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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. 

Jamie Golombek, managing director, tax and estate planning with CIBC Private Wealth. 

Each year, towards the end of the year, we talk to clients about year-end tax planning.  

And we talk about the normal stuff, like tax-loss selling and donations, and we certainly can talk about that today, but what’s new and unique for the first time in 2024 is tax-gain selling.  

That’s right. And that’s because as of June 25, the capital gains inclusion rate was increased to two-thirds for individuals with more than $250,000 of gains annually. 

So, the question that we’re talking about with many of our clients is whether or not it makes sense to crystallize $250,000 of capital gains before the end of the year to take advantage of the fact that the first $250,000 of gains are taxed at the lower 50% inclusion rate.  

Now, crystallization for publicly traded shares is simply as easy as selling the position on the open market and immediately buying it back. So, you know, as opposed to tax-loss selling, where you have to wait 30 days to buy it back, there’s no equivalent superficial gain rule, and therefore you can literally buy back that stock immediately and be able to recognize that gain.  

Now, the question is, Is this actually a good idea?  

And to decide whether this is a good move, you really need to consider your expected rate of return and your time horizon. So, for example, if, for example, you don’t pay the tax in 2024, and you had invested that to earn a 6% rate of return in capital gains, it would take about eight years, after-tax, to be able to beat the tax savings attributable to that lower inclusion rate. So in other words, there is a break-even number based on your expected rate of return and hold period to determine whether it makes sense to crystallize that gain in 2024, as opposed to just recognizing that gain in a later year, when perhaps you would be in the higher inclusion rate because your gains are over 250.  

Common scenarios for that would be if you’re planning to sell a vacation property or perhaps an income property in a future year with a significant capital gain, then that might put you in a higher bracket. Similarly, on death, the deemed disposition at fair market value could put someone with gains easily over $250,000. 

Then we get into the stuff that we talk about every year.  

We do talk about tax-loss selling. The big difference for 2024 is that we have now moved to a T+1 settlement date, meaning that for 2024 you can actually trade as late as December 30, 2024, to complete the settlement of that trade by December 31. Take that capital loss; it must be applied against capital gains of the current year, and any excess can go back three years or carried forward indefinitely. So that’s tax-loss selling. Of course, we’re mindful of that 30-day rule, which says that if you buy it back within 30 days after the date of sale, then ultimately, either you or your spouse or partner, corporation, your RRSP or TFSA buys it back, that’s a superficial loss. And therefore, that loss is denied and added to the ACB of the repurchased securities. So again, keep that in mind.  

In terms of other things to think about, if you’re going to take money out of your TFSA, sometime in 2025, maybe you take that withdrawal out in late 2024. The reason is that any TFSA withdrawals will be added to your contribution room, beginning the following calendar year. So, for individuals that are looking to take out a TFSA withdrawal — maybe for a wedding reception, to buy a home, to buy a car, for renovations — anytime in sort of 2025, at least in the early part, maybe you take it out in December, which means that you can start repaying it as soon as January 1 should you come into some money, inheritance, severance, things like that.  

In terms of other strategies, we’re talking about, you know, clients who turn 71 should convert the RRSP to a RRIF before December 31. You’ve got only till December 31 to make that final RRSP contribution unless, of course, you’ve got a younger spouse and you want to do a, you know, a spousal RRSP. 

And then, I would also suggest that for anyone who is a first-time homebuyer, which means they haven’t owned a home in the current year and the previous four calendar years, as long as you’re a resident of Canada and 18 years of age, don’t forget to open up the FHSA before December 31, 2024, if you’ve never done so. And the reason you would do that is opening up the FHSA immediately entitles you to contribute $8,000. If you don’t open up the FHSA, you cannot have any carryforward. So again, even if you don’t put any money in, you open up the FHSA, you get $8,000 of room, and then next year, you get another $8,000 of room. So again, for anyone who’s a first-time homebuyer, we have clients that are giving money now to their children, once they reach age of majority, to open up their own FHSAs. This can be a good strategy.  

Before the end of the year is also a good time to finalize any home renovations that might be eligible either for the Home Accessibility Tax Credit, which can assist seniors and people with disabilities for certain home renovations. That’s 15% of $20,000 — that’s $3,000 of value. And similarly, the Multigenerational Home Renovation Credit for $50,000 of home renovations to effectively create a self-contained dwelling, a secondary unit in your home to be occupied by a qualifying relative, typically a parent or grandparent, and to live with you. And so again, if you spend those dollars before the end of the year, you’ll be able to claim that credit this year in 2024. 

RESPs, education savings plans, we want to get that $2,500 a year as a minimum to get the government grant. That’s worth doing before the end of the year. Similarly, if there’s someone in the family with a disability, a long-term disability, they qualify for the Disability Tax Credit. Don’t forget about the Registered Disability Savings Plans. You want to get those grants and bonds before the end of the year.  

And in terms of charitable giving, we always say those charitable gifts have to be done by December the 31st to get your credit and receipt for 2024. The big opportunity on charitable giving, as many of us would have experienced significant gains on various stock positions in a non-registered account, is to make a gift in-kind to a registered charity. Because if you do that, not only do you get a receipt for the fair market value but you also pay zero capital gains tax. That’s even more important if you’ve got gains over $250,000 now, where you have a significantly higher capital gains tax, which now could be completely sheltered by making a gift in-kind to a registered charity.  

If you’re not sure what registered charity, but you still want to get your tax deduction this year, you might consider something called the donor-advised fund. And a donor-advised fund is an account that you have with a public foundation where you make that gift, either of cash or of securities in-kind, you get your receipt for 2024, but the money is now invested inside the donor-advised fund. And then you can decide in the future which charities you wish to support.  

And then finally, I would say for business owners, it becomes a little bit more complicated to think about rules of thumb in terms of compensation. Do I pay salary or bonus, or do I pay dividends? Again, lots of material has been written on this. I would say, as a general rule, for a business owner that needs to withdraw funds from their corporation, probably worthwhile taking out at least enough money to create your RRSP maximum. So, for 2024 you want a salary or bonus of $180,500. At 18% that will give you the maximum RRSP contribution for next year, which is $32,490.

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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. 

Avery Shenfeld, chief economist at CIBC. 

It’s important for investors to recognize that there’s a big gap between what is said on a campaign trail by a presidential candidate and what ultimately happens on the policy front.  

The U.S. runs a divided system, where Congress itself plays a big weight in fiscal policy, has to approve much of what a president might want to do on taxes or spending. And of course, presidential candidates may promise things that they don’t follow through on.  

I think it’s pretty clear that the U.S. is going to become more protectionist in the coming few years. Unclear what that level of tariffs will be or how that will specifically apply to Canada, but it’s certainly a material threat. They’re going to tighten the border and have fewer immigrants coming in — legal and perhaps illegal as well, so both sides, a slower population growth. 

And on fiscal policy, while much is being made of the promise of big tax cuts to all sorts of people in the U.S. and a big increase in the budget deficit for 2026, the reality is that there are fiscal conservatives in Congress that will push for offsetting spending cuts, and some of the tax cuts are really just extending existing tax measures, rather than fresh stimulus.  

