Making sense of the markets this week: October 15, 2023

Clearly, the biggest world news is the conflict in Israel and Gaza. This week we are holding off discussing the effects on the markets as it is too difficult to comment as there is just so much pain and human loss to sort through. 

Inflation refuses to die

With Halloween (and horror flick) season upon us, economists are staring at a scary sight indeed: Inflation is refusing to die, no matter what is thrown at it.

The U.S. Labour Department released the Consumer Price Index (CPI) report on Thursday, and the headline was that overall inflation was up 3.7% and core inflation was up 4.1%. Those numbers were slightly higher than expected.

We think the good news in regard to inflation is that our medium- and long-term expectations are still pretty firmly anchored, as revealed by the U.S. Federal Reserve Bank of New York’s consumer expectation survey on Tuesday.

Consumer expectations (referred to as “inflation vibes” by columnists flexing how trendy they are) often get lost in the month-to-month report of inflation percentages, but it may be the most important indicator we have. It’s not that the average person really understands where inflation is trending, or is able to make accurate predictions. Instead, what the consumer expectations survey tells us is how people feel about the future, and whether they are likely to demand higher wages, collectively normalize the idea of quickly increasing costs, and so on.

This month’s survey shows that Americans expect inflation to be at 3% in three years, and that it would be down to 2.8% in five years. That’s higher than economists would like, but it in no way resembles the runaway inflation expectations of the past.

As long as Americans believe inflation will come down, and they have faith in the power of the U.S. Federal Reserve to execute its mission, then the vibes should continue to trend in the right direction.

Are Pepsi earnings a sugar high?

Pepsi (PEP/NASDAQ) released an interesting earnings report on Tuesday. (All numbers in this section are in U.S. currency.) The raw numbers: earnings per share came in at $2.25 (versus $2.15 predicted), and revenue was $23.45 billion (versus $23.39 predicted). Shares were up nearly 2% on Tuesday after earnings were announced.

Behind those numbers, the inflation-related picture told a more nuanced story.

The amount of volume that Pepsi sold fell again this quarter. Pepsi has been hiking prices fairly aggressively the last couple of years and clearly it has been using the “shrinkflation” playbook to sell “less-for-more.” For example, Pepsi’s North American beverages unit reported a volume decline of 6%, but that was mostly mitigated by higher prices. It appears consumers are finally starting to push back a bit on purchasing ever-smaller amounts of product for higher prices. And Pepsi may have reached the end of how high it can raise profit margins for this cycle.

In brighter news for the company, Gatorade revenue was up by more than 10%. In the absolute brightest news possible, the company will be relaunching Mountain Dew Baja Blast.

Those holding their breath in anticipation of being without their Baja Blast fix can now breathe again.

Delta Earnings Flying High 

Despite making some unpopular changes to its lounge access and frequent flyer loyalty program, Delta Air Lines Inc. (DAL/NYSE) was happy to present a positive earnings report on Thursday. Earnings per share came in at $2.03 (versus $1.95 predicted) and revenues were $14.55 billion (versus $14.56 predicted).

The markets reaction was slightly negative, as shares were down 2.3% after Thursday’s announcement.

Delta’s profit was up 60% in the third quarter on the strength of an increase in international travel revenue. Total capacity edged up 1% to 88%, even though the airline had focused on adding additional capacity both domestically and internationally. It appears that the end to “revenge travel” hasn’t quite reached its destination.

Exxon: Drill baby drill?

Who needs all of those newfangled renewable energy assets?

Exxon Mobil (XOM/NYSE) made the news on Wednesday when it offered to purchase U.S. shale oil giant Pioneer Natural Resources for nearly USD$60 billion. The potential acquisition represents a doubling down by Exxon on the Permian Basin’s low-cost shale oil resources. Shareholders weren’t in love with the move, given Exxon shares fell 2.5% upon announcement. 

That being said, the deal has been in the works for a while, so it was priced-in to a large degree.

