Why this portfolio manager is proceeding with caution

For SLGI Asset Management Inc.’s Christine Tan, a potential shallow recession is just the tip of an iceberg of uncertainty

Why this portfolio manager is proceeding with caution

With a preponderance of economic indicators flashing danger red, the odds of recession in Canada have crossed the line from possibility to probability. And for one portfolio manager, that means starting off 2023 with a guarded view.

“We came into this year with caution,” says Christine Tan, Portfolio Manager at SLGI Asset Management inc. “Even though there is somewhat of a consensus view of a recession, there's still quite a wide variation in terms of the actual economic path.”

A chill in the Great White North

Following last year’s streak of extreme inflation numbers and drastic rate hikes, numerous surveys are pointing to an economic downturn for Canada.

The most recent Business Outlook survey from the Bank of Canada, released last week, shows more than two thirds of Canadian business owners bracing for a recession in the next 12 months. Over 70% of consumers felt the same, according to the central bank’s Canadian Survey of Consumer Expectations, which also found a growing share of Canadians planning to further cut or postpone purchases in the coming months.

“The Canadian economy is a consumer-based economy. Household consumption typically represents about 55% of our overall economy,” Tan says. “Other than the 2009 recession, Canadian economic growth from 1998 until today has also generally hovered between 2% and 4% a year, so even a five to 10% decline in consumption can be quite meaningful.”

The current mood of belt-tightening is hardly surprising. Aside from increased borrowing costs, households across the country have seen most of their pandemic wealth gains evaporate in the face of lower stock prices and home values – all knock-on effects of the BoC’s extreme rate hikes last year.

“There are a lot of reasons to believe that we probably are headed into a slowdown, but we also see mitigating factors that could make it a shallow one,” Tan says. “The labour market is still very tight, and we’re still seeing wage growth. And fundamentally, there’s still a shortage of housing units in general relative to population growth in Canada.”

You can’t time a downturn

The writing may be on the wall with respect to an economic downturn, but Tan says the timing of a recession remains ambiguous. The exact moment of impact – whether it’s mid-2023, in the second half, or in 2024 – could have meaningful implications for asset prices.

“At this time, because of the high level of uncertainty, we're still quite cautious,” she says.

The reopening of China is yet another cloud in the crystal ball. While there are signs that inflation is moderating – Statistics Canada reported that headline CPI decelerated to 6.3% in December, compared to 6.8% the previous month – Tan says a resurgence in Chinese demand could push inflation back up.

“We don't think it's going to be that inflationary because there wasn't the same stimulus in China as there was in Canada and the US, but it remains to be seen,” she says. “On the other hand, stronger growth in China is a net positive for global growth.”

According to Tan, last year’s broad market selloff had the effect of resetting valuations. Earnings expectations have come down, but the broad consensus view still calls for a modest amount of earnings growth for the TSX this year. But because of the lingering risk of recession, she says there’s still considerable downside to that.

“We think there’s still earnings variability in Canada,” Tan says. “Valuations are going to really matter, and you want to be careful what you own … it’s about making sure you don’t overpay, especially when interest rates today let you earn a money market or bond yield that’s quite attractive, without having to stretch too much for it.”