So, we need to take all of these campaign promises with a little bit of a grain of salt. They give us direction, but they don’t really give us the details. 

The equity markets have responded with some cheer, but I don’t think this is an outright win for the U.S. economy on several fronts. For one, if you do go ahead with tariffs, that is a tax on American consumers. It will raise prices. Not everything Americans import can be produced at home, and where there is no domestic competition, the price of the tariff will be passed on to consumers. So, it’s like a consumer tax that will slow growth.  

As well, shifting U.S. workers from industries where the U.S. now exports but may face retaliatory tariffs from other countries into industries where the U.S. is not as competitive and tries to produce substitutes for imports — that could lower output per worker as well. So, we’re not really all that enthusiastic about the growth implications over the medium term from a more protectionist U.S., given that other countries are likely to respond by putting retaliatory tariffs on American exports.  

Fiscal stimulus in 2026 could help. Certainly, some tax cuts will provide some additional spending. But the reality is that the U.S. economy is facing a necessary deceleration, because they’re going to be slowing population growth, and there isn’t as much room for non-inflationary economic growth when you’re not adding as many workers.  

That said, best bets are that we still have a soft-landing outcome for the U.S. economy, where growth slows to something in the vicinity of 2%, and that matches up with slower population growth to keep the labour market essentially close to where it is. In other words, pretty close to full employment, and allows inflation to gradually decelerate to the 2% target.  

So, this is still a fairly healthy outcome for the U.S. economy, but it’s a much more uncertain road.  

For Canada, the election of a protectionist president in the U.S. is a big risk. Even in the interim, before we find out whether these tariffs are going to apply to Canada or not, it could hit business confidence in our export sector, cause Canadian businesses to hold back on capital spending projects. So, in the near term, this does look like a headwind for the Canadian economy.  

Fortunately for Canada, we’re in a position where inflation has already dropped below the 2% target that the Bank of Canada has. That means that they’re going to cut interest rates enough to make sure that not only is the economy protected, but actually they’re looking to accelerate the economy. So even before the election, we were expecting the overnight rate to get down to two and a quarter percent to support economic growth, and if these trade risks materialize, then we may get additional rate cuts to try to get more domestic growth and things like housing and consumer spending to offset some of the headwinds we might face on the export side. So, still a soft landing, even though a much more uncertain path in the wake of the U.S. election.  

Canada, of course, can take some steps to try to help itself out with the new administration. So, we expect a pretty big lobbying effort, not just by governments, but by businesses reaching out to their customers in the U.S. to try to reinforce the message that we successfully delivered to Donald Trump when he was first president. Which is that Canada and the U.S. are intertwined economies, both parties benefit from two-way trade between these two countries, and that preserving that free trade access between Canada and the U.S. is also a value to the U.S. economy. And we hope that at the end of the day, with perhaps some renegotiation of some of the terms of the existing trade deal, we can maintain that sort of access.  

But in the near term, we do still face these uncertainties until such a deal is cemented. 

We’ve seen the immediate reaction in financial markets. There’s been some gains in U.S. equities, particularly from companies that might benefit from a less severe regulatory environment. Deregulation was something that the Republicans talked about during the campaign, so it will help them on that front. The energy sector, particularly oil and gas, benefiting from perhaps a less stringent set of policies on the climate file and a broader effort to ensure U.S. self-sufficiency in energy. So, certain sectors of the economy, those heavily regulated by governments or in the energy sector, are seen as winners.  

But that said, there are companies, of course, that are in businesses that rely on imported components or parts, or retailers that sell imported goods. There, there’s a bit more uncertainty in terms of their access to those imported goods, or at least the tariffs that could be imposed on them.  

The bond market has had a pretty big selloff. Longer-term interest rates were moving up as we got closer to the election date, and moved up further when Donald Trump was declared the winner. And that’s largely on fears that the U.S. will run much bigger deficits come 2026 than might have been the case had Trump been elected.  

Our view is that that may be a bit of an overstatement. That in fact, at the end of the day, Congress wields a lot of authority on budget balances because they control spending bills and tax bills, and that fiscal conservatives in the Republican Party will push for spending cuts — not to bring the deficits down from where they’ve been, and they’re certainly too large on a long-term basis for the U.S. to continue to run them, but rather to prevent them from escalating dramatically and increasing the Treasury’s need for financing that would push up long-term rates. So, at the end of the day, I do think that long-term rates, which went up on this election, could come back down, which generates a nice return for bond investors if you buy at the high-end yields and then ride those yields lower. I think that’s one of the consequences.  

The Canadian dollar is a bit of a mixed picture right now. If tariffs go ahead, we can see a much weaker Canadian dollar. If they don’t go ahead, the Canadian dollar could recover. So, it’s a much more uncertain environment for the exchange rate at this point, and that’s something that investors need to take into account when they think about their asset allocation across the Canada-U.S. border.  

This election in the U.S. isn’t quite as a clear positive for Canadian equities as it is for the U.S. They’re not looking at a less regulatory environment in Canada at this point because of the U.S. election, and there’s going to be some concern that those sectors that are dependent on exports to the U.S. could face a headwind from those tariffs.  

So, you know, we’ve had a long period where U.S. equities outperformed Canada. A lot of that was the tech sector booming in the U.S. and the lack of an equivalently sized sector here in Canada. But I think in the near term as well now, we’ve reinforced that gap a bit by these fresh uncertainties for Canadian policy. And the hopes are that if we are able to negotiate a decent trade deal with the U.S., that some of those uncertainties will fade away. But in the near term, that is a bit of a cautionary note for some of our export sectors.  

There are other sectors where I should think that Canada could be a winner from this. The U.S. may well pursue more active use of nuclear power, for example. So, Canada is a major exporter of uranium in competition with Russia and its allies, which the U.S. obviously doesn’t want to trade with. So, it’s not a clear loser for Canadian equities. And there’s certainly Canadian companies with substantial U.S. operations, and to the extent that there are corporate tax cuts in the U.S. or some additional enthusiasm in the U.S. markets these days, some of that is spilling over into Canadian equities.

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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. 

Benjamin Tal, deputy chief economist, CIBC. 

The question is, to what extent is inflation still sticky? And the answer is, no. It was stickier than expected for a while. The Bank of Canada was a bit nervous about it. They basically postponed the rate cuts. At this point, inflation is really not an issue anymore. No question about it.  

If you look at the inflation minus mortgage interest payments, which is one-third of inflation, it’s basically 1% now. So clearly, the war has been won against inflation. The Bank of Canada is not extremely concerned about it at this point. In fact, there is the issue that maybe inflation might be too low over the next few months. Therefore, they are in the midst of cutting interest rates, and they will continue to cut interest rates into late 2025.  

So, if interest rates today are at 425, we see them going down to two and a half, 225 by the end of 2025. That’s a significant decline that clearly will help the economy.  

I think that in the short term, clearly, lower interest rates will help to an extent, but will not solve the major issue. The condo market, we have to realize, is in many cities frozen, because we have a situation in which there is a lot of inventories. Investors are out of the market because of higher interest rates, and builders are not building.  

