Ed Devlin, along with David Rosenberg, joined BNN this morning to discuss the likelihood of recession in a market environment where interest rates may be higher for longer. The US economy is performing better than expected, but there is a good chance that the Fed will continue to raise rates. The bonds market is starting to look less inverted, and it appears as though the short end of the yield curve will stay at 5% or up for a while.

Ed noted that the discrepency between the bond market and the stock and credit markets is considerable. The real driver of nominal yields is the interest rate, and the stock market is going to have to play catch-up. Ed found that the speed at which interest rates were hiked is surprising, but what is more surprising is that 10 year real yields went from -1% to 2%, which is a ”tremendous” amount of tightening. This shift has not yet been fully absorbed by the stock market. He continued by emphasizing that we are coming out of a pandemic that involved a massive amount of stimulus. These conditions have created a lot of confusion in the markets, which also can mean opportunity

David concluded the first segment by saying that he anticipates the “furthest thing from a robust economy” in the US, Canada, and globally. People have taken the stock market rally to mean that we have avoided a recession, but in his view the recession has only been delayed. He expects to see a huge default cycle, which has already begun with auto loans and credit cards.

The second part of the interview began with David highlighting commodity markets as the main thing to watch for the Canadian economy. Commodity markets are closely linked with China, and they look to be heading into a recession. Ed also noted that Russian oil is still making it to market despite sanctions, and therefore we are not seeing the supply shock that some people expected.

David’s expectation is that the Bank of Canada wants the market to believe that they have one more rate hike in their arsenal for this cycle. Then, it is a matter of time and pressure before they start cutting They are very concerned with keeping inflation under control, and won’t mind overtightening. Ed stated that he hopes the BoC cuts rates as quickly as they were hiked, as disinflation could become a problem a couple years down the line. How aggressive they are in cutting rates will depend on how severe a recession is.

The interview concluded with David stating that he prefers the Canadian market over the US market when it comes to long-only equity, but that his favoured market globally is Japan. From Ed’s perspective, the most attractive fixed-income investments are US agency mortgages.