Broad market gains drive investor optimism

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Welcome to Advisor To Go, brought to you by CIBC Asset Management, a podcast bringing advisors the latest financial insights and developments from our subject-matter experts themselves. 

David Wong, Chief Investment Officer, Managing Director and Head, Total investment Solutions, CIBC Global Asset Management.  

The key theme that shaped investor portfolios in 2024 was just how strong and wide market returns were across the board. It really was a phenomenal year with returns that were up double digits across all major equity markets, and the bond market also had a positive year overall.  

So, to the end of November, the U.S. market is up about 36% for the year, and the Canadian market is up a little over 25%. International markets are up about 13.4%. The emerging markets are even better than that, up 14.8%.  

And what drove these returns really came from a variety of factors. I’d say the common factor was a more favourable interest rate environment from the central banks, globally.  

The trade-off between inflation and providing support for weakening economies really led to concerns for the latter being prioritized. And here in Canada, we saw the Bank of Canada lead the charge, being first among central banks to lower rates all the way back in June. And then, of course, most other central banks followed suit, including the Federal Reserve in the U.S. not long after that.  

Now, what led to individual market strength in each individual country, of course, varied given how each country has its own unique features.  

More recently in the U.S., I think the resounding victory of Donald Trump in the U.S. presidential election has really given new life to the bull market, given his pro-market stance. And then further, the Magnificent Seven remain dominant in the U.S. So, these are the stocks that include Apple, Amazon, Alphabet, Meta, Microsoft, Nvidia and Tesla.  

Now if you look at the return of the average of the Mag Seven stocks in 2024, they were up about 63% and if you look at the average return of the rest of the index, it was 27%. So, quite extreme difference between the Mag Seven and the rest of the index. And it sounds quite extreme, but it’s actually a big improvement over 2023 when the return of the average of the Mag Seven stocks was 106% while the average of the rest of the index was up only about 10%.  

So, while the headlines are still going to show that the Mag Seven led the pack in 2024, the participation to the upside improved quite a bit across the U.S. market, with 36% of all U.S. stocks or S&P500 stocks having a return higher than the index itself in 2024, versus only 26% in 2023. Further, in 2023, even though the return of the index was strong overall, fully 37% of the stocks in the S&P500 actually had a negative rate of return. When we compare that to what happened in 2024 so far, it’s less than 18% of the stocks that have had a negative return so far this year. So quite a big improvement in terms of just how broad the participation in the up market has been in 2024.  

In Canada, the two largest sectors in the market, financials and energy, each delivered strong returns of 32% and 28% respectively. And given their large weight in the Canadian benchmark, it helped help to lift returns overall in the Canadian market to a very healthy level.  

In fact, the Canadian market, relative to all developed markets, placed fourth in the world, being behind only the U.S. market, which is the largest market in the world, and just behind Singapore and Israel, which are significantly smaller markets than Canada.  

Within EAFE [MSCI Europe, Australasia and the Far East index], while returns were healthy overall, they were dragged lower by some of the larger weights in the index, a name like ASML, which is a 1.6% weight in the index and for a long time has been a stock market darling just given its critical role in the semiconductor value chain, you know, it had a rough year. It was down about 1% despite being attached to the AI theme that has worked so well in the U.S. The reason being: they had disappointing Q3 earnings and a weaker than expected forecast for 2025. 

Overall, though it’s hard to be disappointed with returns in any of the major equity markets for the year, given they were all well above their long-term averages. 

Looking ahead to 2025 we expect a number of things to impact portfolios.  

As we sit today in early December 2024, economic growth has been surprisingly resilient. The inverted yield curve that started in 2022 has turned out to be not predictive of a recession, which is a rare miss, and we see less reason to be bearish now that the curve is positively sloped again.  

That said, the new incoming U.S. president has already talked about a significant increase in tariffs, all the way up to 25% on Canadian and Mexican goods. Since exports make up one third of the Canadian economy, and almost 80% of our exports go to the U.S. market, if this comes to pass, it will have a severely negative impact on Canada.  

Now, the expectations are for Canada to be able to negotiate out of these tariffs, but it’s something that we need to keep a close watch of.  