So, in many centres in the country, including Vancouver and Toronto, this is actually not a bad time to buy a condo, because the market is soft. But two or three years from now, the situation will change dramatically, because of the fact that now they are not really building anything. The new supply is basically zero, which means that two or three years from now the market will be back to semi-normal, investors will be back in the market, interest rates will be lower, and supply that’s supposed to come now will not be around. So, you don’t have to be an economist to predict what will happen.  

But you’re absolutely right to suggest that this is not the number one issue. The number one issue is affordability. Affordability is a major crisis, and I’m not using this world lightly, and the only way to solve that issue is to cut prices. How do you cut prices? By raising supply, by improving supply, by making sure that we are building much, much faster and more in all municipalities and all the regions of the country. This is the number one issue.  

For many years, we have been using demand tools to fight supply issues. For the first time, it seems that governments at all levels are realizing that we have to accelerate the rate at which we build new houses. That’s the only solution, including a rental solution, not just home ownership, but also rental.  

I think that when it comes to the housing market, it’s really a tale of two markets. The low-rise segment of the market, the detached segment of the market is doing fine. I think that there is no question about the fact that it’s struggling, but it’s not really on its knees. There is still a shortage of inventories, and there is some pressure in that market, so it’s behaving normally. That’s the low-rise, detached segment of the market.  

As I mentioned, the condo space is basically frozen. It’s in a recession, and that will last until maybe 2026. So, we have a year and a half or two of relatively soft conditions in the in the condo space, before we see some improvement.  

The purpose-built rentals, namely apartment buildings, we are seeing some improvement there because we have seen the government taking some steps, including removing the HST and GST on new projects. That really helped. I think that we are in a process of looking for other ways to cut costs for purpose-built rentals, and that’s something that governments are now very busy doing, trying to reduce the cost and increase affordability in the market. So, I would pay very close attention to developments of the purpose-built rental apartment buildings. 

The question is, to what extent an increase in savings that we have seen in Canada will protect mortgage holders from paying more when interest rates renew? And the answer is, not much. Why? Because the people with the money are not the people with the debt. That’s the simple answer. The distribution is very different. We have seen a significant increase in savings among people without mortgages, people that take advantage of high GIC rates, and we have seen a significant increase in accumulation of GICs over the past two years, because there is a very high correlation between interest rates and GIC volumes.  

Now, with interest rates starting to go down, we’re starting to see the opposite, and this one is actually going to dividend paying stocks. So we are in a situation in which dividend paying stocks will benefit from this trajectory, because a lot of money that now is sitting in five-year rate, four-year rate GICs will exit the GIC market and will actually go to the dividend paying stock space, which I think is going to benefit over the next year. 

The question is, to what extent what Ottawa did recently is going to change things significantly. It’s a step in the right direction, but it’s really going to boost demand, while the main issue is supply. While increasing amortization to 30 years will make it more affordable, at the same time it means that the borrowers will be using debt for longer. Also, increasing the insured cap to 1.5 makes sense, because many, many units in Toronto, Vancouver and other places are more than $1 million and therefore not eligible for insurance. So, this basically corrects it. So, I have no issue with that. That’s something that is the right thing.  

But remember, this is not the solution. This is just a temporary fix. The solution is increased supply. And when it comes to increased supply, we have to think of a few things. One is incentives for developers to build purpose-built rentals. The other is to start thinking about factory-made houses. We are still building houses, you know the way we built 50 years ago. If you take a pilot from 50 years ago and you put them in an airplane today, they will not know what to do. If you take a construction worker from 50 years ago and put them on a site, they will know exactly what to do. They will know exactly what to do. And that’s exactly what we are seeing. No innovation in the construction market, and that’s something that is going to change very quickly, because we have the technology to basically build houses in factories. 3D printing.  

Sweden is a country that 80% of the houses are made in factories. I think that this is something that we have to invest in, in addition to get more construction workers, because we have a major shortage — 300,000 construction workers will be retiring over the next 10 years. We need to replace them. Because it’s nice to have a target, but if you don’t have the capacity to build, you will not reach that target, and that’s something that we have to focus on.  

So, many things to do in the supply side. The demand side is relatively muted. It’s not important to basically stimulate demand. Demand is strong enough, especially with interest rates going down. We need much more supply. That’s the story.  

We are in a situation in which all governments at all levels are basically panicking about housing. They all realize that the next elections will be about housing, and for the first time, we see a situation in which all levels of government are eager to solve the issue and how to supply. So we see a lot of policy changes very, very quickly in order to take tackle the crisis that many young Canadians are facing. And I think that’s a step in the right direction. We have to take advantage of the fact that politicians at all levels are willing to do things and push and push and push in order to get much more supply. Because again, we have a generation of Canadians that can only dream about owning a house. This is time to try to help them, and this is a golden opportunity to convince governments to increase supply in a very significant way.

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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. 

Avery Shenfeld, chief economist at CIBC. 

We’re still on a fairly lacklustre track in terms of Canadian economic growth. While we are seeing growth and it would look reasonable by historic standards, we have to remember that we’ve had very strong population growth over this last year and a half. So, in per capita terms, you can still say that economic output growth is weak.  

And where that shows up is if you track what’s happening to the unemployment rate, it’s gradually drifting higher. So, we’re not growing fast enough to keep the unemployment rate from escalating.  

And I suspect that, from here to the end of the year, while we might see the jobless rate level off, we’re probably not yet going to see the kind of pickup that would bring us back to the lower unemployment rate we had a year ago.  

To some extent, the good news for Canada is that inflation, if you strip out one key item, is already running near 2%. And that one item is mortgage interest costs. So perversely, when the Bank of Canada raises interest rates to contain inflation, there’s one part of Canada’s price basket, which is measuring the cost of mortgages, which actually escalates, and it’s running at over 20%, in terms of annual inflation. If you remove that one item, inflation actually has been running roughly in line with the Bank of Canada’s 2% target over the past year. And that’s a key reason why the Bank of Canada has felt comfortable starting the process of bringing interest rates down, because they can reasonably expect that as that happens, and those mortgage interest costs actually decelerate, the overall headline inflation number will also return to that 2% target.  

There’s always some doubt in terms of when the Bank of Canada will deliver each individual rate cut, in part because the economic outlook over the next year-and-a-half won’t really be that sensitive to the precise timing of those rate reductions. From our perspective, we still see the need for a substantial dose of interest rate relief, given how slow the Canadian economy is, and the sluggishness that we’re seeing in some interest-sensitive sectors, like housing, for example.  

But that said, we did have a bit of an uptick in inflation in terms of the report for May. And as we speak, we were still waiting to see what the June numbers look like. If they are reasonably contained again, the Bank of Canada will have the green light to cut in July. And there are some reasons to expect that that is the Bank of Canada’s leaning, that having started to cut interest rates, they don’t want to deliver a mere quarter-point reduction and say that that’s going to really help. It does take multiple interest rate reductions to really have any impact on the economy. And the Bank of Canada has been clear that when they did that first cut, their expectation was, well, not in any given month or any given meeting that there would be further cuts coming.  

And for most Canadians, that’s what’s really relevant here. Not the timing of each and every move, but the prospect that a year from now, interest rates will be low enough to get the economy moving again.  

