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I wrote a column last week about an unsettling divergence between forward-looking manufacturing data and the performance of the S&P 500. Recent indications have only heightened concerns that U.S. equities might be running too hot.

Friday’s column noted that U.S. manufacturing new orders, a data set that in the past has been strongly correlated with S&P 500 returns, were continuing weaker while stock prices climbed. Market history suggests that either manufacturing activity had to improve or stocks had to fall.

Reports this week indicate that a broad recovery in the U.S. economy is not imminent. BMO senior economist Jay Hawkins highlighted the U.S. Conference Board’s Leading Economic Index was at -0.1 per cent for December (manufacturing new orders are one of the ten components that form the index). This is the 21st consecutive monthly decline and the 18th straight month of year-over-year declines. The index is sitting at levels consistent with a recession.

Also, Scotiabank strategist Hugo Ste-Marie published a report titled Downturn not over yet detailing how early indications of global manufacturing activity are coming in weaker than expected. European manufacturing PMIs remained at sub-50 levels indicating contracting activity. In the U.S., regional indications imply a continuing downturn and a final national result on manufacturing activity “potentially falling back near its 2023 lows.” (New manufacturing PMI data, including new orders, will be released on February 1st).

Investors may wonder why markets are concerned with manufacturing activity for a U.S. economy that is dominated by services industries. The answer is that manufacturing data is more sensitive to changes in the economic cycle, an important attribute when forecasters continue to debate the likelihood of a recession.

The pandemic may form an investment caveat which explains the disconnect between stock prices and economic data. During lockdowns, most services were unavailable and manufactured goods could be purchased. It is possible that demand for goods was pulled forward, causing weakness now, while pent-up services spending supports GDP growth.

Nonetheless, it is rare that U.S. manufacturing data and stock prices move in opposite directions for long. Investors should pay attention to the data on Feb. 1 (available online at the Institute for Supply Management website) for clues on how the recent divergence closes - whether manufacturing data recovers, stocks fall, or some combination of the two.

-- Scott Barlow, Globe and Mail market strategist

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The Rundown

TD Bank’s head of asset allocation on how to position portfolios for 2024

To get a sense on where markets may be headed, Jennifer Dowty speaks with Michael Craig, head of asset allocation at TD Asset Management. He thinks both stocks and bonds are positioned for some good returns, especially in the U.S.

PIMCO economist says Canada in ‘stealth recession’, sees fixed income this year offering equity-like returns

PIMCO economist Tiffany Wilding also spoke with Jennifer about her thoughts on the market and portfolio positioning. She expects rate cuts to begin in Canada at mid-year.

What another Trump term could mean for markets

Former President Donald Trump may well have created a chaotic environment within his administration, but there is no doubt that his four years in the White House juiced up investors’ “animal spirits.” What’s ahead should he win another term? Economist David Rosenberg has some thoughts.

Low-volatility ETFs are a useful option for cautious investors. Here’s one to consider

The stock market offers good profit potential, but many investors worry about the risk. They hear stories about market crashes, such as we experienced in 2022, and they fear having their life savings wiped out. The financial industry, which is always sensitive to investor emotions, has come up with a product designed specifically for these nervous folks. They’re called low- or minimum-volatility funds, and they’re structured to reduce the chances of heavy losses when markets tank. Gordon Pape outlines a favourite.

The TFSA dilemma: Tax shelter your dividends or your growth?

RBC senior investment adviser Nancy Woods thinks some investors are missing out on growth in their tax-free investment accounts by ruling out U.S. dividend stock holdings.

Investors temper U.S. rate cut bets as Fed meeting looms

A strong U.S. economy and pushback from central bank officials is leading some investors to rethink their bets on how quickly the Federal Reserve will cut rates this year, a shift that is rippling through Treasury and foreign exchange markets even as stocks sit near record highs.

Also see: How economists and market bets for future rate cuts are reacting to Wednesday’s BoC decision

Investors give up futile wait for China to fix economy

From hope to hesitancy and now total capitulation, global investors in China are heading for the exits in the world’s second-biggest economy and sending its stock market crashing.

Will bitcoin behave better on Wall Street?

Bitcoin celebrated its 15th birthday this month by bursting onto Wall Street with an ebullient bang. Now the adolescent asset may have to grow up fast.

Others (for subscribers)

Analysts’ forecast returns, recommendations and yields for all stocks in the TSX

Wednesday’s analyst upgrades and downgrades

Tuesday’s analyst upgrades and downgrades

Here’s what commodity prices have been up to of late

Globe Advisor

What could go wrong in financial markets in 2024?

Six strategies for choosing between investing or paying down debt

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Ask Globe Investor

Question: I don’t understand the recent ‘special distribution’ by Canadian Apartment Properties Real Estate Investment Trust (CAR-UN-T). The distribution was supposed to be paid in additional units at the end of December, but the number of units I own hasn’t changed. Did CAP REIT or my broker drop the ball?

Answer: Nobody dropped the ball. This is what’s known as a reinvested – or “phantom” – distribution, so named because no cash changes hands and the number of units doesn’t change, either. Many investors are understandably puzzled by these distributions, but it’s important to understand how they work so you don’t end up paying more tax than necessary down the road.

Phantom distributions typically consist of capital gains that a REIT – or, more commonly, an exchange-traded fund – realized during the year and reinvested internally. The purpose of the year-end distribution is simply to push the capital gains tax liability into the hands of the unitholder. That’s all.

In CAP REIT’s case, the non-cash distribution of 49 cents per unit represented a portion of the capital gains it triggered in 2023 by selling certain older, non-core properties. Those capital gains, combined with CAP REIT’s increased operating income, created a situation in which the REIT’s taxable income for the year exceeded the total value of its regular monthly distributions. So the REIT “distributed” the excess to unitholders, but only on paper, for tax purposes.

Let’s be clear: This wasn’t some underhanded trick by CAP REIT to avoid paying tax. “It is a requirement that the REIT itself has to distribute all taxable income to its unitholders under the declaration of trust,” Stephen Co, CAP REIT’s chief financial officer, explained in an interview. It’s not just CAP REIT; all REITs are supposed to distribute their taxable income, although in some rare cases that doesn’t happen and the REIT may face a tax hit.

But if no cash changes hands, how exactly does a REIT distribute a capital gain?

Initially, CAP REIT did distribute – at least in theory – additional units to investors in an amount equivalent to the value of the special distribution. Immediately thereafter, however, it consolidated the total number of units outstanding such that investors held the same number of units, with the same total value, as before the distribution. The only thing that changed was that unitholders would now be responsible for paying capital gains tax on the distributed amount.

It’s not necessary to understand the mechanics. But if you’re investing in a non-registered account, you will need to add the value of the distribution to the adjusted cost base of your units. By raising your ACB, you’ll report a lower capital gain, or a higher capital loss, when you ultimately sell your units, reflecting the fact that you already paid tax on the reinvested distribution.

If you don’t raise your ACB, you’ll effectively end up paying tax on the phantom distribution twice – once now, and a second time when you sell.

With tax season approaching, I recommend that investors holding REITs or ETFs in a non-registered account check to see if any of their securities has declared a reinvested distribution for 2023. You can find this information in the table of “distribution characteristics” published on ETF company websites. Your broker might make the ACB adjustment for you, but if not, you’ll want to update your ACB accordingly.

--John Heinzl (E-mail your questions to

What’s up in the days ahead

Should every Canadian investor hold railway stocks? If past performance is any indication, the answer may be yes. Tim Shufelt will report.

Click here to see the Globe Investor earnings and economic news calendar.

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