellington-Altus Private Wealth Inc. (WAPW) does not guarantee the accuracy or completeness of the information contained herein, nor does WAPW assume any liability for any loss that may result from the reliance by any person upon any such information or opinions.  Before acting on any of the above, please contact your financial advisor.

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