There are issues related to the business cycle for the economy, which is soft now, but we do expect it to recover as interest rates come down next year. But also important longer-term issues in terms of growth and particularly standards of living. And basically, productivity is the key to growing the economic pie, particularly on a per capita basis. We need to increase output per hour in order for workers to actually get paid more per hour, particularly paid more on inflation and generate an improvement in what they can buy.  

If you look at Canada’s track record, our productivity has been extremely poor in the last year-and-a-half or so. I think that’s because of economic softness, and we’ll recover some of that. But there’s a more pressing issue in that if you go back over the last couple of decades, we’ve still been trailing the U.S. over that period. And that’s a stickier and tougher problem. We need to see more business capital spending, we need to see Canada play a bigger role in some of the innovative industries, the tech space and so on where you get big productivity gains. In other words, we need more of a revolution a bit in terms of what we do in the Canadian economy, what incentives there are for business investment, and so on, if we’re going to actually start to play catch up with the U.S. in terms of growth and output per hour, and therefore, as I said at the outset, growth in our standard of living. 

The U.S. economy has really stood out in this period of rising interest rates globally as the one country that has shown a lot of resilience to those higher rates of interest. So, in contrast to the slowdown that we’ve seen in most parts of the world, including Canada but also lots of European countries, the U.S. economy actually managed to accelerate in terms of economic growth in 2023, which came as a surprise even to our above consensus forecast for the U.S. for last year.  

If we look at what’s happening in 2024, however, there are some signs that growth, while still healthy, is starting to moderate. So, high interest rates may now be finally starting to bite in some parts of the U.S. economy. Employment growth, still fairly healthy, but obviously moderating from what we saw last year. There aren’t as many vacant jobs. And inflation has come down in the U.S., both in terms of prices and wages. So, that easing in inflation is good news. It does mean that while we do expect the economy to continue to slow a bit further into the second half of the year, that the Federal Reserve doesn’t have to really stand by and let that slowing get out of hand.  

With inflation easing off, once they do get more confirmation that the economic growth is easing off, and that inflation is continuing to decelerate, they can start to give the U.S. economy a bit of relief in interest rate reductions.  

So, we are expecting to see a slowdown in the U.S. economy over the balance of 2024, extending the deceleration we’re already seeing in the numbers. But we do think that the benefit of that for inflation will be that the Federal Reserve can deliver a couple of rate cuts before the end of the year. And that should set the stage for growth, again, to gradually pick up over the course of 2025. We’ll need more interest rate reductions that year, but the bottom line here is that the Federal Reserve is in a good position to protect the U.S. economy from a more serious downside now that inflation is coming under better control. 

For investors, we may not be in as buoyant an economic climate over the next few quarters, particularly in the U.S. economy that has helped make the U.S. equity market a big winner.  

Of course, some of that has been led by enthusiasm over the tech space, not necessarily driven by quarterly economic growth but by longer-term prospects for the adoption of AI across the economy.  

But economic growth does feed into earnings, and we do face I think a period where earnings growth might slow a bit in conjunction with that slowdown we’re expecting to see in the second half in the U.S.  

But the flip side of that is that if the Federal Reserve does step up with some interest rate relief, then on the fixed-income side of people’s portfolios, there could be some capital gains on bonds as interest rates start to ease off. And more generally, we do expect that a balanced portfolio offers some pretty good protection right now, in terms of what happens if the economy surprises to the downside.  

Because we’ve had yields move up over the last couple of years, there’s now room for bonds to provide a good return if we were to get a steeper slowdown than we expect in the economy — one that dented equity returns and the offset would be that bonds would be a better performing asset class than they have been.  

So, we always counsel, you know, diversification in a portfolio. But unlike what we saw, say, in 2022 when there were periods where rates were rising quickly, and both bonds and stocks showed some weakness, we’re in a period now where that balanced portfolio does promise to offer some reasonable returns. And if we do manage to achieve the soft landing in the economy with only a slowdown and then a beginning of a pickup in global growth over 2025, there should be another leg higher in equities down the road as well.

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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. 

Benjamin Tal, deputy chief economist, CIBC. 

The big question of course is when the Bank of Canada will start cutting interest rates and by how much. We know that the Bank of Canada is done raising interest rates. The big question is, when they are ready to start cutting. 

I believe that if the Bank of Canada was an AI machine, they would have stopped 50 basis points ago. I think that the Bank of Canada is already overshooting. Usually, the gap between the Bank of Canada and the Fed in terms of interest rates is about 75-100 basis points. Today, the gap is only 25 basis points, which means that either the Fed is undershooting or the Bank of Canada is overshooting, and I don’t think that the Fed is undershooting. So, the Bank of Canada will cut first. 

Clearly, the U.S. economy is doing much better than the Canadian economy. And the big question is, how much the Bank of Canada can divorce itself from the Fed? Namely, if we have a scenario in which the Fed does not move and the Bank of Canada starts moving, by how much the Bank of Canada can take interest rates lower without the Fed moving. And I think the answer is roughly 50 basis points. So, we see the Fed on hold in June, July, August, maybe starting in September to cut, while the Bank of Canada probably will start cutting in June. 

So, the economy is basically in a per capita recession. Inflation is behaving nicely. There is no reason not to cut at this point. The latest numbers that we got from GDP clearly showing that the economy is slowing down. So, there is no reason whatsoever not to cut. And remember the gap between the U.S. and Canada is only 25 basis points. So, you have a green light from the market to go for 50 basis points without the Fed. 

If the Fed stays in neutral after that, that’s a problem because then what’s happening in the U.S. will start impacting what’s happening in Canada. We are not there yet.  

So bottom line, the Bank of Canada will start cutting in June. We see it cutting three times during the course of 2024. And if you look beyond that, we see the Bank of Canada taking interest rates roughly to about 3% from the current 5%. So, it’ll be significantly higher where interest rates were before the crisis, but clearly lower than where it is now. 

Now the question is what does it mean for the housing market? Because we have seen in early 2023, whenever the Bank of Canada is hinting about the possibility of stopping to raise interest rates, housing market took off the spring of 2023 was very, very strong. 

The question is whether or not we’re going to see it again.  

In fact, we’re already starting to see it. The market is tweeting about the possibility of the Bank of Canada cutting interest rates and we are seeing the low-rise segment of the market, detached segment of the market, starting to wake up. We don’t have enough supply. The demand is coming, especially for properties over the three or four million threshold. 

However, the condo market, the condominium market is much weaker. Why? Because pre-sale activity is very, very weak. It’s actually not happening. Developers cannot justify building at this point, which means that we don’t see any supply coming to the market, new supply. So, whatever you see in terms of construction is actually completing previous engagements but not new engagements. And that’s extremely important to understand why. Because two or three years from now, the demand will still be there, interest rates will be lower. The supply that’s supposed to come now will not be there. You don’t have to be an economist to suggest that the prices will go up. So, in a funny way, condo space is now a weak market but maybe the best time to get the condominium from a perspective of a decade or 15 years from now. So, I think that’s the way to look at the situation. 

So, the housing market will be a tale of two markets. The detached segment of the market will do fine. The condo space will take a while to clear before getting stronger with reduced demand. That’s the way I read the market. It’s a very interesting market, asymmetrical. And the gap between new construction of condos, the resale market is at a record high. That’s something that cannot justify increased supply of new construction activity, and that’s exactly why there will be shortage of supply. 

