It's on everyone's mind. Inflation and interest rates and what's gonna happen next?! Josh and Colin share what we are (and are not) absolutely sure will (or will not) happen in the next 24 months, and does any of it even matter? What's an investable decision, and what's just a bit more noise in our daily lives? Tune in to find out.
Slip into something more comfortable and delve into personal finance with Josh Sheluk and Colin White, experienced portfolio managers at Verecan Capital Management. Each episode demystifies complex financial topics, stripping them to their bare essentials. From investment strategies and financial planning to economic headlines and philanthropic giving, delivered with a blend of insight, transparency, and a touch of humour. Perfect for anyone looking to understand and navigate their financial future with confidence. Subscribe now to stay informed, empowered, and entertained.
Verecan Capital Management Inc. is registered as a Portfolio Manager in all provinces in Canada except Manitoba.
Announcer:
You are about to get lucky with the Barenaked Money Podcast, the show that gives you the naked truth about personal finance with your hosts, Josh Sheluk and Colin White, portfolio managers with WLWP Wealth Planners, IA Private Wealth.
Colin White:
Welcome to the next edition of Bear Naked Money, where we get bare-naked and talk about money. Maybe not. Fully clothed, so is Josh, just in case you're wondering.
Josh Sheluk:
We start fully clothed. We might not be fully clothed by the end of this. We're not sure. It's a Friday afternoon so we can spice it up a little bit.
Colin White:
Well, I mean, it's going to be spicy because we're going to talk about inflation because it seems to be what everybody wants to talk about and there's quite a bit to talk about. So I can't wait to hear Josh put these questions to me and figure out what I come up with after he ask me a questions on. So Josh, where do you want to take us on this inflationary journey?
Josh Sheluk:
Well, as we do, we like to challenge the conventional wisdom or maybe the most popular narrative. So I put together a few questions that are we sure type questions, and I'm going to pose them to you that way because I want us to think a little bit critically about some of the things we may take as a given, specifically as it relates to inflation. Because I think there right now there's a specific train of thought that I think is out there that paints a really nice picture for how this is going to play out over the next little while, and nothing is ever that clean. So well, I think it's up to us to throw a little bit of chaos into this.
Colin White:
Well, we like a neat picture. We like a picture that has a beginning, a middle, and an end. It has a hero and a protagonist and all of the different characters that you need. We need a complete story, Josh. You're going to disrupt this complete story, this wonderful Picasso of a narrative. You're going to throw water on it. Is that what you're going to do?
Josh Sheluk:
I'm just going to ask questions if the story gets destroyed along the way, that's not my fault. I'm just the question asker here.
Colin White:
Okay, fair enough. Have at it.
Josh Sheluk:
All right. Well, I'm going to start with this one, and I know it's a leading question for you, Colin, but are we sure inflation is measured correctly?
Colin White:
Well, and I didn't want to do this right at the beginning because I'm sure pretty much nothing. So I guess all these is going to be No, but I think it's important to dig into this topic a little bit because the inflation gets thrown around in this homogeneous thing. It's just inflation and it obviously it's measurable, but as with most things, there's [inaudible 00:02:53] on that because to decide at any moment in time how much things have gone up in price. So a whole bunch of assumptions that have to be made and there's a lag on what information is available instantly. What are you comparing against?
Again, you go back 50 years ago there were probably less computers in the basket of goods than we're considering than there is today. So there's a whole bunch of assumptions that have to be made leading to that final point. So correctly, when you say something's being measured correctly, you mean? Well, what do you mean by correctly, accurately? That's one way to interpret it is it being measured accurately? Again, given a timeline and making some assumptions, maybe you could argue that it is, but it really depends on the purpose. There's different uses for inflationary data. Are you talking about adjusting something going forward and using it in a predictive fashion? Are you looking at adjusting for something that's already occurred in a backward looking fashion? Yeah, so I am sure it's measured correctly for something. How's that?
