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Global economic growth once again disappointed in 2015. This was largely due to the poor perfor- mance of emerging markets which appear to be entering a new and dangerous phase. Developed nations were not immune as they were also subject to wild swings in stock and bond prices, com- modity values and currencies. Looking forward however, the key factors that will dictate market returns are the U.S. Federal Reserve starting to raise interest rates, the acceleration of European growth, moderation in China’s expansion and the persistence of deflationary pressures.

Markets have been volatile as the global economy remains in a fragile state. The U.S. is distinctly different from most countries as it has seen decent growth over the past year. On the other hand, it is still a matter of taking a wait and see” approach to Europe as the uncertainty from the refu- gee crisis, the ongoing budget crises in Greece and Portugal, and the potential exit of the U.K. from the European Union will continue to befuddle the markets. Weak global trade and delayed reform implementations has caused erosion in emerging market fiscal dynamics, such that they are in their worst state in a decade. The collapse in commodity prices and the need for financial de-leveraging will dampen economic expansion in the short term. Longer term, the global equity bull market can continue to run, but the pace will be dependent upon the prospects for the global economy and corporate earnings.

Canada’s economy turned the corner from recession to growth in the third quarter after negative growth in the first half of 2015. The rebound was helped in part by a jump in exports and house- hold spending, which offset weak business investment. The worsening oil price slump continued to spell trouble for the energy sector and by extension the financial sector. To combat this situa- tion, the Bank of Canada cut their benchmark rate twice last year, with potentially more reduc- tions on the horizon.

Canada’s stock market has been among the worst performing in the world in 2015, down 8.3%, with investors selling everything from resource companies to the banks, which have had their first negative return since 2011. It underperformed U.S. stocks for the fifth consecutive year. Canada has been caught at the center of a commodity price storm and there are growing fears that eco- nomic growth from China to Europe is slowing at the same time as the prospect of rising U.S. in- terest rates all of which will further weaken the Canadian dollar. From a valuation perspective however, things are looking up as a bottoming process has started to occur.

Stock returns from around the world in Canadian dollar terms were robust but this was essentially due to the fact that the Canadian dollar declined 19% over the year which inflated performance substantially for other markets on a relative basis. U.S. stocks gained 20.7% (all returns are in Canadian dollars) and was the only major market to have positive returns in domestic currency terms. International stocks were up 19.0%, while emerging market equities did terribly, gaining of only 2.4% (including a calamitous 12.6% drop in Latin American stocks). The past year also saw the unwinding of the commodities super cycle as commodities suffered their worst year since 2008, dropping 26%; its fifth straight losing year. Canadian bonds posted surprising gains, appreciating 3.5% despite the ever present threat of increasing interest rates. Prognostications during volatile markets can be misleading, with the latest data release, report or tea leaf reading causing markets to seemingly fluctuate randomly and sending investors scurry- ing. However, the coming year is likely to be characterized by steady inflation, subdued global growth and differing monetary policy patterns around the globe. Any positive news for emerging markets, Europe or commodities would likely create a strong tailwind which could overcome the current malaise.

2015 has been one of the most tumultuous years for the Canadian market in recent history as it lagged its major global counterparts and returned a disappointing -8.3%, including dividends. After a mediocre start in the first quarter with no clear direction, the S&P TSX index ended the first half of the year flat. Performance has over that period could be explained by the weak econ- omy amid depressed energy and materials prices which ultimately culminated in a mild reces- sion during the first half of the year.

The third quarter appears to have marked an inflection point with a decent 2.3% growth in real gross domestic product (GDP), largely due to the very competitive Loonie which triggered a surge in exports. With that economic rebound the stock market roared back in October with a 2% gain. However it was short lived as GDP growth stalled in October and the economy lost 36,000 jobs in November. Weakness persisted in the last months of the year and the price of West Texas Intermediate (WTI), a benchmark for North American oil prices, fell to the $35 range with no bottom in sight.

There is no doubt that falling energy and commodity prices have created serious headwinds for the economy. According to many experts, it is difficult to foresee a short term rebound. Even the World Bank, in its recent forecast, has lowered 2016 global growth from the 3% range to 2.7%. That view holds for Canada as well with revised 2016 growth dropping from the 2% range to 1.8%. The persistence of slow growth across the globe and even recession in some major econ- omies (apart from the U.S.) is the pressing issue to tackle and is crucial to a turnaround for global markets. There have been calls from some analysts to short Canada. Contrary to that view, Canada looks to be “on sale”, as much of the negative news has already been discounted into valuations. This is a great opportunity for long term investors. Also the state of the economy is far from exhibiting a typical recessionary scenario as there are many pockets of resilience. For example, although the current unemployment rate is 7.1%, 2015 saw an increase of 158,000 new jobs; a 3 year high. Also, with almost no inflationary pressures to be seen the Bank of Cana- da is expected to accommodate ongoing low levels of short term interest rates, which is a very stimulative environment for the Canadian economy.

The Canadian FTSE TMX Universe Bond Index gained 1.0% in the fourth quarter of 2015 and was up 3.5% for the year. The gain was largely driven by a surprise cut in interest rates by the central bank. Over the course of 2015 the Bank of Canada lowered its target for the overnight rate by 1/4 of one percentage point on two occasions; first in January and again in July. The overnight rate now stands at 1/2 of one percent. In the U.S., the Federal Reserve increased its benchmark interest rate from record lows in December for the first time in seven years.

