Wealth Management

Review

RBC Dominion Securities Inc.

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www.rbcds.com | October 2021

Still going strongBy Jim Allworth

It’s been a very good run. All the major stock market indexes are up mightily from their spring 2020 pandemic lows. The S&P 500 stands out – up a startling 107% at its recent high from the deeply depressed, pandemic lows set 17 months earlier. Equally impressive is the 34% advance from the 10-year high-water mark set in February 2020 just before the COVID-19 rout got under way.

Over the same two timeframes the TSX Composite advanced by 87% and 16%. Most of the shortfall in the TSX’s performance compared to that of the S&P 500 is explained by the relatively large exposure of the U.S. index to the high-flying tech sector – 28% versus 11% for the TSX.

All of the other major global markets have followed the same direction but their gains have been much less remarkable.

Economy enters new phaseLooking out one year we expect equities will be able to deliver positive all-in returns but the path from here to there is likely to be much less upwardly dynamic and the returns much more subdued.

The economy and earnings will tell the tale. The relative performance of various stock markets, one to the other, has been mostly determined by how fast their respective economies reopened following pandemic lockdowns and GDP recovered. And equities delivered very strong gains not because investors chose to be unrealistically optimistic but rather because over that stretch corporate sales and earnings did so much better than anticipated.

Work by RBC Global Asset Management strategist Eric Savoie makes the point. According to Savoie, in the early summer of 2020 the S&P 500 was trading at 22X year ahead earnings, which at that time were expected to come in at $150 per share. That multiple was a long way above the S&P’s long-term “equilibrium” price-to-forward-earnings multiple, which RBC Global Asset Management estimated to be 17.6X. However, as it turned out, over the next year earnings grew much faster than estimated: 22% faster in fact, all the way to $183. So, back in July of 2020 investors were only paying 17.9X the earnings per share

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actually achieved over the following 12 months, a multiple not far off calculated “fair value.”

Market cycle shifts gearsFast forward to today and the S&P 500 is trading at 21X estimated earnings one year out. But this time it’s highly unlikely that actual earnings achieved in the coming 12 months will turn out to be much higher than estimated. Peak growth for the cycle likely occurred back in the second quarter. The most dynamic part of the cycle is probably behind us. Nonetheless S&P earnings are forecast to grow by a very strong 18% in 2022, down from 33% this year.

Generating earnings growth close to that implied by today’s consensus forward estimates, while maintaining a somewhat above-average price-earnings multiple, will be critical to achieving worthwhile all-in returns from the S&P 500 over the coming 12 to 18 months.

P/E multiples in all the other developed equity markets, including Canada’s TSX, are much less demanding, sitting as they all do near their long-term average in the mid-teens. But here too, earnings growth will need to come through for expected returns to materialize.

Reasons to believeWe think the needed earnings growth will indeed materialize because it is based on solid, consensus estimates of GDP growth supported by:

• very “easy” monetary conditions

• the lagged effect of fiscal stimulus delivered by all governments over the past 18 months

• the pressing need to replenish inadequate inventories

• the prospect that at least some of the immense “excess savings” now residing in North American household and corporate bank accounts will get spent over the next two years

• the constructive outlook for capital spending driven by high profits, low interest rates and labour shortages

We look for U.S. GDP growth of slightly below 6% for this year and a still-above-trend pace of 3.8% next year. Canada’s economy should deliver very similar results.

All that said, it is very likely we have entered a period when all those expectations and assumptions will be hotly debated. The “worry list” is growing by the day and now ranges from prospects for Fed tapering, the U.S. debt ceiling and other Congressional logjams, the still growing impact of global supply chain disruptions, all the way to the prospect of defaults in the large Chinese property sector. A stretch of uncomfortable market volatility can’t be ruled out.

What we don’t see is an imminent U.S. or global recession. History shows the odds favour staying with equities until such an economic downturn becomes inevitable.

For a more detailed discussion of our outlook for financial markets, ask for a copy of our current issue of Global Insight.

Jim Allworth is co-chair of the RBC Global Portfolio Advisory Committee.

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In the wake of the pandemic, Canadians are asking important questions about when, where and how they will retire, according to a recent RBC poll.1 Here are six key questions to ask yourself as you plan for your retirement:

1. When will you retire?The pandemic has caused significant economic hardship for many Canadians – and 18% of those surveyed in the RBC poll now intend to delay their retirement. To make up for any shortfall in retirement savings, about one-third of respondents also intend to live more frugally, downsize or move, or return to paid work.

On the other hand, you may be reassessing your priorities in life due to the pandemic – and considering an earlier retirement. If you’re thinking about it, in addition to financial factors, consider often-overlooked family and emotional factors. If you have a spouse, how will your earlier retirement affect them? How will you replace the sense of purpose that work may have provided to you? And, of course, how will you fund your retirement lifestyle for a longer period of time?