Josh Sheluk:
Very vague, but good. I started-
Colin White:
I was going for definitive.
Josh Sheluk:
Yeah. Well, I started thinking about this for a couple reasons. Well, one, because we know that these changes to the way that inflation is measured have occurred over time. So they, they've changed the way that even the basic way that we measure CPI has changed over time. And as we've talked about on this podcast over the last year, we've changed the way that inflation is presented, maybe not the way that it's measured, but now they're talking about core inflation, X shelter is the last thing that we're hearing. So it's like the core inflation is not core enough. They need to make it more core. So what's more core than core? While we got to strip out other things, because the core inflation is designed to, you strip out energy prices and food prices because they tend to be volatile and it makes some sense to strip those things out.
But when shelter's volatile too well then you just strip shelter out because that's more core Now. Well, car prices are volatile too, so maybe you should strip cars out and everything seems to be volatile right now, so maybe you should just strip everything out and then you don't have any measure of inflation at all. The other thing that got me thinking about this was most recently in the US we've reported a year over year. So over the last 12 months, inflation is roughly 6%, a bit over 6%, but on a month-over-month basis. Since last month, inflation is actually negative. So prices are actually going down in aggregate. So I started thinking about what is the correct measure of inflation? What matters more for decision-making and... Is it more relevant to me that prices are down over the last month or is it more relevant that prices are up over the last year and how do we make decisions with that?
Colin White:
Well, I don't think any of this is relevant on an individual basis because individually your inflation rate may be up or down. So again, it was funny because I went to a conference one time and I was sitting beside somebody and we're talking about inflation and he was very dismissive and he goes, look, I go to the store and broccoli's too expensive. I'll buy cauliflower that's too expensive. I'll buy a bag of carrots. People adjust. Oh, there's substitution. So this basket that they're trying to measure. Look, if you stand back at 30,000 feet, the idea of measuring how much things are going up has a lot of appeal, but at the end of the day, it's a mathematical formula. Now, like you said, Josh, they throw away all the volatile stuff, it makes for messy mathematical modeling. So they're holding the mathematical modeling out is that this has to be clean and neat rather than it has to be useful.
I mean, the world is a messy place. Just because you can't put that in a really good model doesn't mean that it doesn't exist. Your model can be and shouldn't be messy. Numbers are not things, they're symbols that represent things. The answer to a mathematical equation is not an answer to anything. They're overstating the value here. They've taken a really, really important thing that we need to plan for and we need to internalize things are going to get more expensive over my lifetime and that matters. They've taken that and they've drilled it into and turned it into something that is so abstract and used for so many different things and there's so many competing needs. So there's parts of the government and the main system that are going to want to lower inflation rate because it indexes the cost of a whole bunch of things.
Now, there's other people that are going to want to hire inflation rate because they're going to go negotiate their wages and things of that nature. So you have these competing large groups, large constituent pieces that have a conflict as to what they want the answer to be. And then they build a model saying that this is why we have the assumptions we made, and this is where it's led us. Because they have a bias, doesn't make their answer wrong, it just makes you look at a little bit closer. So they've taken something that's a fairly basic thing that everybody needs to pay attention to and tried to.... And in many instances, I feel made it way too precise and in doing so, it's lost the meaning a little bit.
Josh Sheluk:
Between now and six months from now, will we have persistent deflation? Change the question a little bit because we one month the data could happen at any time.
Colin White:
And wait for it. They could go back and revise the information they just released six months from now, there's also a thing.
Josh Sheluk:
Let's leave that out of the question for now.
Colin White:
No, I don't think it's under the question. I think that there's still the underlying, and I still see it. I see real world examples of supply chain issues. We've moved away from that and are largely commenting on this as a monetary issue now, and maybe that's accurate, but I don't think that the supply chain issues are completely a non-factor. So yeah, as long as that's working out, there is something that could resurface at some point. And there's such a lag. So I mean there's been the news out of China with lockdowns and stuff, and then the release of the lockdowns and the flow of goods and stuff like that. There's such a lag on all these things. So as when it actually shows up in the number that happens to be measured, I don't know, is that going to happen in the next six months? Is this going to happen a year from now or did it happen last month? It's almost impossible to tell.
