Will campaign-trail ideas be enough to ease recession fears?

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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. 

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Adam Ditkofsky, senior portfolio manager, global fixed income at CIBC Asset Management 

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In terms of reviewing the implications of the upcoming Canadian federal election on the market, really the focus has shifted to how each party looks to address policies surrounding President Trump’s tariffs, which are focused on bringing jobs back to America and reducing the deficit with its trade partners. 

Now, while Canada has been excluded from the April 2nd reciprocal tariff announcement, Canada still faces 25% tariffs on vehicles and steel, both of which have had large negative implications on our economy. Now, of course, it goes without saying that the approach that the White House has taken to announcing policies through the President’s tweets increases political uncertainties in reducing both business and consumer confidence. So, obviously, this has not been good for the markets and increases the risks of a recession. 

And I’m not just talking about Canada. The U.S. faces recession risks as well. We can’t forget, the consumer makes up roughly 70% of GDP in the U.S., and Americans have become addicted to their cheap goods — be it their cars, their Starbucks coffee or pretty much anything bought at Costco or Walmart. So, with the average tariff in the U.S. rising from 2.5% last year to more than 20%, it’s clear they’re also going to feel the impact, which could easily drag down the economy. 

So, the real question we need to ask now is, how will Canadian leaders look to address rising trade barriers, and how will they look to stimulate a slowing economy and stabilize both consumers and business confidence. Now, both the leading parties — the Liberals and the Conservatives — have pledged to support Canadian businesses and reduce Canada’s reliance on the U.S. as an export partner. For example, both are focused on eliminating interprovincial trade barriers, reducing tax rates and eliminating the consumer carbon tax. 

But let’s look at some of the details.  

So, current prime minister and Liberal candidate, Mark Carney, has announced several initiatives, the first being a new $5 billion trade diversification corridor fund, the second being increased tax breaks for seniors, and the third, the elimination of the carbon tax. Now, he’s also announced plans to allow businesses to defer tax payments, and to help boost liquidity and put in place 25% counter tariffs on American-made vehicles, while also pledging to maintain production quotas on Canada’s agri-food sectors. 

Pierre Poilievre of the Conservative platform has also announced plans to reduce taxes and to eliminate the carbon tax, but with some more-aggressive reductions, including the elimination of the carbon pricing on industrial emissions. He’s also announced tax credits on capital gains reinvested in Canada, and that should have very large implications, especially for investors. 

The Conservatives also announced plans to speed up infrastructure projects and want to renegotiate the existing USMCA trade agreement on day one, while suspending tariffs in the interim. 

Overall, both parties appear to be focused on boosting GDP and reducing uncertainty surrounding increased recession risks. However, the question remains, are all these going to be enough? And I suspect we’ll likely see more plans, especially with rising recession risks. 

Now, in terms of what does this mean for rate cuts? Ultimately, the Bank of Canada remains independent from the government, so further rate cut decisions really is data dependent. But in our view, should the economy weaken or fall into recession, we think that the Bank will tilt its rate decisions to focus on economic stability, as opposed to inflation. 

And if we look at the level of average inflation over the past 12 months in Canada, it’s been roughly 2.2%, in line with the bank’s 1% to 3% target. Now, in terms of our forecast, we see the overnight rate falling to 2.25% over the next 12 months in our base case. But if we do see a recession — which is not our base case scenario at the moment — [we] expect it can go much lower. Right now, future markets are pricing in two additional cuts for the Bank of Canada for 2025, which is in line with our forecast, 2.25%, with the next cut being fully priced in for the bank’s meeting on June 4, and the second cut being fully priced in for September. 

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So, in terms of key trends for fixed-income investors to watch in 2025, the main themes so far this year have been twofold, the first being the widening of credit spreads, representing the difference in yield between corporate bonds and government bonds, which quantifies the level of risk tolerance that investors have or confidence in risk assets, and the second being the continuing steeping of the yield curve, which reflects how much extra yield investors are paid to buy longer-dated bonds, as opposed to shorter-dated bonds.  

Recall that last summer, the yield curve — which we define as the difference in two-year Canada bonds and 30-year Canada bonds — was negative or inverted. Today, it’s positive, with shorter-dated bond yields moving much lower over the past 12 months. 

Now in terms of credit spreads, so far we’ve seen credit underperform government bonds this year, with the credit spread of the FTSE Corporate Bond Index reaching 122 basis points as of April 7, and above the 12-month average of 110 basis points, and well above the 12-month low of 96 basis points in late December of last year. 

Now, we have been positioning our portfolios over the past few months, reducing credit and moving into shorter-dated corporate bonds, and positioning ourselves into more defensive sectors, such as utilities and infrastructure and telecom. It seems this has worked well for us. But now we’re questioning, at what point we can see a buying opportunity for corporate credit. And, unfortunately, right now, it seems to be a little bit early for us to be making those decisions, given the ongoing rhetoric regarding tariffs and increasing risks of recession that are currently unfolding in the market. 

Now, as for the yield curve, we think there’s more room for the curve to steepen as central banks continue to cut rates, and we feel positioning portfolios for the steeper curve is appropriate, especially as recession fears grow. 

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So, in terms of opportunities for investors, I think it’s important to recognize that there’s a lot of risk in the market right now, meaning we should expect volatility to continue to be high. So in essence, low-volatile strategies make a lot of sense right now.  

So, I think maintaining a balanced portfolio of stocks and bonds is important, especially in this environment where bonds provide investors with good diversification, and this should reduce the risk of the overall portfolio and reduce volatility. 

Now, also, diversified bond portfolios that incorporate a prudent approach to credit is critical in this market to ensure managers are avoiding defaults and minimizing unnecessary risks. 

In our portfolios, we’ve materially reduced low-quality corporate bonds, including high yield, to shield investors from the spread environment that we’re seeing, and we’re only participating in new issues if we’re being appropriately compensated with new-issue spreads. 

But I’ll give investors a couple of tips. One, investors need to look through the noise and focus on a more stable investment horizon. President Trump is tweeting daily, causing markets to be extremely volatile. One minute, he’s positive on trade. The next, he’s tougher. Ultimately, investors need to maintain an appropriate asset mix with appropriate risk parameters that represents their risk tolerance that’s acceptable for their portfolios. 

Now, given recession risks are rising, reducing risk in a portfolio is the appropriate course of actions right now. So, maintaining an appropriate allocation to bonds is prudent in this environment. And again, we’ve positioned our portfolios to be more defensive over the past few months, which should provide investors with increased confidence that we are managing risks appropriately in their portfolios. 

Now the second, simply buying the dips for the sake of buying dips, while enticing, can be very dangerous. Markets are being driven by rising uncertainties and falling confidence. Simply acting on lower price points, while enticing, doesn’t guarantee positive returns. I think investors need to, again, be cautious, because things can turn very quickly in this market, maintain their asset mix, be prudent with their portfolios, and don’t just follow the trends in fears of missing out. Strong bottom-up analysis is extremely necessary right now.

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