Whether you’re thinking about retiring earlier or later, consider updating your financial plan to identify a realistic target retirement date, and strategies to help you achieve it.

2. How much is enough to avoid outliving your retirement savings?RBC poll respondents estimate they will need to save more for retirement – $1 million on average among those who have already saved $100,000 or more.

How much will be enough for you? Some people like to set nice, round targets, whether it’s $1 million or $5 million. The truth is, there is no easy answer. Most Canadians get by on less than $1 million, relying on government benefits to augment their savings. Ultimately, the only way to answer this question is to create or update your financial plan. A financial plan will include projections showing how much you need to save to achieve a certain retirement income that is sufficient to meet your expected expenses for as long as you need.

3. How should you invest your retirement savings?Over half of RBC poll respondents indicate that they will look to their investments if they need more money in retirement. Making the most of those investments will be critically important. But how?

In previous generations, many retirees simply put their savings into low-risk, interest-bearing investments like GICs and government bonds. However, interest rates continue to be very low, often not even beating the rate of inflation.

Rethinking retirement: Six key questions

To help ensure your savings last 30-40 years after retirement, you may need to consider other options offering long-term growth potential. The key is generating enough cash flow to meet your needs, while diversifying your retirement portfolio to balance stability (provided by fixed-income investments like bonds) and long-term growth potential (provided by equity investments like dividend-paying stocks). Generally, in retirement, you will want more stability, but it can make sense to retain an element of long-term growth given increasing life expectancies.

It’s also important to be tax-smart. If you’re approaching retirement, consider maximizing contributions to your Registered Retirement Savings Plan (RRSP), where they can benefit from tax-deferred compound growth over time. If you’re already retired, consider withdrawing the minimum required amount from your Registered Retirement Income Fund (RRIF), leaving the rest to continue growing on a tax-deferred basis. And don’t forget about your Tax-Free Savings Account

(TFSA), which enables you to earn tax-free investment income and make tax-free withdrawals for any reason.

4. How will you fund your health-care needs in retirement?As Canadians, we’re accustomed to government-funded health care. But it may not be enough. Consider setting aside funds for additional health insurance for things that may not be covered, like glasses, dental work or medication. In addition, you may wish to consider enhanced insurance that can provide funds in the event of disability or illness, which you can use to help in your recovery or any other way you see fit. You may also want to consider long-term care insurance, which can provide funds to bring in the home care you may need due to aging, injury or illness.

5. Where will you retire?According to the RBC poll, many Canadians are rethinking where they want to spend their retirement years as a result of the pandemic. Here

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This information is not investment advice and should be used only in conjunction with a discussion with your RBC Dominion Securities Inc. Investment Advisor. This will ensure that your own circumstances have been considered properly and that action is taken on the latest available information. The information contained herein has been obtained from sources believed to be reliable at the time obtained but neither RBC Dominion Securities Inc. nor its employees, agents, or information suppliers can guarantee its accuracy or completeness. This report is not and under no circumstances is to be construed as an offer to sell or the solicitation of an offer to buy any securities. This report is furnished on the basis and understanding that neither RBC Dominion Securities Inc. nor its employees, agents, or information suppliers is to be under any responsibility or liability whatsoever in respect thereof. The inventories of RBC Dominion Securities Inc. may from time to time include securities mentioned herein. RBC Dominion Securities Inc.* and Royal Bank of Canada are separate corporate entities which are affiliated. *Member-Canadian Investor Protection Fund. RBC Dominion Securities Inc. is a member company of RBC Wealth Management, a business segment of Royal Bank of Canada. ® / ™ Trademark(s) of Royal Bank of Canada. Used under licence. © 2021 RBC Dominion Securities Inc. All rights reserved. 21_90081_1357

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are some questions to consider: Will you downsize to a more affordable or convenient home? Do you want to relocate to another area to be closer to family, get away from densely populated areas, or enjoy a warmer locale? Do you want to “age in place” in your home? Take some time to think about your choices, and make sure to discuss your choices with your family members, especially if you might be relying on them for support as you age.

6. How will you spend your time in retirement?Many poll respondents indicated that they were taking up new hobbies as a result of the pandemic, realizing “life is short.” And such activities may indeed be a big part of a happy retirement, post-pandemic. But it’s also in our nature to need a sense of purpose, and we may need more than leisure activities to provide it. Think about things you can do during retirement that provide that gratification, and a connection with your community, whether it’s part-time work, volunteering or joining a club. Staying physically, mentally and socially active can also help with your overall health as you age.

To learn more about retirement planning, contact your Investment Advisor.

1 RBC 2021 Retirement Myths & Realities Poll