Josh Sheluk:
Yeah, there's an article yesterday that got me thinking about this more that we've seen deflation over the very, very short term on durable goods. So your car, your refrigerator, your sofa, things like that. Big, big ticket purchases. And the rationale that they led to is, it's a little bit unclear exactly what's leading to this, but supply chains have mostly fixed themselves mostly, I will say mostly. And people are starting to get a little bit more reluctant to make these big ticket purchases as the economy slows down a little bit, interest rates go up, it's harder to make some of these purchases, a lot of them which are purchased on credit. So I still don't think in aggregate we're going to have deflation over the next six months, but it's definitely a possibility I think.
Colin White:
Well, yeah, exactly. And again, I think the fact we've already seen it for eight months, let's sit back because things went up. If you go back a year, the meteoric increase in things was very substantial and for some of that has unwound, so could have unwind a little bit more to the extent that it reflects in an actual core/noncore or [inaudible 00:11:03] shelter or [inaudible 00:11:05] CPI index or some description. Somewhere in there you could see. I can't see us having a persistent deflation over six-month period, but see a crop up more than once over the next six months in various sectors. Yeah, it wouldn't surprise me to see that for sure.
Josh Sheluk:
Yeah. All right. My next two are related but kind of opposite in some ways, sort of contradictory. Are we sure the Bank of Canada will continue hiking interest rates from here?
Colin White:
Sure is always a strong word, so I'm just going to throw that away. I think the Bank of Canada has signaled an enthusiasm that I haven't really seen from central monetary people in a long time. So I think it's probably more likely that it was a 50/50 shot they're going to raise rates. I think there's a little more enthusiasm there and I think they have a little bit more backing from key constituents that would lead in favor of that, which I think is setting us up for maybe an overshoot. But yeah, I would suspect that we are going to continue to see rate increases because there's also some shame in that they missed this. So they want to really, really, really make sure that that mouse in the bed is dead. So they're going to beat it, beat it, beat it until they're sure it's dead.
Josh Sheluk:
We're going to burn the room down.
Colin White:
If it calls for it.
Josh Sheluk:
And yes, if I ask this because, and again we'll repeat this as we go through the second question, but central banks are notoriously bad predictors of where interest rates are going to end up. Now I would be mildly shocked, I would say if we didn't see another interest rate increase from the Bank of Canada. But it's not completely out of the question. Maybe they throw us curve ball. Maybe they're looking at some data like these short term deflationary forces that say we can pause for a month.
And maybe they're worried about how high interest rates have run on some of the very high debt that we have here in Canada and they decide we better not keep pushing until we break. We better let things play out a little bit to see. It's not completely out of the question for me. Would I be mildly shocked? Yes, but it's not completely out of the question. And then if you start to see some economic weakness after pausing for one rate hike cycle, I could see... It's not a 0% chance that we've seen the last rate hike for this time around. I wouldn't put my money on it, but give me high enough odds I might dabble a little bit.
Colin White:
No, you wouldn't. You're not that guy. No. I think that the challenge for [inaudible 00:13:50] Canada also is that it's a momentum thing. It's like you're driving an oil tanker and it takes a long time when you change the thrust for the direction to change. And they may already have math that says, uh-oh, we're going to hit short, but cause any change they make now takes months to show up.
Josh Sheluk:
Yeah, well I think the reason they're not likely to pause right now is because they've created this narrative that they have to keep going so they lose a little bit of face if they pivoted this quickly just on a dime. And that's why I think I'd be mildly shocked. Anyway, my next related question, are we sure that the Bank of Canada will decrease interest rates over the next 12 to 24 months? And I say that because if you look at future interest rates, longer term interest rates, longer term GIC rates and the expectations by the market, it's very, very clear that the expectation is for them to decrease over the next 12 to 24 months.