In addition, of course, the government has done a lot to reduce demand in terms of impact, or the changes, on non-permanent residents. That will lower demand in a very significant way. But it’ll take a while. We still have a pool of people in the country that need shelter and they simply don’t have it, and that will keep prices elevated. 

I think that if you look at what the government has been doing so far, it is actually very positive, a step in the right direction. We knew first that the demand is a major issue. We have seen the Canadian population rising by 1.3 million people last year. Most of them were non-permanent residents putting a significant pressure on the rental market. Since then, the government changed its course and now they’re saying that the number of non-permanent residents is going to go down from 6.5% of the population to five. That’s significant. That’s going to reduce population growth from about 3% to 1%, and will ease the pressure on the rental market. It’ll take a while, but that’s clearly a step in the right direction. 

The government is also encouraging increased supply in many, many ways, and that’s another factor that will lead to some easing in the market. 

Now, make no mistake, Toronto, Vancouver and many other cities in this country will never be affordable because population growth is still very strong and we simply don’t have enough supply. But the steps taken by the government over the past few months and especially during the budget, has been very, very positive, a step in the right direction. For the first time, governments, all levels, are understanding that we have to treat this situation as an emergency because it is an emergency. And if we don’t wake up, we’re going to see some pockets of civil unrest. We’re going to see anti-immigrant sentiments. We’re going to see renter’s strike. We have to wake up and realize that this is a major crisis. They move in the right direction, but it’s not going to be easy. 

When it comes to the budget and its impact on the housing market, I think that many of the steps that were taken were steps in the right direction. However, a lot more needs to be done. We look at the purpose-built rental segment, namely apartment buildings. We need to encourage developers to build more and more rental units because that’s where the pressure is. We know that the government cut the GST/HST and that’s very good, but we need much more. One thing that we advise the government to do, and I hope they will do it, we are meeting with them actually on a regular basis to make sure that they understand the issue, is to change the taxation on capital gain and commercial real estate. What I mean by that is that if you’re a developer and you have an apartment building and you sell it, you take the profit and you move this profit to another commercial real estate unit or asset. 

That’s exactly what’s happening in the U.S. In Canada, you pay the tax immediately and therefore there’s no motivation to do so. So, we advise to actually follow the example of the U.S. and remove the capital gain tax on apartment building sales and therefore that will generate momentum. 

Another factor is to provide developers with incentives to build what we call a self-financing house, namely a house that is designed to have a unit for rental. Therefore, it’s a win-win situation because the homebuyers can get the home that they want, but also can get help from a rental unit, while the rental unit is providing more supply to people that are seeking rental units.  

So, I think that there is a lot of things that can be done, so a step in the right direction, but more should be done. 

So, the question is what’s the risk for the housing market? I think that the number one risk is that inflation will become more sticky, and interest rates will not be falling in any significant way. Interest rates will remain high. That will lead to a recession in the economy as a whole, and that will lead to a significant correction in the housing market. So, that’s the number one risk: inflation. 

If inflation is not behaving, doesn’t go down to 2%, and the Bank of Canada and the Fed will find themselves in a situation in which they have to actually raise interest rates again, or keep interest rates high for longer — that will be recessionary unfortunately, and that will be negative for the housing market. So, that’s not the main case scenario at this point, but it’s definitely a risk. 

Text transcript

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.

Avery Shenfeld, chief economist at CIBC.

We at CIBC were always in the minority camp in that we were not predicting a recession would be necessary or inevitable to get inflation down to the 2% target.

And the progress we’ve made to date, in fact, is good evidence of the thesis that we laid out more than a year ago, which was that a lot of the inflation that countries like Canada, the U.S. and Europe were experiencing wasn’t necessarily tied to an overheated demand side to the economy. It was tied to the shocks to food and energy prices from the war in Ukraine, the disruptions to production in the good side of the global economy from shutdowns associated with the Covid-19 pandemic and really, a surge in goods consumption during the pandemic as people moved away from services towards doing things at home and purchasing goods. And our view was that a lot of that inflation could melt away on its own once some of those disruptions were behind us.

That’s in fact what we’ve seen. Now, there is still a residue of excess inflation because the economy is slightly overheated, and we still need a cooling ahead. But our view is that in Canada as well as in the U.S., a recession isn’t necessary to get inflation down to 2%. We need a cooling off of economic growth, basically a stall in the economy for a few quarters, but not necessarily an outright recession.

The tricky part for the central bank in Canada, the Bank of Canada, is that inflation is likely to go a bit higher again before it goes lower. That’s largely because we’ve seen the biggest benefits from the year-on-year decline in gasoline prices. And so that’s going to drop out as a big downward pull on the inflation rate, leaving the inflation rate drifting a bit higher.

So we’ll need to see a bit of a stall in economic growth for a couple of quarters, at least a bit of a rise in the unemployment rate to cool wage inflation and take down purchasing power in the economy. And the tough task for the Bank of Canada is to gauge just how many rate hikes are necessary or what level of interest rate is necessary to get just that cooling as opposed to a big recession that we simply don’t need.

Our judgment is that the Bank of Canada should have enough doubts at this point that it shouldn’t be raising interest rates. That again, it might want to show some patience and let the economic data roll in for a couple of quarters to give it more insights as to whether or not they’re seeing enough of a slowdown in the demand side of the economy, enough of a slowing in things like housing, for example, to bring inflation back to 2%. The Bank of Canada doesn’t seem quite as patient as perhaps we would like. Our view was that even the last rate hike might have been unnecessary. So we may well face a rate hike another quarter point in September, but we’re pretty confident that by the end of the year, as we get close to December, the Bank of Canada will see enough signs of a slowing that if we do have one more quarter point hike in September, that that will be the last rate hike we see for this cycle.

What the Bank of Canada is going to look at when we get to its September decision is what’s really happening in the labour market. They know that inflation might drift up a bit from here to September. That’s not really going to be their focus. Their focus is on whether hiring is slowing enough to bring wage inflation down, to slow labour income growth so we don’t have as much spending in the economy in effect, and they’re going to be watching, therefore, the series of monthly employment reports that we get now till to the Fall.

If we receive some strength there, if the unemployment rate instead of drifting higher moves lower again, then I think that would push them into that September rate hike. One thing we have to remember is that when we’re getting down to the last few rate hikes, there’s an element of art as well as science. Because the economy doesn’t respond exactly the same way to interest rate hikes from one business cycle to the next, no one’s models based on past responses are going to be that accurate. So we can forgive the Bank of Canada if they ended up hiking one or two times too many. That won’t be a fatal error.

The big danger for the Canadian economy is that the rate hikes we’re delivering now are going to continue to have significant impacts on the Canadian economy into 2024 and indeed into 2025. Many Canadians have yet to renew mortgages at higher rates, and in particular, those that have mortgage renewals coming out in the next couple of years will include people who took out mortgages, for example, in 2020 when rates were at rock bottom levels. And so those will be very large increases in their monthly payments. So the biggest danger here isn’t so much whether the Bank of Canada raises rates a quarter point or a half a point too much. It’s almost whether or not they judge correctly the time to start easing up on interest rates so that we’re not further slowing the Canadian economy in 2024 and 2025 when inflation might be back at the 2% target, and we simply don’t need that additional breaking force on the economy.

