High oil prices will help Canada's benchmark equity index outperform the U.S. again this year and next, even as the U.S. economy slows and global stock markets struggle, says CIBC World Markets economist and strategist Jeff Rubin.
Since 2000, TSX returns have topped the S&P 500 by 7 per cent a year, a pattern he expects will continue for the balance of 2008 and 2009.
The Canadian outperformance will be driven by a familiar force, the TSX's oil and gas index, which should currently be trading about 35 per cent above its actual levels, Mr. Rubin said. At this point, energy stock valuations reflect oil prices at $25 (U.S.) below the $100 a barrel level he expects they will average for the rest of the year.
“While the energy index tracked crude's rise closely to $75, it has priced in little of the increase since,” he said.
Federal Reserve Board Chairman Ben Bernanke said for the first time on Wednesday that a U.S. economic recession is “possible.” Mr. Rubin's most recent bullish call comes as key commodities such as oil and gold have eased from record levels, albeit only slightly, against a background of slowing U.S. and global economic growth. In Mr. Rubin's mind, the slowing growth forecast will not weigh down Canadian equities.
“While stock market returns around the world are becoming increasingly correlated, TSX returns bucked the trend by diverging markedly from global performance,” Mr. Rubin said in a portfolio strategy outlook released Wednesday.
“In a sharp reversal from the past, a dollar invested in the Canadian market now offers greater opportunity for diversification for investors with sizable U.S. dollar exposure than a matching amount placed in European and Asian stocks.”
Mr. Rubin, who is already “overweight” in energy, shifted another 1 per cent into the sector at the expense of a 1 per cent cut in telecoms, were he remains “underweight” because of slowing sales growth and a softer global merger-and-acquisition environment.
Speaking at a real estate conference Wednesday in Toronto, Canadian Imperial Bank of Commerce chief executive officer Gerry McCaughey described 2007 as an interesting year, in which the strong first half was the opposite of the second half, when market conditions were “very difficult.”
Mr. McCaughey said he expects the reverse to occur this year, when tough conditions early this year should improve later in 2008. CIBC is hopeful the second half of the year will be a period of “improvement and recovery,” he said.
Mr. Rubin agrees that the picture will brighten by the end of the year. Although further asset writedowns from the U.S. mortgage meltdown will curb near-term stock market performance, the TSX will recover to 14,500 by year-end and set a 16,200 record high by the end of 2009, he said. The index closed Tuesday's session at 13,440.72.
Citing further expected interest rate cuts from both the Federal Reserve and the Bank of Canada, he kept his “overweight” rating in bonds at the expense of cash. However, Mr. Rubin told the CIBC conference Wednesday that he will be selling his long bonds in the next quarter, given the expected additional economic stimulus and liquidity.
Canada's stock market rose Wednesday after Bank of Canada Senior Deputy Governor Paul Jenkins said the central bank would continue to cut interest rates to stimulate the economy. He also noted that while the U.S. downturn is hurting Canadian exports, the domestic side of the economy is still thriving on strong commodity prices.
Mr. Rubin made headlines in January when he forecast that crude would reach $150 a barrel within five years, an outlook based on the notion that while U.S. oil consumption will certainly drop in the short term, emerging economies will more than make up for the decline.
In the most recent portfolio outlook, he said the low price of natural gas has restrained Canadian oil and gas valuations, a situation that will change. He expects that North American natural gas prices will soon shoot into the double-digit range as an increasing number of planned coal-fired plants are rejected by U.S. state legislatures and are replaced by gas-fired ones.
Mr. Rubin also remains “overweight” in the materials sector, which has been the TSX's leading performer in 2008. Prices for a range of non-energy commodities will remain firm in 2008, as supplies remain stretched for many minerals and industrial metal, he said. Furthermore, he said gold's recent retreat from record high levels above $1,000 an ounce will prove temporary given a continuing weak greenback, inflationary jitters and further anticipated U.S. Federal Reserve rate cuts.
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