Martin Pelletier: Adding some inflation protection into your portfolio will help protect against a weak Canadian dollar
The Canadian dollar is at only 79 cents U.S. Photo by REUTERS/Mark Blinch/File Photo Someone has been calling for the demise of the U.S. dollar as the world’s reserve currency for as long as I can remember, but it remains on top even as many dreadful events have come and gone — hopefully, we can say that about the one in Ukraine soon.
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This is because there really is no viable alternative to the security and safety of the almighty greenback and we don’t see one on the immediate horizon. At one time, it was potentially the euro, but time has proven that Europe has its own struggles thanks to some very misguided policies that led them to doing major energy deals with Russia of all places.
Now there’s bitcoin, a cryptocurrency with tremendous volatility and zero convenience, both of which could change, but it really isn’t that attractive compared to the U.S. dollar so far.
Meanwhile, the U.S. isn’t sitting idle and it is doing all the right things. It remains a real powerhouse and it has been a global leader in the digital transformation of its economy, with companies such as Apple Inc., Google LLC and Amazon.com Inc. leading the charge.
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For the longest time, the only time our dollar would get to par with the U.S. was during periods of rising oil prices, because our labour productivity and economic efficiency are much worse than those of our neighbour.
For example, the average American worker produces $66 of value per hour compared to just $50 of value per hour for the average Canadian worker, according to Our World in Data.
As a result, Canadians only make $54,000 on average, nearly 20 per cent less than their American counterparts who make approximately $67,000, according to an analysis by the Business Council of Alberta.
Yet despite WTI oil prices now trading near US$110 per barrel, our dollar is at only 79 cents U.S.
A large part of the reason for the loonie’s woeful performance recently comes down to domestic policies targeting the restriction of North American energy infrastructure, which has essentially put a cap on growth of both U.S. shale and Canadian oilsands.
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The U.S. has adapted and diversified via its technological focus while Canada has gone all in on non-producing asset growth via real estate speculation. At the same time, the Bank of Canada’s extremely low interest rate policy and a rapidly growing shadow banking system have resulted in debt-fuelled household spending and residential housing speculation becoming the largest contributor to our economic growth.
Household mortgage debt increased by a whopping $182.4 billion last year, boosting residential mortgages to $1.93 trillion in December, according to Statistics Canada. As a result, the average Canadian now owes $1.77 for every dollar they make, which is ranked in the worst quartile among Organisation for Economic Co-operation and Development countries. It’s also significantly higher than the $1.01 owed in the U.S.
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Fortunately, there are a number of ways Canadians can protect themselves from what appears to be a worsening situation.
Pay down debt. Now is a great time to begin deleveraging, even if it means reducing your housing exposure as interest rates and debt-servicing costs rise. We acknowledge this can be a very difficult thing to do given the monstrous momentum currently in the housing market.
Go west. You can’t blame a young person living in, say, the Greater Toronto Area from considering a move to the U.S., since they will pay less tax, get a boost in income and be able to buy their first home without help from mom and dad. For example, we’ve read Hamilton is now more expensive than San Jose, Calif.
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Article content That said, there are domestic options, since places such as Calgary also offer lower taxes, higher pay and, most importantly, affordable housing.
Diversify your portfolio. It isn’t uncommon for Canadians to have a huge home country bias when investing. However, we’ve taken a different approach: on average, we hold roughly 40 to 50 per cent of our portfolio investments outside of Canada and primarily in U.S. dollar-denominated assets.
Overall, we love the U.S. dollar, since it’s a great volatility hedge and keeps us nice and warm at night, especially during larger market corrections. It also provides an excellent hedge against some of the domestic political and economic risks developing in Canada.
Inflation protection. Finally, adding some inflation protection into your portfolio will help protect against a weak Canadian dollar. For example, did you know Canadian oil companies get paid in U.S. dollars while their cost structure is in Canadian dollars?
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Article content Also, for every one per cent jump in inflation, history has shown that oil prices rise eight to nine per cent. There are many other ways besides oil that can work as a good inflation hedge, which is a subject worth exploring with your adviser.
Martin Pelletier, CFA, is a senior portfolio manager at Wellington-Altus Private Counsel Inc, operating as TriVest Wealth Counsel, a private client and institutional investment firm specializing in discretionary risk-managed portfolios, investment audit/oversight and advanced tax, estate and wealth planning.
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