With the oil market in freefall, household debt at all-time highs, and real estate prices prompting new warnings, betting against Canada is re-emerging as a trading trend for 2015.
The latest example comes courtesy of Bank of America Merrill Lynch, which named short-selling Canadian banks, and buying U.S. banks, as Number 2 on its list of top 15 trades for this year. BofA's chief investment strategist Michael Hartnett recommended the same pair trade in early 2013 as a play on relative valuations.
Chief among the Mr. Hartnett's reasons this time around is the crash in energy prices. With the energy sector accounting for 23 per cent of the market capitalization of the S&P/TSX composite index, compared to an 8-per-cent share of the U.S. market, Canada is much more vulnerable to the oil rout.
"More than 40 Canadian oil and gas rigs have been taken out of operation recently and the winding down of oil sands production is an added negative to a Canadian housing market already saddled with near-record levels of household leverage," he said.
"Contagion" from the energy market to real estate is already apparent in the 20-per-cent decline in Canadian property real estate investment trusts over the last two months, Mr. Hartnett said. "The stronger U.S. consumer will coincide with weaker Canadian energy production causing divergence in the two real estate markets." In a startling reversal of fortunes, Detroit's housing market should outperform Calgary's, the author said.
"This points to outperformance of U.S. financials versus Canadian financials."
The rest of the report's trading picks are informed by confidence in the U.S. economic recovery, which has achieved "escape velocity," the report said, as well as a boost to Asian and European economies by late spring as a result of lower currencies, lower rates and lower oil prices.
European energy stocks are trading at record lows against their U.S. peers, and should rally sharply once oil prices bottom out. "We believe investors should buy large-cap, defensive, high-dividend yielding energy stocks in Europe," Mr. Hartnett said.
Rounding out the top three is a recommendation to invest in solar stocks, which have been unusually punished over the last six months as oil has become cheaper, he said. "And yet solar competes with gas rather than oil and we believe renewables will remain a core investment."