Stock market picks as monetary policy eases

The shift to looser monetary policy has been the main story for the Canadian stock market in recent months.  

Following a significant rate-tightening cycle that began in March 2022, the Bank of Canada has now begun cutting interest rates — by 75 basis points so far at three consecutive meetings since June of this year.

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“While it’s arguably too soon to see a drastic improvement in economic indicators, there are potentially some green shoots emerging in Canada,” said Natalie Taylor, portfolio manager with CIBC Asset Management, in a recent interview.

For example, consumer confidence has improved slightly in Canada, while it has continued to deteriorate in countries where central banks lag behind the Bank of Canada.

More pronounced is the impact of interest rate cuts on the Canadian equities market — up 10% since the first Bank of Canada cut, Taylor noted. 

“In particular, we’ve seen interest-sensitive sectors outperform, with real estate up an impressive 22%, and financials and utilities up 14% and 11%, respectively,” Taylor said.

She sees continued opportunities in these sectors as interest rates drop. 

The sectors’ valuations continue to be below historical averages, and as interest rates lower, “there’s more room for valuations to rerate from here,” Taylor said.

Further, “there’s scope for the Bank of Canada to continue to cut rates, as other central banks, including the [European Central Bank] and more recently the Fed, have begun their rate-cutting cycles as well.”

She added that strength in these sectors has so far been indiscriminate; however, going forward, “stock selection is likely to be much more important.”

Taylor’s top pick in the real estate sector is Chartwell Retirement Residences, which she believes is well-positioned for long-term growth due to favourable demographics and improvements such as reduced operating expenses.

In the telecommunications sector, Taylor named new entrant Quebecor as a standout opportunity. 

“As the industry disruptor, Quebecor has more to gain and less to lose than the incumbents,” Taylor said. Additionally, Quebecor trades at a lower valuation and has lower leverage, she said.

Lastly, Taylor said the consumer discretionary and industrial sectors, which have lagged the TSX this year, “make for an interesting hunting ground.”  

“If interest rate cuts continue and economic data start to stabilize and improve, these two sectors can be among the biggest beneficiaries,” she said — although “it’s a little too early to make this call.”

Regardless, Taylor was optimistic about the outlook for Canadian equities over the next six to 12 months but warned that the trajectory will largely depend on the effectiveness of rate cuts. 

“The level of interest rates plays into both valuations and revisions to earnings estimates,” she said.

While markets have been strong through 2024, valuations in Canada largely remain below their five-year averages. “Lower interest rates could be supportive to further multiple expansion,” she said. 

With respect to earnings revisions, the market is currently pricing in a soft landing. If an economic reacceleration occurs, earnings forecasts could be revised upward.

Taylor also highlighted potential market risks, particularly if rate cuts don’t result in a soft landing. 

“There could be downside to stocks if rate cuts are deemed to be too little, too late,” she said. 

Additionally, the possibility of inflation reaccelerating, alongside geopolitical risks, remains a concern.

“The unpredictability of escalating geopolitical risk and other unknown unknowns is always a risk and is difficult to plan for,” Taylor said. “The best protection against this is good diversification in a well-managed portfolio.”

This article is part of the Advisor To Go program, powered by CIBC Asset Management. It was written without input from the sponsor.