Canada’s been a bit blessed in the last several months. We have one of the biggest declines in inflation relative to other countries. If you look at common measures of underlying inflation, the improvement in Canada’s been a little better than in many other countries, particularly some of the countries in Europe. So we’ve had more relief in our inflation rate from things like the fall in gasoline prices and other global prices than some other countries, which suggests that the job of getting inflation down to 2% might not create as much economic damage here as might be necessary, for example, in the U.K. where inflation has been a bit more sticky.

As well, in Canada, a lot of the inflation we’re measuring is the inflation in mortgage costs as Canadians renew at higher interest rates, and once the Bank of Canada’s done raising rates, and in particular when they start easing rates, that component of inflation will drop off.

Not all countries measure the CPI the same way, so not all countries will get that same benefit in inflation when we look out to 2024 or 2025.

The Canadian economy has managed to continue to grow, albeit somewhat slowly in the wake of all the interest rate hikes we’ve already had. But I think it’s important to recognize that there are some things ahead that are going to see a slowing. Housing starts have generally been easing off. That hasn’t really shown up yet in layoffs in the construction sector because workers are busy completing all the houses and condos that were started six months or a year ago. So I think the slowing from that still lies ahead.

And we also have to recognize that globally, central banks around the world are raising interest rates, aiming at slowing their economic growth. So we might expect to see some deceleration in the growth that we’ve been enjoying in our export sector.

Even though we’re not expecting a full-blown recession, there’s certainly parts of the economy that are going to see outright declines: the parts of the economy that are most sensitive to the increases in interest rates, both at home and in our trading partners.

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Benjamin Tal, deputy chief economist, CIBC.

The question is what’s happening now with interest rates and inflation, and in mid-May, we got the CPI numbers for Canada. Stronger than expected. This means that the Bank of Canada will get a bit more nervous about inflation and therefore about interest rates. Quite frankly, the likelihood of the Bank of Canada raising interest rates, let’s say in July, has risen notably due to those inflation numbers and the fact that the labour market is relatively strong. So, the Bank of Canada was ready to pause already, and now new information is entering the market.

To me, this is the beginning of overshooting, if they’re actually going to go ahead with that. Every economic recession, in my opinion, was helped, if not caused, by monetary policy error in which central bankers raised interest rates way too much and killed the economy.

That’s because of the fact that inflation is a lagging indicator. Employment is a lagging indicator. But show me the central banker that will have the guts to stop raising interest rates when inflation is still elevated, and that’s exactly what we’re seeing now. So, unfortunately, the risk of the Bank of Canada starting a process of overshooting has risen. Still, our call is for the Bank of Canada to stop where it is now, but I admit that the risk of the Bank of Canada raising again has risen dramatically since mid-May.

Now, this also means that if you are overshooting, you are going to put some pain into the economic trajectory. Therefore, the risk of a more significant recession has risen as well. Again, we are not calling this kind of a recession, but the risk has risen. So, from an economic perspective, we have to realize that the environment is a bit different, the Bank of Canada is a bit more nervous, and the risk of overshooting and therefore a more significant decline in economic activity has risen over the past few weeks.

Regarding the housing market, one of the reasons why the Bank of Canada is talking or tweeting about the possibility of raising interest rates again is the housing market. Clearly, the housing market slowed down dramatically, but as all of you know, it’s stabilized already. We have seen some increase in prices lately, and that’s premature. That’s too early for the Bank of Canada. They want to see more pain not only in the housing market but also in the labour market, and we are not seeing it yet, and therefore, you need to raise interest rates, and therefore, the risk of overshooting has risen.

The housing market has seen significant volatility. We all know the story. Prices went down notably, but that’s a very healthy situation. After rising by 46% during COVID due to the fact that home buyers got the benefit of a recession vis-a-vis low interest rates without the cost of the recession vis-a-vis a broadly-based increase in the unemployment rate, we needed to see a significant decline in prices and activity. That’s exactly what we have seen.

However, we have to realize that one thing is happening. Supply is not rising. Not only new construction, but in resale. The resale market is not moving when it comes to supply. People are not listing, and when you don’t have listings, it means that prices are protected due to lack of supply. And that’s exactly what we are seeing now in the housing market, a very asymmetrical housing market. So, what we are witnessing now is some improvement in the relatively cheap segment of the market. Let’s say in places like Toronto, anything between 800K and 1.2 million go very fast. You go to $1.5, $2 million per unit, you don’t move at all. So, condo developers are unable to close, and clearly, in the detached market, very, very weak if the price is over 1.5 million. So clearly, this is a market that is still rewarding relatively cheap units because of affordability.

It’s not going to change anytime soon. And if the risk of higher interest rates is materializing, then we have an issue in which the housing market will go through another slowdown, because at this point people are counting on the Bank of Canada to pause, so the risk of the housing market is there.

The housing market has been very volatile. Prices went down dramatically. Sales went down dramatically. The only thing that saved the market in terms of prices is definitely the lack of supply, so people are not listing, and that’s something that we have to realize is going to continue to be a major force in the housing market. But clearly, we have seen a lot of volatility, and not a big surprise. In an environment in which interest rates rise by 400 basis points over the course of breakfast, clearly, a housing market will slow down, and that’s a very healthy environment.

Maybe this stabilization in the market is premature, but it’s clearly a positive signal. The Bank of Canada would like to see the housing market slowing down further before they start cutting interest rates, and that’s more or less where we are.

We have to realize that whatever we see in the housing market now, any slowdown is only a blip. This is a very tight housing market. Last year, we got no less than 950,000 new immigrants, non-permanent residents, people from the Ukraine, students. 950,000. This year, I estimate roughly 1.1 million. None of them, none of them, carries their house on their back. Clearly, we are going to see a major issue, a mismatch in the labour market between supply and demand. We have a lot of demand coming, especially in the rental market, and we have lack of supply in the recent market and, clearly, in the new construction market, and we need to wake up. This is an affordability crisis that we are facing.

So, whatever pause we are seeing now is only temporary. The long-term trajectory of this market is up if we don’t do something about supply. It’s urgent, and I think that the next elections, by the way, will be fought over housing, and I think that politicians are starting to realize that.

Well, when it comes to prices, depends what kind of prices we are talking about. At relatively cheap units, again, in Toronto, something between 800K and 1.2, prices are starting to rise because the demand is there, and we know we don’t have enough supply. For the rest, prices are stabilizing or even still falling. I do believe that if the Bank of Canada starts raising interest rates again, and we are going to slow down in the economic activity, moreso than we had predicted before, then we will see another wave of pressure in the housing market, and prices will continue to go down due to lack of demand.

This is a risk scenario at this point. This is not demand case scenario. So, I say prices will start rising from this point over the next six months, 12 months, for relatively affordable units while stabilizing for more expensive units and still going down for extremely expensive units.

Given all this, we know that we are in the midst of a major affordability crisis, and something has to be done. The slowdown in the housing market now is only temporary. It will not last. The fundamentals of this market are very strong, extremely tight. Vacancy rates in the rental market are approaching zero, and as I suggested, every year, we are getting close to 1 million people into this country, so we need solutions. And a rental solution must be a big part of this affordability solution.

