BMO ETF Portfolios’ July commentary: “Take the Money and Run, or Take it Easy?”

Portfolio Activity

• We have completed a reallocation of our core Emerging Market (EM) equities exposure to specifically isolate direct allocations to both India and China. As the two index heavyweights, these two markets represent the bulk of economic growth generated within the EM complex. Although presently neutral, we see the two markets as being the best opportunities for long term-growth, and to identify relative tactical risks and opportunities to capitalize on going forward.

• We rolled our previous put options on the S&P500 Index higher, to a December strike roughly 4% out of the money, protecting the year’s gains so far, allowing us the confidence to remain slightly overweight U.S. equities, while respecting the more cautious tone of the market shorter-term.

• We have implemented a position in ZMT (BMO Equal Weight Global Base Metals Hedged to CAD ETF), as well as a complementary option position on XME (SPDR S&P Metals & Mining ETF). Secular demand for copper and other metals in light of increased electricity demand, reshoring of industrial activity, and global infrastructure expansion all suggest higher prices over the longer term, making the recent pullback in copper prices a good opportunity to average in.
  

Take the Money and Run, or Take it Easy?

Before we delve too far into long weekend playlist selections (which may lead dangerously close to a review of high school hair and fashion decisions), let’s translate this month’s title into the real issue on investors’ minds: does the mid-year point mark an inflection point for developed market equities?

With the end of the month, quarter and first half of 2024 in the books, markets seem to be taking a collective deep breath in anticipation of what the remainder of the year will bring. Similarly, last month’s House View saw a retrenchment of the Multi-Asset Solutions Team’s risk appetite, pulling equities back towards neutral from our longstanding overweight. A review of the year’s driving themes is in order, as while they largely remain the same, the tone has changed considerably for some, less for others:

• Inflation – despite a surprise uptick in Canada’s CPI, shortly after a first rate cut from the Bank of Canada (BoC), this has been largely dismissed as an outlier, and a narrowly driven one at that. Wage gains and rent inflation continue to be the thorns in the broader effort to hit the BoC’s 2% target; both of which would actually ease in the face of lower rates. For this reason, we do not believe there has been a marked change to the BoC’s direction, with 3-4 more cuts pencilled in for the remainder year. In the U.S., personal consumption expenditures continue to fall, with recent month’s gaining momentum in reaching a pace consistent with the U.S. Federal Reserve Board’s (“Fed”) 2% target.

• Monetary Policy – increasingly, the actions of the Fed are moving from being a catalyst to a consideration. More specifically, the market is becoming less concerned over the timing and magnitude of cuts, as economic growth and earnings estimates are taking a larger portion of the collective market consciousness. Real policy rates remain in restrictive territory, and progress towards 2% continues, albeit sporadically and slowly.

• Employment – The June U.S. non-farms disappointed, coming in at 206,000 jobs created, but it was the 2-month backward revision, removing 111,000 from the running total that is concerning, pushing unemployment to 4.1%. Canadian employment for June was an outright loss of 1,400 jobs, resulting in a 0.2% increase in unemployment to 6.4%. Neither is red alert level, but certainly leans toward the idea of a cooling economic backdrop, particularly bumping the odds of a second rate cut from the BoC in July.

• Consumer Activity – Although down from its peak, aggregate consumer spending continues to hold up, with savings levels back at long-term average levels. Strong employment typically holds well for spending, as seen by a continued upward trend in vehicle sales and assemblies. On a similar note, consumer savings rates remain low, not showing the typical spike prior to recessions, due to increased concern over job security.

• Housing – with U.S. mortgage rates back above 7%, we are slowly starting to see the inevitable increase of the average effective rate paid by homeowners rising, as people are inevitably forced to give up lower locked-in rates and move. New home sales are plumbing prior recessionary lows, which will have a knock-on impact to construction employment and spending on consumer durables (ie., furniture and appliances).

• I.-Carumba! – the second quarter saw a reversal of the prior quarter’s broadening of sector participation and narrowing of performance between the cap-weighted and equal weighted S&P500 Index. After another blowout quarter and stock split, AI’s reigning poster child Nvidia Corp. showed a glimmer of mortality, seeing the stock sell-off 10% in the span of three days. This is a reminder that while valuation alone may not be a reason to reduce equity exposure, any reversals can be that much quicker when they do arrive.

• Grumpy Old Men – personally, I’d say Walter Matthau and Jack Lemmon did it better. The U.S. election has now actually become less about Trump and more about Biden versus his own party. The market is already pricing in a shift in power through election odds, even if Trump-friendly sectors haven’t fully embraced the notion of a shift to a Republican administration in November. Watch for this to be reflected increasingly in rates as topics of tariffs and fiscal spending are addressed by the candidates in the coming months.