David Morrison is president and chief executive of Eight Capital, an independent Canadian investment bank.
When you’ve lived as many cycles as we have in institutional markets, you just see things differently. We look for patterns, so anomalies stand out. We are constantly examining the interconnectivity of markets and supply chains to predict what will happen when dominoes begin to fall.
That’s why when we started seeing the precursors of a 1990s-style recession nearly 18 months ago, even as the market remained one-way, we began to pivot accordingly. And it’s why we now believe the timing is right for things to get a lot worse for the real economy as opposed to the stock market, which is already at or near its bottom.
The coming recession will be trickier and deeper than most people have anticipated. But just as we pivoted against trends before, we are preparing for the tremendous opportunities that await Canada on the other side.
Being a contrarian in the market is unpopular. Pivoting against the trend takes tremendous discipline, but it earned us first-mover advantage on cannabis when Eight Capital had just been formed in 2016. We initiated a background pivot toward energy and mining more than a year ago, and it was unpopular at the time.
In this current geopolitical climate, it’s easy for observers to think our firm just benefitted from dramatic energy destabilization in Europe and increased demand for critical minerals and resources from allied democratic nations such as Canada. But the truth is, we did it anticipating a recession like the one in the 1990s, one that central banks will quickly reverse once the economy actually hits the ground, giving commodities their moment.
We remembered the restructuring of airlines in the early 2000s, and home builders post-2008. Oil and gas companies had a similar moment in 2020, causing them to change their approach to shareholder returns. That should mean more measured growth and better values. In a 90s-style recession, we could see higher lows and higher highs when economies recover. This could be followed by a market and economy that are more broad, differentiated and robust.
On the other side of such a recession, Canada is positioned to massively benefit from foreign direct investment as countries reposition their supply chains, especially in natural resources and sectors that require a high level of political security and trust, such as biosciences and tech. Governments should be preparing for those investments. Cut the red tape, streamline regulations and then get out of the way.
But our economy will only see these benefits from the recession if the downturn is enough to slow spending. Interest rates don’t affect economies for at least six months so predicting accurately and striking the right balance is incredibly difficult.
And getting there can be a slow trod if corporate leaders keep dragging their feet. We’ve seen a few high-profile corporate warnings of recession preparedness, but they haven’t been nearly urgent enough. In part, that’s because the labour market has been so tight. Companies are resisting necessary layoffs fearing they won’t be able to find talent later. We have seen this all before.
Canadian unemployment is still near the lowest it has been since recordkeeping began. It’s deeply unpopular to say it, but unemployment needs to tick up to bring inflation down. Striking the right employment balance would be difficult in normal times, but after two years of unprecedented government spending completely distorting economic expectations, it will be an even bigger challenge.
Added to this, Canada is grappling with an aging and retiring boomer population, creating even more vacancies, and applying more pressure on the health system, pushing labour-force dynamics into health care. This Gordian knot will contribute to making the real economy worse before it can get better.
There are two roads ahead. A short but deep recession that requires a short-term spike in unemployment like the 1990s, or a long but shallow recession like the 1970s, when the U.S. Fed gave into political pressures and failed to follow through on interest rates to slay the inflation dragon. The first path requires politicians to risk being unpopular and have the intestinal fortitude to stay out of the way.
We are into the part of the cycle where the real economy will begin to experience the pain. Seizing opportunities will maximize recovery. But the only way out is to get through the pain of this recession first. And it will, indeed, hurt.