Davis Rea Investment Counsel has sent out its latest quarterly report to its clients and we have exclusive access to it.

John Johnston, Economic Advisor, has surveyed the landscape and crunched the numbers to present a cogent view of the economy, recession risk, commodities, the Canadian dollar, inflation, bonds, interest rates, and equities.

Go behind the scenes to get Johnston’s Big Picture outlook.

by John Johnston, Economic Advisor, Davis Rea Investment Counsel


Global consumers have been shaken by inflation, interest rates, and Russia.

Despite strong labour markets and rising wages, consumer confidence has plummeted, boosting recession fears.

A real recession, a steep and broad-based decline in economic activity, would hit corporate earnings and commodity prices very hard.

The U.S. economy looks to have contracted over the first half of 2022, which meets the common perception of a recession.

However, it does not appear to be broad based across industries.

Globally, we are not seeing the weakness across a broad swath of economies that portends global recession.

There is no evidence of an imminent recession in Canada.

Europe is doing surprisingly well given events in Ukraine, though energy challenges lie ahead, China is emerging from a sharp COVID-driven slowdown with the rest of Asia following it.

Nonetheless, global, U.S., and Canadian growth has fallen short of most forecasts, and current earnings expectations are too high.

We believe that all the post-COVID recession bounce occurred in the second half of 2020 and first half of 2021.

With many economies now back at full employment, growth has declined sharply back to trend.

A two-quarter “recession” in the U.S. looks likely, but global and Canadian recessions appear unlikely.

Earnings estimates and commodity prices will soften, not fall sharply as they would in a broad-based global recession.

Commodity Prices, the Canadian Dollar, and Inflation:

Inflation remains elevated globally but is especially problematic in the Americas where inflation pressures are broad based.

European inflation is also high but is narrowly based in food and energy.

Inflation remains low in China and Japan.

Easing supply constraints and lower economic growth will lead to lower global, U.S., and Canadian inflation through 2023, though it is likely to remain above central bank targets.

The Canadian dollar is expected to stay in a 75-80 U.S. cent (US$/C$ 1.25-1.33) range into 2023, implying modest upside from current levels.

Short-Term Interest Rates and Bonds:

The U.S. Federal Reserve (Fed) and the Bank of Canada (BoC) remain worried about inflation and are poised to raise short-term interest rates further.

We expect them to end this year higher than we anticipated three months ago (2.50-3.00% now versus 2.00-2.50% then).

Government bond yields usually stop increasing when central bank policy rates are close to their peaks.

With both the Fed and the BoC likely to deliver 50-75 basis-point increases in July, we will be close to an interim peak in short rates, implying that the time for buying longer-dated bonds is approaching.

The spreads between corporate and government bond yields in Canada and the U.S. have increased, making corporate bonds more attractive.

However, expected downward revisions in corporate earnings estimates suggest it is a little early to boost corporate bond exposure.


Equities dropped sharply in the first half of 2022 despite strong earnings and expectations of additional earnings gains in 2023.

With earnings expectations likely to be scaled back, we could easily see additional weakness in prices.

However, if a broadly-based global recession is avoided as we expect, equity markets should recover later this year.

Economically sensitive sectors (industrials, consumer discretionary, and technology) underperformed in the first half of this year but should do much better as the broader markets recover into 2023.

Risks to the Outlook:

We struck a very cautious note here three months ago, with the risks leaning to the downside for investors.

Now, with three months of weakness in financial markets behind us and a pessimistic view of the economy prevailing, the risks for investors are starting to tilt upward.

The big downside risk is that short-term interest rates increase too much, triggering a deep, broadly-based recession.

This would hit equity prices hard.

The Canadian dollar would fall as well.

It would also reduce inflation considerably, resulting in lower interest rates.

If this scenario were to be realized, it would likely occur in mid-to-late 2023.

Conversely, if economic conditions surprise to the upside, which is a very reasonable prospect given the degree of pessimism, we could see a big rebound in equity prices, but persisting inflation fears and pressure for higher interest rates in 2023 would be a headwind.


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