Interest rates will be squarely in focus by all market participants as well, given that central banks are widely expected to continue on their path to lower the policy rates. So, inflation data will be closely monitored for this reason.  

The other thing to watch is whether active management will be beneficial in 2025 in the U.S. market, after a long run of underperformance versus the S&P500. The strength in a small subset of large exposures in the index — I’m speaking again of the Magnificent Seven stocks; today, they represent a little over 31% of the S&P500 while they were just a little over 24% of the index at the end of 2020, so quite a big shift in concentration in the benchmark — that’s created major problems for active managers. All of this concentration in the Magnificent Seven, arguably, is creating an imbalance that will likely reverse at some point. So, investors should be asking whether it’s time to diversify a bit away from the S&P500 to market cap weighting with perhaps an equal weighted approach, or with active managers that have more diversity in their portfolios. 

The best way that savers can build resilience into their investments is by starting with a plan that considers their investment horizon plus what they need out of their investments over the long term. So, if it’s to fund a retirement that’s 30 years in the future, for example, then a long-term plan that invests across asset classes, countries and sectors really should be the default portfolio.  

Bonds have attractive yields today and could provide meaningful support in any equity market downturns, so they should definitely be a part of a diversified plan. While the yield on the 10-year government of Canada bond has moved in a wide range over 2024 — having a low in the yield of 2.9% and a high of 3.9% over the year — it does look like yields are settling down in the last couple of months of the year, and returns are firmly in positive territory for the main Canadian Bond Index, which is up almost 5% to the end of November for the year to date. 

This is thanks to a high starting yield, as well as strong performance from the corporate bond market. And conditions for both of these factors appear to be strong heading into 2025.  

With respect to building resilience within equities, if an investor is concerned about risk, there are low-volatility strategies that are designed to include stocks that are identified as having either lower expected beta or lower expected standard deviation. Those could be worth exploring.  

Investors could also lean into stocks that have more defensive properties, like mature businesses with stable cash flow and less cyclicality, perhaps more dividend yield as well.  

And one thing that we would caution against when looking for resilience is being overly defensive by getting out of the market, if one has a long investment time frame. Doing so represented a big opportunity cost in 2024.  

While cash returns were quite interesting throughout 2024, 91-day T-bills were up around 4% to the end of November. A simple 60/40 portfolio, made up of 60% in global equities and 40% in Canadian bonds, had a return of almost 20% to the end of November. So that’s significant outperformance for putting your money to work in a portfolio of financially productive companies and government and corporate bonds. And arguably the best cushion against future downside is building more upside today.  

With respect to the outlook for the markets for 2025, there is room for optimism but it’s hard to expect returns to be as strong as they’ve been, given how good things have been for the past couple of years.  

You know, the U.S. market was up over 22% in 2023, and late into 2024 it’s up over 35%. So, equity returns are likely to come off the boil, so to speak, but we believe they’re still very investable into the new year.  

The odds are against being too concerned about a tail event, as market environments with equity returns of 20% or higher in the U.S. actually happens more often than one might think. It has actually happened in 35% of the calendar years since 1971. That’s almost 54 years of data.  

Meanwhile, the U.S. equity market delivers a negative return in only 20% of the calendar years. And the extremely negative years, where stocks fall by 20% or more, are very rare. Just three times out of 54 years or less than 6% of the time.  

Bond markets also have a fairly nice setup for 2025. Yields are still relatively high versus 15-year averages, and central banks will continue to bring rates lower as inflation appears to be under control. We can expect some volatility in the bond market with each data print on inflation, but that’s very normal.  

Over the past 10 years, the average range from the low to the high in yields on the Government of Canada 10-year bond is over 100 basis points per year. And that’s translated to about 5.3% annualized volatility for the bond market as a whole. But, ultimately, the starting yield is a great indicator of the returns you can expect from your bonds, and we remain at attractive levels today.  

Unlike at the end of 2023, there’s more reason for optimism heading into the new year, and so there are great reasons to stay fully invested. And of course, if you don’t have an investment plan already, now is a great time to set one up. Speak to an advisor who can help you find the right diversified portfolio that works for you. 

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