It seems that for the first time, governments are realizing that. For many years, we basically used tools to fight supply issues. For the first time, governments at all levels are realizing that supply is the issue, and we are talking about all kinds of initiatives. Unfortunately, we are not moving fast enough. We have to provide incentives for purpose-built rental. Apartment buildings. Not condos, apartment buildings.

We have to provide the reduced development charges, the fair HST payments. Basically provide incentives to developers to build apartment buildings. That is a big part of the solution. We need to create an affordability issue in which you are a renter, and it’s okay. Nothing is wrong with that. We have to change the way we think about renting, and the only way to do it is to provide high-quality rental apartments. It’s possible. It was done in the past. What we need is incentives, and although people say you don’t want to support all those millionaire developers, you are not supporting them. What you are doing is basically providing incentives to build more units to increase the supply that is so lacking in this environment.

Text transcript

Avery Shenfeld, chief economist at CIBC.

We at CIBC, were never in the official recession camp for 2023 in terms of our outlook. We were looking instead for more of a stall in growth, a period of three quarters where we might have a negative quarter here or there, but basically a period of zero growth. I think the one thing that’s changed in our forecast is the timing of that. We had expected to start seeing that in evidence in the first quarter numbers for 2023. It now looks more likely that it’s going to be a second to third and fourth quarter story, so a bit delayed, and that’s largely because the economies are proving a little more resilient to higher interest rates than we might have expected. But I think this is in total really more of a stay of execution than a full relief.

We’re still going to need to see that slow down or that stalling growth to get inflation under control, and the central banks are committed to getting interest rates to a level and leaving them at that level long enough to actually see that stall. So our forecast has changed mostly in the timing. We still expect that for both Canada and the U.S. we’re going to see this. You could call it a soft landing. In other words, a period of zero growth for a few quarters.

It certainly came as a bit of a shocker when we saw the numbers for January in both the U.S. and Canada and saw such strong employment growth. I think part of this is really the lagged impact of the demand for labour we saw last year. Demand that was in some sense frustrated as businesses couldn’t find the people they were looking for. So some of this is actually not so much a sign necessarily of a lot of economic strength in the first quarter of 2023, it’s a sign that businesses may be finally catching up and finding the workers they were looking for last year. If that’s the case, then we would expect that when we start to get numbers for January in terms of job vacancies, that in fact the hiring that took place at the start of this year was really filling some of those job vacancies and not necessarily a good omen of what’s to come.

I think we’re seeing enough signs of the slowing, particularly here in Canada. If you look at the fourth quarter, it doesn’t look that brisk, that in fact demand for labour will be slowing, but we are seeing this catch up hiring, which does create some income and of course some spending power, and that’s why we had to push back the start of that flat period for economic growth into the second quarter of this year. The good news is that the case that we had been making for why a soft landing might be sufficient to get inflation back to target, that case remains very much well-supported by the evidence. So remember that in neither the U.S. or Canada have we seen the labor market open up any slack. Unemployment is very, very low in both countries, and yet we have made some progress despite that in bringing inflation down. World commodity prices have softened. That’s helped us on the oil and gas front. We’ve seen even some world food commodity prices start to level off or come down that will show up eventually yet. We believe in a bit of a slowing in food inflation at the grocery store.

In the U.S. measures of what’s happening to rent inflation on the ground show that it’s easing off and that will show up in the CPI in the U.S. with a bit of a lag. And of course, we have some of the cost related to housing in Canada in terms of new home prices coming down. So we’ve made some progress on inflation already and that’s why we believe that a period of negligible growth as opposed to a deep recession might be sufficient to get inflation down the rest of the way towards the central bank’s 2% target.

So this isn’t going to be immaculate disinflation. We’re going to need some economic pain, but we don’t think we need to see a full-blown recession in North America in order to be at a 2% inflation environment when we get to 2024.

But you did see last year a lot of economists predicting a recession to hit even before the end of 2023. In fact, some people misread some of the signals from U.S. GDP figures and thought the U.S. had already fallen into recession in the first half of 2022. We certainly know that wasn’t the case when we look back on the year as a whole. The reality is that I think that economists who are predicting a recession have simply pushed out the timing of that, and it is fair to say that there’s still a substantial risk that we do end up in a recession, even though at CIBC, we don’t think that’s necessary to get inflation under control.

The largest risk is an overzealous central bank in the U.S. The Federal Reserve is clearly not done hiking rates. It sees the need to continue to push interest rates higher to get the slowing in growth and inflation that they’re looking for. And if we look back at past examples of when we’re in this position, sometimes the central banks have got it just right and we’ve just had this slowing in growth, and inflation has come down. But indeed, of course, there are historic cases where the central bank overdid it, sent interest rates too high, and caused a recession that maybe was deeper than they intended or they didn’t intend one at all.

I think the luxury we’ve had in Canada is having seen some reasonable progress on inflation and having a central bank that understands that Canadians are still renewing mortgages at higher rates and therefore we haven’t felt the full impact of the rate hikes they’ve already done.

The Bank of Canada has, I think, wisely chosen to take a pause. Not that they’re certain that rate hikes are done, but they want to give the economy some chance over the next several months to show its true colors and see whether or not we need to push on to higher interest rates before taking those additional steps. That’s the best assurance against that risk that the central bankers overdo it and send us into a full recession in the second half of this year. We’re hopeful that in Canada, the Bank of Canada has already taken interest rates to a level that will bring inflation to target by next year. So we think that rates hikes might be on hold for this year. Earlier hopes that financial markets had, I think they were quite false hopes, that having raised interest rates, the central banks and North America might quickly start cutting them in 2023. Those hopes have really gone out the window. I think that investors now understand that it takes a period of economic pain of higher interest rates in order to bring inflation down, and it would be self-defeating for the central banks to start cutting interest rates at the first sign of that sort of economic pain.

I think that’s what’s made it a challenging year for equity investors so far in the sense that there’s been this disappointment that interest rates may not climb further in Canada, but we’re not likely to see any interest rate cuts until we move perhaps a fair bit into 2024. In the U.S., we still have another 50 or 75 basis points of rate hikes to come, so still more pain ahead because we’re not getting the slowing that we need to see in the U.S. economy to bring inflation all the way down to 2%. But we’re quite confident that the central bank in the U.S., the Federal Reserve, is serious about hitting that inflation target, and we indeed believe that by 2024 in both Canada and the U.S., we’re going to be back to a 2% inflation world.

The challenge for equity markets this year is that while they have priced in this higher interest rate world, I don’t think they’re fully yet braced for what that means in terms of corporate earnings. The bottom line is that there’s no way you can even see a stall on economic growth without seeing a good chunk of the corporate sector in the US see negative year-on-year growth in earnings per share. That’s something that’s probably not yet fully priced into the equity market. Partly because we started the year with signs of economic resilience and maybe investors are forgetting that we’re going to need to see this period of economic pain to get inflation back to 2%, so could be still a challenging wobbly first half for the equity market.

We’re hopeful that by the latter part of the year as investors then focus more on 2024 earnings and start to see some further progress on getting inflation back to target, that relief will come at that point. That inflation is coming down. That we’re done with interest rate hikes at some point later this year, and that might allow the equity market to see a better second half than the first half could end up looking.