It’s a bit of a sad day for the “oil will die a natural death sooner rather than later” camp (and many would argue for the “I don’t want the world to burn” camp, as well). Exxon is sitting on a record USD$56 billion in profits from last year. And it will now be using a lot of that money to ensure pumping “black gold” from the ground stays very profitable for the long term. Essentially, CEO Darren Woods is reaping the benefits of not shifting the company to a greener future, and doubling down on traditional fossil fuel production.

Has fixed income beaten utility stocks?

It’s been a rough year to be a utility stock investor in Canada, as you can see by looking at the iShares S&P/TSX Capped Utilities Index ETF (XUT/TSX) below.

The recent underperformance of Canadian utility stocks is likely due to two main factors.

1. Typically, utilities companies carry a lot of debt. Their business model relies on borrowing cash, so they can build massive capital-intensive projects, then gradually reap the rewards over time. Of course, it’s much easier to bank profits when you pay a lower interest rate. It’s not like all the Canadian utilities companies have variable rate loans, and their debts were locked in at relatively low rates.

   That said, there’s no doubt that increased interest costs are beginning to eat into bottom lines. Just ask Algonquin (AQN/TSX) shareholders to share their painful story with you if you want a firsthand example.

2. When it comes to the buying and selling of investments daily within conservative portfolios, utility stocks are generally competing with guaranteed investment certificates (GICs) and bonds. A couple of years ago, when 10-year bonds paid only 0.50% interest, a utility stock with a 4% dividend looked pretty good. These days, when you can lock in GICs above 5.5%, that risk-free competition has resulted in less demand to buy shares of utilities.

While those two reasons make a lot sense intuitively, we would encourage Canadian investors to think about the pros/cons of any assets, including trading in utility stocks for fixed-income investments like GICs or bond ETFs for the following reasons:

• Human beings are awful at market timing. Historically speaking, when the bulk of people are very worried about a particular asset, that’s not a great time to follow the herd and sell.
• Remember that most Canadian utilities have a very stable history of raising their dividends over time. Stastisically speaking, that 4% yield you’re getting today when you buy the stock, is likely to have a higher yield on your initial share price in five years’ time.  Here’s a look at Canadian utility Fortis’ dividend track record as an example.
• Capital gains and dividends are much more tax friendly than interest. That doesn’t matter if the investments are in your tax-free savings account (TFSA) or registered retirement savings plan (RRSP). But the investment gains that you enjoy definitely matters if they’re outside a registered account.

You can read more about Canadian Utility Stocks on MillionDollarJourney.com. Of course utility stocks and GICs aren’t mutually exclusive and a diversified portfolio can include many types of assets.

Yes, it’s free: The Canadian Financial Summit

In case you missed it, we released the 2023 speaker lineup for the Canadian Financial Summit this past week, including sessions with familiar faces from MoneySense (see below). Registering for the Summit is completely free, and you can click here for more details.

Michael McCullough

Top Canadian ETFs for This Year and Beyond

With so many ETF options available, it can be hard for investors to know what to put into their portfolios. MoneySense’s executive editor, Lisa Hannam, hosts as journalist Michael McCullough looks at the makeup of the ETF market. He will share, based on MoneySense’s ETF All-Stars Report, the ETF products Canadians could consider buying today.

Allan Norman, MSc, CFP, CIM

All your FHSA questions answered

The first-home savings account is brand spanking new, and Canadians have questions. In the similar format of MoneySense’s popular Ask A Planner column, executive editor Lisa Hannam will ask Certified Financial Planner Allan Norman real questions from Canadians about the FHSA, from what it is to where to open this account.

Lisa Hannam

Personal finance trends to plan for in 2023 and 2024

MoneySense executive editor Lisa Hannam and columnist Kyle Prevost work together on the popular column Making Sense of the Markets. It contextualizes headlines for Canadian investors, so together the duo will be looking at the headlines from the year and those to come, including interest rates, crypto (remember that asset?), employment, AI, GICs and so much more.

About Kyle Prevost

Kyle Prevost is a financial educator, author and speaker. He is also the creator of 4 Steps to a Worry-Free Retirement, Canada’s DIY retirement planning course.

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