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How the forces driving Canadian stocks have changed

The unbelievably high long-term correlation between Canadian and emerging-market equities has broken down. Since the divergence can be interpreted as a sign of impending doom for Canadian stocks, we need to get to the bottom of the break in trend.

There are numerous reasons why Canada’s resource-rich equity market tracks emerging markets’ growth, among them the fact that those markets’ infrastructure development causes higher commodity demand in general. Even so, the ten-year correlation (r-squared of 0.92; a reading of 1.0 is what you get for identical lines) is stupefyingly high. Over the past six months, however, the domestic equity market has continued higher while the MSCI Emerging Markets index has faltered.