Colin White:
Yeah, and that goes back to my comment about overshooting, which is not uncommon. I think that it'd be difficult to find a whole lot of periods where you could look back and say they hit it bang on, because typically they're a little bit late to the game, they get late to the game and then they get a little over enthusiastic and they gets to a point it's like, well, we need to nudge in the other direction a little bit at some point. And Josh, you bring up a good point. I mean, debt is a thing. So you're going to have major institutions and governments and individuals. These increased interest costs are a big thing that may start having an outsized impact, a need to be remedied to some degree. And you know what, for all of the flaws of the market, the expectations of the market are not without merit.
I think there's a lot of people with a lot of resources behaving in a way that this is the expectation. So when market behavior lines up like this, you kind of go and sometimes wishing [inaudible 00:15:53]. So this could influence what the banks end up doing. No, it wouldn't surprise me. If you give me 24 months, I wouldn't say sure, but I'd say it's very likely at some point in the next 24 months, you'll see not a major reversal, but at least a minor little tweaks like, oops, we missed this by a bit. But I also like the fact that this is now a thing because for a long period of time leading up to these interest rate increases, they had no bullets in the gun. There was really nothing they could do to provide stimulus. Right?
Josh Sheluk:
There's zero.
Colin White:
Yeah, yeah, exactly. So now they put some bullets back in the gun. So now it is an option, it's something that could happen in the field. We could actually see them provide some stimulus in a more normal expected way. So sure's not the word I'd use. Likely, maybe. Yeah, likely, maybe.
Josh Sheluk:
Okay. So let me paint a picture for you where we don't have interest rate decreases over the next 12 months or 24 months. Inflation stays a little bit higher than we expect. Maybe wage inflation and unemployment. They just come off their highs and respective highs and lows just a little bit. And you kind of coast into the soft landing thing that we've been hearing about so much. Might be a little bit of a Goldilocks type of fairytale, but we coast in this soft landing within the next 12 months, economy's doing okay on solid footing and we don't have any big catastrophes. Is there a situation there where the Bank of Canada doesn't see the need to cut interest rates and maybe we even tick up a little bit higher than we would've expected?
Colin White:
Yep, they may accidentally get it right.
Josh Sheluk:
That's true. Yeah. We're not counting on it, but they might.
Colin White:
Yeah. Well that's the challenge. Like I said, there's such a long lag between action and reaction pad and there's so many other forces at play. I mean really heavily focusing on the central bank setting rates, but there's so many other forces at play that are moving things around the chess board. It's very difficult. React and cause, nice and close together.
Josh Sheluk:
So I have one more question, and this might be the scariest question for me, but are we sure long-term inflation, we'll get back to the 2% trend?
Colin White:
I'm going to say yes. I'm going to say yes I am sure because I saw the fire in Tiff Macklem's eyes that day. He made the presentation here and I said, wow, I've never seen a central banker so wound up, ready to fall in his sword. I guess what could get in the way is if he loses his job, but I'm not sure when these guys go to school, whether there's a whole satanic ritual over beating inflation. But boy, there's not a whole lot of room to disagree with having an inflation target because that seems to be the whole game and how everybody's trained to what everybody's expectations are. Then he signaled a willingness to burn it all down just to watch it burn.
So yeah, I think that getting back to that 2%, well we were playing around numbers that time Josh and I found that interesting that you only have to go back over 12 years and we are at a 2% average, maybe 13 years now. Right. So you did a plan 13 years ago. Yeah, this what's happened in the last year just got you back to the normal 2%. You were pro projecting anyways, so yeah, no, we're going to get back. I can't say for sure it's going to be this year, but they're going to stay on the path and they got us there.
Josh Sheluk:
Yeah. Did you ask Liam if he went through the Satanic ritual at his master's program?
