Interest rates could go even higher than 2.50%

Ruth Saldanha: Last week the Bank of Canada hiked rates by a 0.25%. The first of what is likely to be a series expected to take us up to almost 2.5% by this time next year if Bay Street expectations are correct. But is there a possibility that we could go even higher and what are the macros that we should watch for. With me to discuss this is WisdomTree Asset Allocation Strategist, Jeff Weniger. Jeff, thanks so much for being with us today.

Jeff Weniger: Ruth, great to be here.

Saldanha: The governor has indicated that the Canadian economy is almost at capacity. What does this mean for interest rates and inflation both.

Weniger: Well I think it was about the capacity that Stephen Poloz mentioned in the release by the Bank of Canada that would give you the – I would say the courage or the encouragement to anticipate that if Bay Street is calling for 2.5% from 1.75% now. So, three more hikes between now and December of 2019 it would be basically the almost cheerleading of the economy from the Central Bank where it's identifying a full capacity economy which is corroborated by the U.S. data. Capacity utilization in the U.S. is down near 80. So very high, very late cycle the type of environment in which if you are looking at 2.50% or even upwards of 2.75% in the short end of the Canadian yield curve. It’s not outlandish to make such prognostication.

Saldanha: You mentioned that real estate sales are a key thing that we should watching for and now with homes prices going into the unaffordable territory for many especially in Vancouver, how do you think this is going to tie into the rates and inflation?

Weniger: I mean if you think about it, 2019 will be upon us before you can blink . And if its correct that we will be seeing two, three, four hikes that would be basically entirety of the bell curve for what the Bank of Canada can do. Everyday somebody else gets reset on their mortgage and you have to start thinking about, you mentioned Vancouver, you also have Greater Toronto as well which has been doing that sideways gentle price slowdown here for five or six quarters, probably the best-case scenario thus far. But I think you have to start to question at some point if there is a pinch when you have two bordering economies both aggressively tightening monetary policy and if there is a pinch that people start fielding their auto loans, start fielding their home equity lines and perhaps it starts becoming an issue on housing prices.

I think you have to start thinking about whether or not leadership within the market, what it's called 10 or dozen years of the big five banks dominating TSX comp these types of indexes, start thinking about index construction. This has been a story for Canada for so many years, energy materials and financials. Start thinking about some of the ways, for example the way that WisdomTree has done it where we have broad Canada but with less of an emphasis on the big banks if you think that’s an issue. If not, then maybe another index might be more appropriate. But just think about what are the second and third tier effects from tightening monetary policy and reorder your portfolio accordingly.

Saldanha: And one of the last things I want to ask you about is how you are looking at the global banks at this point. The Fed and the Bank of Canada seem to be raising rates, but the ECB and the Bank of England seem to be a little cooling off. So how are you reading the global situation right now.

Weniger: That’s one of the key things that Wisdomtree has been writing about, that I have been writing about, that my colleagues have been writing about essentially for the last six or 12 months. You mentioned the Bank of England, Brexit is a March 2019 deadline, is it going to be hard Brexit? Or a soft Brexit? Nobody knows. You don’t know, I don’t know. European Central Bank has kind of double edged sword in that it has to consider the Italian banking system's exposures to two factors. One: the Turkish debt which that hasn’t gone away. It's just there's been so many headlines that it's falling down the headline list. Then also the cost of writing down Italian sovereign bonds which have been selling off. Central banks that are at this point, call it a year from now, you could be 200, 300 basis points south of the Bank of Canada, and some of these other currencies, mainly the ones that you mentioned euro and sterling. And so that’s why its imperative to either think about doing some sort of variable hedge strategy like we have over Wisdomtree or an outright full on hedge European equities, hedge the whole gamut back to Canada.

Saldanha: Thank you so much for joining us with your perspective Jeff.

Weniger: Sure, absolutely.

Saldanha: From Morningstar I'm Ruth Saldanha.