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This episode, Stu Kedwell, Co-Head of North American Equities, discusses some of the main factors behind the one-day market selloff at the start of the week – from delta variant concerns to the bond market drop. Stu also explains how day-to-day ups and downs can be a good opportunity for investors to reassess their asset allocation and risk tolerance as part of the long-term investment experience. [8 minutes, 52 seconds] (Recorded July 20, 2021)


Hello and welcome to The Download. I'm your host, Dave Richardson, and it's (S)Tuesdays. Stu Kedwell, Co-Head of North American Equities at RBC Global Asset Management. Welcome back for your weekly appearance. How are you this week?

Great. I’m doing well. Thanks for having me, Dave.

So, you're doing well, but we kicked off the week in the stock market yesterday not so well. And I guess maybe the way I’d position it is, if you go back and listen to probably the last eight to 10 podcasts that we've taped together on (S)Tuesdays, we've been talking about all of these different things and the risk that they represent. And all of a sudden, the stock market woke up on Monday morning this week and went, oh, all these things are important to us now, the delta variant, growth and all these things, and sold off. Then we wake up on Tuesday and we just bounce back. So, what do we make of all this, Stu?

Yes, well, it's an interesting point. You could feel it bubbling over the weekend. There was the tweet on Saturday that the minister of health in the UK had to go into quarantine for ten days. Boris Johnson had been exposed to him. The question was: would he or wouldn't he go into quarantine? This notion of the UK reopening, but the Delta variant rising, and the Delta variant rising in some pockets of the United States— I think cases are now rising in all fifty states again. And, it kind of fed into itself in the stock market where it had been a topic of discussion that became something very central to the stock market on Monday. You know, it is the summertime; liquidity is lower. There was a fairly large move in the bond market, which was also somewhat liquidity driven. It manifested itself in a sell-off on Monday that saw a lot of the continuation of the themes that we've seen in the last month or so where the reopening-oriented stocks were quite weak. Many of them, I would say, have now corrected to some degree. By that I mean, many of these stocks are down more than 10%. Whether or not that was a full washout, you never know for sure. But, a couple of things that we've noted along the way is, first the Delta variant in Google Trends actually peaked in the last week of June. So, how much is in, how much is out? Not sure, but it's certainly a topic of discussion. It's always nice when you can tick the box when a worry is a topic of discussion. Now we'll be looking for how the economies do as some of these problems persist. But, still more optimistic about growth into 2022. I think the other thing, too, is that credit spreads have widened ever so slightly, but the absolute level of corporate-oriented interest is really the same as it was, so the credit markets have not really flashed a major sign around this move in interest rates or this choppiness in the stock market. I think the other thing, because we're seeing a bounce back today, is that you do get some selling and then you sit there and say, well, what am I going to do with the cash now? Real interest rates are back down to basically minus 100 basis points. So, if I'm sitting there with my money in fixed income, I'm losing purchasing power year over year. We've talked a lot about this, but I think a negative real interest rate is the most challenging topic of discussion for a client and an adviser that really exists right now because it's testing risk tolerance relative to what type of returns used to be available in more conservative instruments. In our minds, it really pushes you back towards dividend-paying stocks where you're going to get dividend growth over time. Yes, you have to withstand some of the volatility of the securities on a daily basis but those yields are quite strong and the dividend should grow by more than inflation over time, which really preserves and grows the purchasing power of your money. So, those are some of the things we're thinking about. You mentioned before the bond. I think it is interesting because people say, well, stocks are expensive at twenty times earnings, and that’s certainly elevated relative to history on an absolute term, but if I'm going to buy a ten-year bond at 1.5% or a thirty-year bond yielding just under 2%, the interesting thing to do is to invert those and think about the price/earnings multiple of a bond. So I walk in, I put my hundred dollars down, the U.S. government is going to give me less than two dollars a year for thirty years. Inflation's running north of two dollars a year on that hundred dollars, so I'm signing up for an erosion in my purchasing power over time. Now, it does bring some stability to the portfolio and it brings, like we've seen in the last couple of weeks, some kind of counter cyclicality to the portfolio, which still makes them quite useful. But what the central banks are really aiming to do to us is to say conservative investors are going to be penalized a little bit with inflation over long periods of time. When you're talking about a multiple on a thirty-year bond being north of fifty times the interest that you're going to get— and there's no inflation protection in that interest—, it certainly creates this more interesting conversation, as I say, between an adviser and a client. Really studying risk tolerance and return objectives becomes really paramount in this environment.

And that's before tax too. Back in the old days when I used to pop by your office, I always used to have that fixed-income discussion and talk about the equivalent price/earnings ratio, for lack of a better term, of fixed income. As you say, it highlights that bonds, when yields get too low, as you could argue they are right now for a number of different reasons, become just as risky as the stock market without a whole lot of upside as well. Then if you've got spreads compress, forget about rotating out of government fixed income, government treasuries and into more risky parts of the bond market. It really does speak to a favoritism of stocks. The conditions are still there for the stock market to do well, although because of valuations you might see additional volatility. Is that a good way to summarize it?

Yes, that's a great way to think about it. One thing that I'd also add on the volatility side; we got to have two conversations with management yesterday and the good thing about talking to management or thinking about the people who are running the businesses that we own is just all the dynamics that are going through their head about what they're doing to position the business for the future, to grow the business for the future. That day-to-day volatility is not really on their minds. Their plans are in place and they're making some adjustments to what the business could look like six, 12, 18 months down the road to grow revenue and grow earnings and cash flows on your behalf. I just think that's a great grounding factor on days when there's volatility.

Yes, and that's absolutely what they should be doing, just like what we should be doing every Tuesday is (S)Tuesdays and obviously our listeners should be listening because lots of great insights from you always. Stu Kedwell, thank you very much for joining us again today.

Great. Thanks for having me, Dave.


Recorded: July 20, 2021

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