Colin White:
Well, I saw the classrooms, right out of the fifties, so I'm pretty sure they stopped at advancing the theories that they looked at sometime in the fifties.
Josh Sheluk:
And then for listeners, Liam is Colin's son, who just has almost completed his masters from what I understand.
Colin White:
I hope he hears this.
Josh Sheluk:
Master's in economics.
Colin White:
I hope he hears this.
Josh Sheluk:
So here I'm going to again paint a picture for you where inflation stays elevated over, well, we'll call it five to 10 years, maybe I'll call that long term. So there's a few trends that have really been enforced over the last really multiple decades that I think have supported lower inflation than what we had experienced prior to that. A big one for me is de-globalization coming with the expectation that de-globalization follows from here. So globalization, exporting, importing, bringing in cheaper goods from abroad has been a massive force driving inflation lower for multiple decades. It's been a long, long time coming. And we're at a point now where it seems like western economies are pivoting a little bit and you hear COVID may have accelerated this, where we are kind of scrambling with the supply chain issues that we talked about earlier. And it seems like people are, and countries are starting to onshore some of the production and manufacturing and some of the services that they get overseas.
And the quote that I've heard thrown out there is instead of just in time manufacturing, we're going to just in case manufacturing and that's having a backup plan, but that comes with higher expenses and higher costs and those higher costs are necessarily going to get passed on to the end consumer. So driving up longer term inflation. Second reason why we might see higher, longer term inflation, both in Canada and the US, you've seen a bit more of a worker friendly government. We've had this, think of the 1% and bashing the 1% and Occupy Wall Street movement and all this stuff over the last 10 years. And I'm not saying that's a bad or a good thing, but what we've seen over the last multiple decades is that workers share of profits or income or GDP has gone down consistently over time.
And if you have a shift in the balance of power there, maybe you start to see a bit higher wage growth, which also leads to almost higher inflation because people have more money in their pocket, they're willing to pay for more things and drive up prices that way. The third aspect of this is mostly a US story, but over the last 15 or so years, there's been a massive de-leveraging in the US. In the real estate collapse in '07, '08 timeframe in the US, consumers were massively over levered. They had way too much debt and they basically spent the last decade plus unwinding all of that excess debt. So they're at a point today they couldn't spend over the last 15 years, so to speak. Today, they have much more capacity to borrow and spend going forward. And you could see somewhat of a reversal of that trend over the next five to 10 years. Again, more leverage, more borrowing, more spending, higher prices. Thoughts?
Colin White:
Yeah, no, I think that deglobalization is a thing and I've made this comment before and yeah, [inaudible 00:23:33]. But I think it's the combination that we have seen, which has been truly spectacular from an Episcopal perspective has been the fact we had all these deflationary pressures allowed what would otherwise be very inflationary monetary policy to exist, right? So the monetary policy in a normal environment would've caused huge inflation, but it didn't. So I think we're at the nexus of going what we can't have with that accommodating monetary policy if the deflationary pressures aren't around.
You can't... Oops, we better go back to more normal monetary policy because we don't have this other undercurrent that's sweeping away all the bad aspects of things. So we could be just getting into a new balance and I think it's possible to keep it at the 2% based on having less accommodated monetary policy to overcome the things you're talking about. But it's messy. It's messy and it's time legs on it. And is it going to get out of balance significant enough or long enough that it's going to be materially different? Yeah, it absolutely could. But I do think that we're seeing these two things in concert monetary policies having to adjust because we're no longer having deflationary forces at work. Who knows how it ends?
Josh Sheluk:
So you had a big finish, big question to ask to wrap everything up.
Colin White:
All right, so I want to end this as completely unrehearsed for those who think we worked off script. Josh has no idea what's coming next. So Josh, we're going to play a game. I want you to pick any one of those questions and just don't tell me which one. Just pick any one of those questions. And I want you to pretend that the answer to that question is yes, we are sure. We are both 100% sure of whatever it is. And I want you to tell me what does that mean? What comes next? If one of those things is an absolutely... Or we're able to rig the gain and we knew this one variable with precision that was going to happen, where does it lead us? Does it lead us to the answer?
