Taper time: Bank of Canada scales back asset-purchasing program

by Megan Roach, Russell Investments

On the latest edition of Market Week in Review, Director and Senior Portfolio Manager Megan Roach and Senior Research Analyst Brian Yadao discussed recent economic data releases from the U.S. and the UK, as well as key central bank announcements. They also provided an update on first-quarter earnings season and recent global equity-market performance.

U.S. jobless claims fall again, while UK retail sales soar

The week of April 19 was marked by positive economic news in both the U.S. and the UK, Roach said. In the U.S., weekly initial jobless claims dropped more than expected for the second straight week, falling to 574,000, she noted. “This is slightly less than the 576,000 claims reported in the previous week, and marks a new pandemic-era low,” Roach remarked, adding that the decline is a strong indicator of an improving labor market. Adding to the good news, an index of leading U.S. economic indicators from the Conference Board rose 1.3% during March, reversing a 0.1% decline from February, she said.

Meanwhile, the unemployment rate in the UK came in better than expected, falling to 4.9% in the December-through-February timeframe, Roach stated. In addition, UK retail sales rocketed higher in March, rising more than 5% from February. “This crushed consensus expectations for a 1.5% increase,” Roach noted, “and is another indication that things are starting to return to a more normal state.”

Bank of Canada announces reductions in weekly bond purchases

Turning to monetary policy, Roach noted that both the European Central Bank (ECB) and the Bank of Canada held meetings the week of April 19. “The ECB meeting was the less exciting of the two, with the central bank leaving interest rates and its asset-purchasing program unchanged,” she said.

The Bank of Canada (BoC), on the other hand, garnered headlines by becoming the first major central bank this year to make reductions to its accommodative monetary policy, Roach noted. “On April 21, the BoC announced that it will scale back its weekly debt purchases from C$4 billion to C$3 billion,” she stated, adding that the BoC left its key interest rate unchanged at 25 basis points for now.

The tapering in asset purchases comes amid a slew of positive economic news for Canada, including improvements in the country’s labor market, GDP (gross domestic product) and housing market. “Canada’s housing market in particular is booming,” Roach noted, “with a new report showing that housing starts rose 21% in March on a month-over-month basis, hitting a record high of 335,200 units." Given the recent positive economic headlines from around the world, Roach said it’s not too surprising that at least one of the major central banks is taking the first step in moving away from an ultra-accommodative monetary policy.

Are markets shrugging off strong quarterly earnings?

Shifting to corporate earnings, Roach said that first-quarter earnings season continues to be off to an outstanding start, with growth estimates for S&P 500® companies now north of 30%. “The majority of companies that have reported so far are handily surpassing expectations,” she noted.

Despite the stellar results, stock prices in general haven’t reacted to the upside all that much, Roach said. “This is particularly true for companies in areas like home-building, restaurants and banking—and I think it’s an indication of how expensive equity markets already are, and how much growth has already been priced in,” she stated. Ultimately, the bar for achieving a true earnings surprise at this point is rather high, Roach said.

She remarked that earnings results from the week of April 19 also sparked a few notable declines in stock prices, particularly for Netflix, which Roach characterized as the ultimate stay-at-home stock. “Netflix’s stock fell roughly 10% on April 21 when it announced that new subscriber growth had slowed more than anticipated,” she explained.

On the other side of the ledger, reopening stocks such as United Airlines and American Airlines also dropped after missing first-quarter expectations, Roach noted. “There’s a bit of concern among investors that demand for air travel may turn out to not be as robust as expected, especially given recent headlines around the surge in COVID-19 infections in countries like Japan, Canada and India,” she noted.

Is caution creeping back into equity markets?

Roach ended the segment with a recap of recent equity-market performance, which she noted has been extremely strong during the first several months of 2021. “After some of the major equity benchmarks set all-time highs earlier this month, we saw a bit of a softer performance the week of April 19, with global equities ending the week relatively flat,” she noted.

Peering under the hood further, Roach said that there was weakness in the tech, energy and consumer discretionary sectors of the market, but that this was mostly offset by stronger performances in defensive sectors, such as healthcare, consumer staples and utilities.

“This is probably an indication that a little bit of caution has crept into investor sentiment—and some of this is due to recent reports involving the Biden administration’s plan to raise the capital gains tax on Americans making over $1 million a year,” she stated. While the details and timing of this aren’t clear yet, Roach said it’s reasonable to expect an increase in taxes for at least some Americans, given the already announced spending plans of the administration.

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