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5 Potential Canadian Market Surprises for 2018

Patrick Ceresna
January 4, 2018
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5 Potential Canadian Market Surprises for 2018

What better way to wrap up the 2017 year than with a market forecast.  As a trader, I always look at a forecast as establishing a baseline from which to build investment themes for the upcoming year.  The obstacle however, lies in that there is substantial herding in economic forecasting and rarely does an analyst stick their neck out with outside the box thinking. With all the emergent properties of the markets, the outcome rarely delivers on consensus expectations.  In fact, the probability of an unexpected outlier event is far more likely then anticipating the markets to remain status quo.

The purpose of publishing the 5 Potential Market Surprises for 2018 is to allow for consideration of alternative possibilities outside of consensus, and the ability to recognize if those alternative scenarios begin to emerge.

Without any further ado, the 5 Potential Market Surprises for 2018:

  1. Canadian Yield Curve Inverts. Bank of Canada has raised interest rates twice in the past year, but the middle of the curve is steepening at a much faster pace.  That doesn’t sound concerning until one recognizes that the long bonds (10-30y) have not budged.  The entire middle of the curve is converging toward 2%. It would be a potential shocker if we get an inversion in the middle of the curve as most main street analysts model a yield curve inversion as a precursor to an economic recession.
  2. Longer-term interest rates remain low and decline further. The secular lows of interest rates are likely not in. The Canadian markets need to deal with the 3 Ds (debt, demographics and technological displacement).  What a surprise it would be if the short-term inflationary and growth surge prove to be transitory based on the cyclical turn up in oil and the deflationary fundamentals drag the economy back down in the back half of 2018.
  3. The Gold Miners become the best performer in 2018. Gold miners have been one of the worst performing sectors in 2017.  While many investors chase performance and generally avoid the poor performing sectors and funds, the potential surprise could be that the contrarian buy low investor wins in 2018 with the miners outperforming all other Canadian sectors.
  4. Canadian Banks Underperform. The flattening Canadian yield curve creates a drag on bank earnings. Add to that the new B-20 rules slowing new mortgage origination and you have the right circumstances for the banks to have a cooling off period.
  5. Resurgence in Global Volatility. The last two years have ushered in a period of historically low volatility, both realized and implied. One of the major precipitating factors have been the multi-trillion-dollar central bank intervention, which is now unwinding.  The 2018 potential surprise is that as the central banks wind down their quantitative easing, the market has insufficient liquidity to pick up the slack which spurs some of the most volatile market swings since 2015.  With the TSX being strongly correlated to U.S. and international equities, the volatility spills into the Canadian stock market driving a market event.

Granted some of these events may not occur, the one thing I am certain of – using equity options in today’s low volatility environment – hedging current portfolios and leveraging potential gains may offer one of the better ways to navigate some of 2018’s choppy waters.   A perfect example of this would be the implementation of a protective collar on the Canadian bank stocks.  This involves selling a covered call and applying the proceeds to reduce the cost of buying a protective put.  If you are unfamiliar with the strategy, read the MX strategy summary.    In a period where many of these bank stocks are up 10 to 20%, using a collar to lock in those gains becomes a valuable consideration.

Patrick Ceresna
Patrick Ceresna http://www.bigpicturetrading.com

Derivatives Market Specialist

Big Picture Trading Inc.

Patrick Ceresna is the founder and Chief Derivative Market Strategist at Big Picture Trading. Patrick is a Chartered Market Technician, Derivative Market Specialist and Canadian Investment Manager by designation. In addition to his roll at Big Picture Trading, Patrick is an instructor on derivatives for the TMX Montreal Exchange, educating investors and investment professionals across Canada about the many valuable uses of options in their investment portfolios. Patrick is also co-host to the MacroVoices weekly podcasts. Patrick specializes in analyzing the global macro market conditions and translating them into actionable investment and trading opportunities. With his specialization in technical analysis, he bridges important macro themes with the attempt to understand when those trends are beginning and understanding where they likely to go. With his expertise in options trading, he seeks to create opportunities that leverage returns, while managing/defining risk and or generating consistent enhanced income. Patrick has designed and teaches Big Picture Trading's Technical, Options and Macro Masters Programs while providing the content for the members in regards to daily live market analytic webinars, alert services and model portfolios.

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