Canadian investors with long memories will recall that the 1990s were an incredibly frustrating time to be in the market. While the S&P TSX Composite Index (back then, it was called the TSE 300) trundled along, Canadians could only watch enviously as the S&P 500 index in the U.S. soared ever higher. Yet, because of antiquated RSP rules, Canadians were barred from holding more than 30 per cent foreign content in their registered accounts, severely limiting their potential returns. So, in 2005, when then-finance minister Ralph Goodale scrapped the content rules, there was much applause. But, by then, of course, Canada’s stock market was already well on its way to becoming the hottest game in town.
It was fun while it lasted. With the bottom falling out of the resource sector, in particular, oil, and Canada’s debt-laden consumers coming under pressure, investors in the TSX are at serious risk of another period of prolonged disappointment. As the chart below shows, after a decade of long-term outperformance by Canadian stocks, the S&P TSX’s 10-year return has slipped behind that of the S&P 500 for the first time since 2005.
Canada’s stock market has had two jetpacks strapped to its back over the last decade that have given it lift: financial services and oil and gas, which together account for about half of the market value of Toronto Stock Exchange-listed companies. The eagerness of Canadian households to pile on debt boosted the bottom lines of Canadian banks. But the pace of lending has slowed sharply, and banks are starting to hand out pink slips to employees. At the same time, oil’s meteoric rise, which got under way in 2002, truly did make Canada an emerging energy superpower. As the chart shows, the rise in oil prices corresponded with the TSX finally closing the performance gap with the S&P 500 before rocketing ahead. Likewise, the collapse of oil left the TSX hanging in mid-air like Wile E. Coyote.
Of course, Canada’s outperformance has owed a lot to America’s troubles, including 9/11, two recessions and endless government deadlocks. So it’s not a surprise that with those problems disappearing in the rear-view mirror, the S&P 500 has played catch-up.
Nor are we fated to repeat the darkest days of the 1990s, when investors in the U.S. market enjoyed 10-year returns that were three times greater than what an index investor in Canada could manage. After all, there was a lot going on here at the time that weighed on the market. The fiscal crisis of the 1990s, coupled with Quebec’s independence referendum, shattered investor confidence. Both issues have, for the most part, been resolved.
But one question remains, and it is vital to where the Canadian stock market, let alone the economy, heads in 2015 and beyond: Is this collapse in oil prices a repeat of 2008, when the price per barrel fell 76 per cent to US$35, before quickly recovering? Or is the glut of oil that’s formed on world markets going to send the energy sector into a multi-year funk like the one that plagued the Canadian oil patch in the 1980s and 1990s? (I put that question to Bank of Canada Governor Stephen Poloz in an interview, which you can read here). Even if we settle into a scenario that’s somewhere between those two extremes, it will result in middling performance for a sector that has been the driving force behind Canada’s stock-market outperformance.
They say you don’t know what you’ve got till it’s gone. Well, say goodbye to the TSX’s golden decade.