If July only had thirty days in it, it would have been a pretty decent month in the global equity markets. Unfortunately, there are 31 days in July, and the last day of the month was not kind to most markets. A wave of selling took hold, driving markets lower, and taking what was looking to be a largely positive month across the board, and turning it into a mixed bag.
The S&P/TSX Composite gained 1.4% on the month, despite a 1.25% decline on the last day of the month. It was a similar story with the S&P 500, which was down 1.4% in U.S. dollar terms, after dropping by 2% on July 31. Fortunately for Canadian investors, a strengthening U.S. greenback boosted returns allowing the S&P 500 to gain 0.8% in Canadian dollar terms.
In Canada, the rally was fairly broad based, with seven of the ten market sectors finishing higher. Consumer staples led the way on a number of strong earnings reports, followed by financials, industrials and technology. The worst performers were the energy names, which sold off by 2.3% on profit taking and less worry over the likelihood of a supply disruption.
Europe struggled, losing nearly 4% in U.S. dollar terms. Worries over the stability of the banking system in Portugal after a major bank bailout had investors running for the exits. Tensions between Russia and the Ukraine were again on the front page after a Malaysian passenger jet was shot down early in the month. This left investors unnerved.
The uncertainty seemed to be a catalyst for the bond market, with Canadian bonds offering up decent gains for the month. The DEX Universe Bond Index gained 0.6% after the yield on the benchmark Government of Canada bonds were lower across the board. It was long bonds that were the biggest winners, with the DEX Long Term Bond Index gaining 2.6%. Government bonds outpaced corporate bonds, and investors continued to sell their high yield names. The iBoxx High Yield Corporate Bond Index lost 1% in U.S. dollar terms.
My investment outlook remains largely unchanged. I continue to favour equities over fixed income.
Within fixed income, I am making one change. I am moving my exposure to high yield bonds from neutral to underweight. Valuations remain high and selling momentum appears to be picking up. I still think that some exposure to high yield is beneficial, but would strongly encourage you to take some money off the table. I expect that as valuations normalize, I will likely move towards a neutral or even overweight position again, assuming the fundamentals remain strong.
Within equities, I continue to favour North American over Europe. While I still think it possible that there may be a liquidity driven rally in Europe, the timing of that has been pushed down the road, thanks to the increasing tensions between Russia and the Ukraine. I remain concerned about China in the short term because of the unwinding of the property bubble that is now taking place. Longer term, I believe the country can provide strong returns, but there is continued uncertainty in the short term.
I still think that the conditions for a major correction are there. Valuations are high, economic growth is strong, but not spectacular, and the geopolitical situation remains uncertain in both Russia and the Mid-East. Should we see conditions erode further, a selloff is likely. While I believe that to be the case, it would be ill-advised to try to time any such correction, as the long-term damage of being wrong will outweigh the shorter term pain of remaining fully invested.