Josh Sheluk:
So that's a great question. So I can only pick one and I have the answer to it, right?
Colin White:
Yep. Anyone.
Josh Sheluk:
And is it just a yes or no answer or do I get the full-
Colin White:
You know that one issue. You know that one question with complete clarity, complete detail, all the timing. What can you do with that information? Does it tell you how the rest of the story unfolds?
Josh Sheluk:
No, it gives me a slight glimpse into the future, but it's like it's very blurry. It's like-
Colin White:
Why is it blurry? If you know the answer, why is the story blurry?
Josh Sheluk:
Yeah. Well, let me respond by giving it a real life example. If I told you in 2020, we were going to have a global pandemic and the entire planet was going to go home and not go to work for pretty much nine months of the year and we are going to have the worst recession in a hundred years and we are going to have the highest unemployment that we've had in a hundred years, what would you have predicted for stock markets for that year? There's no way you would've thought that stock markets would be up at the end of the year?
There's no way. No possible way. And so if you give me one of these answers to this question, I would say I'm like 60% to 70% sure I know what to do with the bond part of a client's portfolio. For example, are we sure the Bank Canada will decrease interest rates over the next 12 to 24 months? So if he told me that they're not going to decrease interest rates over the next 12 to 24 months with certainty, then I know that I probably don't want to load up on bonds, but I wouldn't have 0% in bonds. So there's not one answer there that gives me perfect clarity in the future. It's like staring through very frosted boggy glass.
Colin White:
Yeah. Because again, the Bank of Canada doesn't decrease rates, but that doesn't mean the yield curve doesn't move. That doesn't mean that the credit spread don't move. Now there's lots of other things that would influence my blog portfolio. So this is a long way around me getting to the point of this is for entertainment purposes only. There is nothing in here that you can at invest on because even if we got one of these things exactly right, it doesn't lead to, oh, well obviously in this situation this is what we have to do. It's important, and again, when we're managing client portfolios, we need to have an opinion on likelihoods of various outcomes.
But you'll never see us be a hundred percent confident on anything because there's so many, what's next? This happens and what's next? Even if you know what the next thing is, you don't know how that's going to knock on. And if you listen to a lot of the commentators, you can quickly get down a rabbit hole where it's like, well this is obviously going to happen and therefore this. Number one, you were sure the first thing. Number two, you use the word therefore and anything that comes after therefore is even more highly suspect. And I think that's the most valuable thing that you can internalize in your own head. You're you're giving yourself a much better a shot of not screwing things up on a grand scale.
Josh Sheluk:
Yeah. Well that was the whole point of this are we sure conversation. It was to... I think this is investible, actually. The are we sures, if we didn't prove it here, we're not sure. So the investible idea there is don't be sure and make sure that you're diversified and betting everything on one outcome because if you are, it's going to be a messy future for you. So that's the idea behind it.
Colin White:
Let's say you are sure. I'll give you that. You're still no further ahead.
Josh Sheluk:
Well, I'm pretty sure that we're going to go have a nice weekend now, Colin, how about you?
Colin White:
All guarantees. I'm sitting here in Halifax in the first snow of winter and it's the 20th of January, so I have nothing to complain about it. So I am going to go celebrate my weekend.
Josh Sheluk:
Enjoy the lower deck this weekend, my friend.
Colin White:
Yeah, thanks.
Announcer:
This information has been prepared by White Leblanc Wealth Planners, who is a portfolio manager for IA Private Wealth Opinions expressed in this podcast are those of the portfolio manager only and do not necessarily reflect those of IA Private Wealth Inc. IA Private Wealth Inc. is a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada. IA Private Wealth is a trademark and business name under which IA Private Wealth Inc. Operates.
Colin White:
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