Text transcript

Benjamin Tal, deputy chief economist, CIBC.

When it comes to the housing market, we need to understand what happened during COVID. This has been the most asymmetrical recession in Canadian history. During COVID, basically all the jobs, or almost all the jobs that were lost were low-paying jobs, young people, renters, and that’s why rent actually went down during COVID. Homebuyers, potential homebuyers, they are at their position, they are at their income, they were zooming, and interest rates were in the basement.

So we had the situation in which, and that’s extremely important to understand, a situation in which homebuyers during COVID got the benefit of the recession vis-a-vis extremely low interest rates without the cost of the recession vis-a-vis a broadly based increase in the unemployment rate. We have never, never, never seen anything like that. There was a sense of urgency to get into the market and people basically were front loading activity. We basically borrowed activity from the future because interest rates were so, so low.

So we borrowed activity from the future and the future has arrived. We are now in the future, and the market is correcting. And that’s a very healthy situation. After rising by 46% in two years, if house prices don’t go down now, we are basically in a bubble. So whatever we see now in the housing market is very healthy. And it’s basically a reset year and that will continue. Prices are down by about 20%. This is the average price. The benchmark price, which compares apples to apples, detached to detached, condo to condo, is about 9% down from the peak of February. I believe that will continue until at least the spring of 2023. And again, I believe that that’s a very healthy situation because you cannot have this kind of shock without a correction.

Is it a free fall? Is it a meltdown? No, it’s not. It’s not a crash by any stretch of the imagination. It’s simply reallocation of activity over time. We front loaded activity during COVID, and now we are resting with higher interest rates. That will continue to be the case. Prices will continue to go down. But there is one big difference so far between the current correction and decline in prices in previous cycles, and that’s supply.

What I mean by that is usually when the economy’s struggling, when the economy’s in a recession, when the housing market is slowing, like in the 90s and the 80s and even 2017, you see supply rising, namely people are selling their houses because they have to. So far at this point, there is no panic selling by any stretch of the imagination. In fact, supply is down. So all the decline in prices is really demand, and supply is not adding to it. The opposite is the case. If supply was rising, the price level would have been even worse.

So the point here is that at this point, there is no panic in the market. And the reason is the fact that this is still a mild slowdown with no major issue in the labour market. People have their jobs, they can finance their mortgage. However, the risk is overshooting by the Bank of Canada that can lead to a more significant recession. In this case, people will start losing their jobs. The supply of homes will rise. And that’s something that will have a negative impact on the market. So our main case scenario is that this slowing in the housing market with the negative price inflation will continue to be the case over the next six months or so. I believe that the market will start stabilizing around the springtime, but it will not go up in a very significant way.

What will prevent additional decline after the spring is the lack of supply. We still get new immigrants. We’re talking about roughly 420,000 new immigrants arriving every year. We have foreign students. Huge demand for rental and housing in general, and we simply don’t have the supply. In fact, the opposite is the case. The supply is going down because of the fact that builders are not building. The cost of construction has risen dramatically and builders are simply not building. We are estimating that for the GTA, one-third of projects are being canceled or delayed. This means that a year or two years from now when the fog clears and we are ready, the supply that we need will not be there. You don’t need to be a PhD in economics to determine where prices will go from that point.

So therefore, I believe that the correction that we’re seeing now is very healthy. It’s reallocation of activity over time. But this is not the beginning of a long-term decline given the extremely strong fundamentals of the housing market.

Text transcript

Benjamin Tal, deputy chief economist, CIBC.

If you look at the overall situation, it’s possible that we are already in a technical recession. And if not, it’s coming.

So, our call is that it’s going to be a mild recession at this point. The reason is that the impact is going to be mostly on GDP. You will see negative GDP growth maybe, but not a significant impact on the labour market. It’s all a function of how high interest rates will be rising. Clearly, the Bank of Canada is fighting inflation that we haven’t seen in many, many years, and they mean business. They are very aggressive when it comes to the language and action regarding fighting inflation because you give the Bank of Canada two options: one is a recession, the other is inflation. They will take a recession any day. They will make sure that we know that they mean business when it comes to fighting inflation.

So at the end of the day, when we talk to clients about the situation, it’s really not about inflation. It’s about the cost of bringing inflation down to 2%. It seems that the Bank of Canada is starting to slow down, the market gave the Bank of Canada a green light to go 75 basis points in the last move. They chose to go 50. The reason is overshooting. Every economic recession over the past 20, 30 years was helped if not caused by monetary policy error in which central banks raise interest rates way too quickly. And that’s something that the Bank of Canada is trying to avoid. At the same time, remember, they have to make sure that inflation expectations are not rising dramatically, and that’s more or less where we are. So the last move was 50 basis points, but they’re not done. Our call is that the Bank of Canada will raise interest rates from the current 3.75% to about 4.25, maybe four and a half by the end of the year. So another 50 to 75 basis points before they call it a day. That’s something that is extremely important to understand.

Now, much more important is how long they will keep interest rates at that level. In my opinion, they will keep it at least for a year, until 2024. Why? Because you want to make sure that inflation is dead. You want to make sure that you don’t repeat the past mistakes of the 1980s when monetary policy was eased prematurely and we had a double-dip recession. So they will take their time before they cut interest rates and they are very clear about it.

When they cut interest rates, the question is by how much? We have to realize that we are facing three major inflationary forces. We have deglobalization, we have just-in-case inventories, and we have a situation in which the labour market is relatively tight and wages are rising. This might mean that the inflationary forces beneath are relatively strong. At the same time, the inflation target is the same, 2%. It’s not going to change. And in the foreseeable future, the Bank of Canada will not change that target. So you have a target that is the same. The forces beneath are stronger, by definition, interest rates have to be higher than they were before in order to keep that target at 2%. So if before the Bank of Canada rates was 1.75 before we started this madness, and now it’s going to 4.25, four and a half, staying there for a year. It’s not going down in 2024. By how much? I say by 1%, 1.25 going to 2.75, which is a full percent higher than the rate before reflecting those inflationary forces.

So that’s more or less where we are. That’s consistent with the mild recession, with no major issues in the labour market. With the labour market basically bleeding vacancies as opposed to jobs.

However, the other scenario, which is the overshooting scenario in which inflation will be more sticky than expected and the Bank of Canada will have to go higher. Higher means five, five and half percent. That will be pure overshooting. That will take the economy into a real recession with the labour market struggling, the unemployment rate rising and interest rates actually going down in 2023 because of that overshooting.

That overshooting scenario, the risky scenario at this point is about 20-30% probability. The most likely scenario is the mild recession with interest rates rising to 4.25, four and a half. The Bank of Canada is trying not to overshoot and everything depends on where inflation will be. And we are seeing some good news. Inflation is slowing down and the most important story is that the external shock to inflation, namely supply chain, is starting to diminish. And that’s extremely important because the more you see supply chain diminishing, the more power the Bank of Canada has over inflation.

So overall, we are maybe entering a recession, but it’s a technical recession and the Bank of Canada will try not to overshoot. Overshooting will lead to a more significant recession.