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This episode, Stu Kedwell, Head of North American Equities, joins Dave to discuss what's been driving recent volatility in markets, from ongoing supply chain angst and central bank tapering, to China’s economic trajectory. Stu also talks about how these factors can impact the valuation of companies. [7 minutes, 12 seconds] (Recorded September 28, 2021)


Hello and welcome to The Download. I’m your host, Dave Richardson. It is (S)Tuesday, which we promised are going to get more regular again, just like they used to be— the (S)Tuesdays we all remember growing up. Joined by Stu Kedwell, Co-Head of North American Equities at RBC Global Asset Management. Stu, great to see you today.

Hi Dave, thanks very much for having me.

Before we get into what's going on in markets right now, you turned me on to this Ted Lasso series. What's been going on the last two episodes? I don't get it.

Well, Ted Lasso is not too far off of what's going on in markets. The script has kind of bounced around a little bit in the last two episodes, and the second season hasn't received quite the same reviews as the first season, although I think it's still been pretty solid overall.

The interest goes up and things get more volatile, just like the interest rates move up and things get more volatile. Is that really all this is, Stu, or is there something more to what you're seeing right now?

Well, there's always a couple of ingredients in the short term that market participants are left to deal with. In my mind, it's always useful to go back to what makes the stock price or what makes a market price. There are two components to that— maybe three, one is kind of combined with the other—, but you have the multiple and you have the amount of earnings. The amount of earnings is not too volatile. They do go up and down, but they're not really as volatile as the market itself over long periods of time. Then you have the multiple. The multiple is a function of interest rates, it's a function of the risk premium, and it's a function of the growth that the people perceive in those earnings. So, in the last month, where markets have been a little bit more volatile— not too far off, really, of the levels they were through the summer, but things started to bounce around a little bit more. We've had some discussion points on each one of those four components. And again, it's a little bit more short term in flavor, but on the earnings front, there's been no question that some of the supply issues have caused some discussion around who's going to earn the money. It's not just the level of earnings, but maybe it's going to go in certain people's pockets in a way that we didn't imagine it before, and it's going to go a little less in some other people's pockets. You've had oil prices do quite well. You've had natural gas prices do quite well. A lot of things that cause some of the supply chain angst, you might shift some profits from one group of companies to another. That's one thing that's been a feature. The second, around dovetailing into earnings growth, has been where fiscal policy is going to settle in the United States, which is an awkward process to watch in real time often. That's one thing that's also out there and then, of course, China’s Evergrande; how is the Chinese economy going to grow over time? That will, in all likelihood continue, but in the short term, you've taken a big property, a developer, and you've thrown some cold water on its prospects, given its balance sheet, and given the importance of residential real estate to the Chinese economy. That's been something that's out there as well. Then on the interest rate front, you've also had the Federal Reserve and a bunch of different central bankers around the world saying that it might be time to start tapering the amount of bond purchases that they're making, which, as we've talked about in the past, is a long way from actually tightening interest rates, but does withdraw at the margin some liquidity from the market because it takes one buyer and starts to diminish how much they might be buying. What we've seen in the last two or three weeks— and in some respects, the markets having a bit of a discussion around in the last two or three weeks, although I think the broader discussion has been taking place for some time on these fronts—, is after very strong moves we're going through a period of digestion, and that's really what we're seeing right now. But those four factors really go into making up the marketplace or the valuation of a company, and we're having a bit of a discussion around a number of those pillars all at once, which is why you see some uptick in volatility. Balanced against that, we go back to our longer-term framework, which is that interest rates in all likelihood are going to gradually rise and that's been a feature in the last couple of weeks. Real interest rates are likely to remain very low; right now, they're negative and they'll likely remain negative to some degree, or maybe find their way back to zero, but central banks are leaving the table set here for not too much alternative when it comes to earning a great return from fixed income, particularly relative to inflation. Equity still have pretty good total return potential relative to what we might find on a real basis in fixed income. That broader recipe for a portfolio hasn't changed, notwithstanding some volatility in the last couple of weeks.

Stu, a tremendous summary. We'll follow up next week with a little bit on this time of year and how you think about positioning your portfolio, which will help other investors thinking about their portfolios, as you come into this time of year and the kind of circumstance that we're seeing right now. Thanks for your time. I should also mention that we're going to have Phil Langham on, and he's going to be talking quite a bit about what's going on in China, getting his thoughts on what's going on in China later this week on the podcast. Stu, thanks for joining us. As always, great to hear what you had to say.

Great. Thanks, Dave.


Recorded: September 28, 2021

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