Over the last quarter, the COVID-19 Delta variant went from potential threat to a full-blown fourth wave. The impacts on the health care system have been pronounced, especially here in Alberta. As of the time of this writing, it appears that case loads may have started to peak. Thankfully, vaccines through this wave have proven effective. Another three billion doses were administered globally in the third quarter of 2021 bringing the total to about 6.25 billion¹. Roughly two-thirds of the world remain not fully vaccinated, but the numbers are heading in the right direction.

Focusing on the economic impact, vaccine efficacy has allowed for the relaxing of some business-related restrictions, starting this summer and carrying on into the fourth wave. “Proof of vaccination” is now the ticket for many to move past restrictions and return to a semblance of normalcy.

Government-sponsored pandemic relief programs are beginning to wind down; this includes the Canada Emergency Response Benefit, (CERB), which is expected to wind down by mid-October. Vaccines, fewer lockdowns, and less relief are all playing their part in supporting the positive employment trend. As of August 2021, Canada has recovered nearly all jobs lost since February 2020. It’s a similar story in the US and overseas, with many countries seeing upticks in employment trending towards pre-pandemic highs. That said, there is room for improvement; Canadian unemployment in August sits at 7.1%, which is still elevated from the sub 6% held through 2019.

For inflation, the US is the highest, so we’ll focus there. The core PCE (personal consumption expenditures) index—the inflation gauge used by the U.S. Federal Reserve (Fed) to conduct monetary policy—rose to an annual rate of 3.62% at the end of August 2021, the highest 12-month figure since 1991. Still, with the Fed’s new “flexible average inflation targeting” (FAIT) framework, the Fed can hold off on any near-term inflation-taming moves, depending on what it views as “average.” The following chart shows the growth in the core PCE since December 1999, compared with a 2% annual trend. It’s clear that over the last decade, the core PCE has been under 2%, with room to move higher.

Developed country equity markets including Canada saw positive performance for the third quarter advancing roughly 4%². Emerging markets were more eventful. China’s regulatory crackdowns, which impacted a variety of sectors and businesses—the latest being Evergrande—brought the overall Chinese equity market down 17%³ for the quarter. The Compass Portfolios’ and ATBIS Pools’ exposure to China is minimal at under 2% on average.

Despite inflation rising to multi-decade highs, the response from the bond markets remains muted, reinforcing the belief that the recent inflation is transitory. Bond markets saw little movement over the summer until the latter half of September. A combination of the regulatory crackdown leading to the Evergrande turmoil coupled with uncertainty around the US debt ceiling saw the Canadian 10-year bond rise nearly 30 basis points towards the end of the month. Credit spreads on the other hand continued to narrow, indicative of the market’s confidence in corporate balance sheets strengthening as economies manage pandemic outcomes. Canadian bonds overall were initially up over the quarter, but tipped downwards near the end of September as rates rose.

Two US legislative events with economic implications are currently unresolved and dominating the headlines. The first is the debt ceiling, which needs to be raised by Oct. 18 to prevent default⁶. The second is with regards to two separate spending bills—one on infrastructure, the second on social programs—totalling US$4.5 trillion. If passed, these bills would represent further injections of stimulus to an already caffeinated economy.

With respect to inflation, a higher-than-typical rate is not necessarily a headwind, as it can also be an indicator of economic growth. Inflation is elevated, yes, but economic growth has also been strong. Many countries have experienced positive growth since Q2 2020 (which was the first full quarter to feel the brunt of COVID-induced lockdowns). For example, the US saw year-on-year (yoy) real GDP—a figure that is net of inflation—growth of 12.2% at the end of Q2 2021, while for Canada, the yoy growth in real GDP was 12.7%.

Overall we see strong economic and earnings growth, central banks that remain accommodative, and labour markets that continue to recover. The ingredients exist for continued expansion. Equity valuations appear high by historical standards, but attractive given the continued low-rate environment. COVID-19 may yet surprise us with some unforeseen development, but with vaccinations still ongoing, and the increased understanding of the virus almost two years in, the pandemic’s economic impact is becoming less of a headline. We believe our portfolios remain well-positioned as we enter the final quarter of 2021.