The Bank of Canada cited the sharp drop in oil prices as the reason for the 2015 rate cuts. In its December decision to leave the benchmark rate at 1/2 of one percent, the central bank cited the weaker Loonie and stronger U.S. growth as factors which will help the Canadian economy adjust to the huge shock from falling oil prices. However this will take time. A legacy of the falling Canadian dollar will be reflected in an eventual growth in exports in the non-resource sector. Looking back, at the end of 2001 oil prices were well under US$20 and steadily increased to over US$145 at the market peak in 2008. For much of the period between 2011 and 2014 the price of oil was able to stay above US$100. The Canadian dollar followed this trend, steadily rising to parity with the U.S. dollar and higher for a while. As a consequence a lot of Canadian manufacturers went out of business. The currency trend has reversed but it will take time for the Canadian economy to recover. In the past the Canadian economy usually followed the U.S. econ- omy fairly closely but this is one of the times where it has not, due to the significant changes that will be required to take advantage of the relatively robust outlook for the U.S.

In December the U.S. Federal Reserve raised its benchmark interest rate for the first time in close to a decade. The announcement of a 1/4 of one percentage point increase in the Fed funds target band came seven years to the day after the Fed lowered the rate from 1 percent to a range of zero to 0.25 percent. The increase was anticipated and it is expected that it will have little impact on the economy as forecasts of real gross domestic product (GDP) growth in 2016 are going up and another year of above potential growth is being penciled in for 2017.

Stephen Poloz, the Bank of Canada’s Governor, has noted that a dominant theme across the global economy has become “divergence”. The U.S. has begun to increase rates, which is a clear sign that its economy has recovered enough to begin the long process of returning to a higher interest rate structure. Much of the rest of the world however continues to struggle as central banks in Europe, England and Japan pursue economically stimulative policies. The Bank of Canada has no influence on oil prices but moved to cut interest rates to help stimulate the hard hit manufacturing sector. The falling currency also helps Canadian energy producers as they benefit from falling Canadian dollar denominated costs relative to selling U.S. dollar priced commodities. The central bank pointed out that a third, less desirable impact is that the price of imported goods rises for all Canadians, which spreads the impact across the country, rather than leaving the resource centered regions to take an even harder hit.

The Standard & Poor’s 500 index climbed 7.0% in U.S. dollar terms over the fourth quarter and in Canadian dollar terms the index gained 10.4%. For 2015 as a whole, the U.S. equity bench- mark gained a mere 1.4% in U.S. dollar terms but was ahead 20.7% in Canadian dollars as the Loonie weakened significantly over the course of 2015. While the U.S. market changed little over the year, the flat return belied a volatile period as stocks saw a 20% market correction at the end of the summer, which was recouped by late fall.

The U.S. economy grew at an annual rate of 2.0% between July and September as noted in the gross domestic product report released in December. Economic growth had slowed sharply from a 3.9% gain in the second quarter but at that time the economy was rebounding from a harsh winter that had slowed first quarter growth to an anemic 0.6% pace. Economists are forecasting that growth will accelerate to about 2.5% in the fourth quarter as a healthy labour market and falling fuel prices power stronger consumer spending. Business investment slowed to 3.4% in the third quarter, which was well down from the 5.2% rate in the second quarter as oil and gas exploration plunged at an annual rate of 47.1%. Residential investment grew 7.3% in the third quarter, down slightly from 9.2% in the second quarter.

Many investors believe that the strong equity market of the last few years was driven by the low interest rate policy. The bull market can stay intact but the pace is dependent upon how robust the economy remains and what that means for earnings. The U.S. is likely years away from a recession so stocks can keep moving higher over the intermediate term and a lack of alternative investments will continue to drive investors into the stock market .

In the near term many investors see declining corporate profits as a problem. U.S company earnings are falling for the first time since 2009, when the economy was reeling from the Great Recession. The main culprit is the plunging price of oil which has decimated earnings at big en- ergy companies. Earnings at energy companies dropped a whopping 59% in the third quarter, enough to drag overall profits for companies in the index down 0.8% from Q3 2014. This marks the first quarterly decline in six years but without the drag of energy companies, overall earnings would have been up. Earnings are expected to start growing again in 2016 partly because they won’t have to soar to look better than they did in 2015. Also the improving economy will help companies increase revenue but it is expected to be a long, drawn out process.

The mood among many investors has become so unsettled that even a minor improvement in the global economic outlook will be enough to shift sentiment and drive up security prices. Unfor- tunately, the underlying picture is still one of solid yet unspectacular expansion. It is going in the right direction, but it is hardly robust and appears completely disconnected across countries and regions.

The European economy as a whole grew in the third quarter, while unemployment has fallen to its lowest level in more than four years. These are good signs as Europe has been a perennial laggard since the 2008 financial crisis. With growth and inflation rates essentially stalled, the European Central Bank cut its key interest rates and promised to unveil even more stimulus measures in an attempt to boost lending and help growth. However there are many issues that will make any significant rebound in Europe quite onerous: the refugee and terrorist crises; the possibility that the U.K. leaves the union; Greece remains in solid crisis; the economic slowdown in China which soaks up a lot of European exports; and rising U.S. interest rates could trigger potential debt problems for numerous highly leveraged companies.

Japan’s economy sidestepped a recession last quarter and likely achieved positive growth overall for the year. The government is projecting the real domestic economic growth rate to accelerate and a pick-up of consumer inflation should occur in 2016. With exports and factory output re- maining weak and consumer spending sluggish, Japan’s central bank may have to deploy further monetary stimulus to maintain the turnaround. Meanwhile the downside risks (including a slow- down in China and other emerging Asian economies as well as spillover effects from the U.S. monetary policy’s normalization) could still spell trouble. China’s influence is growing. It accounts for more than 10% of global trade and remains the sin- gle biggest contributor to global growth. So when its economy sputters after years of double digit growth, investors scramble to assess the risk and frantically try to figure out what is going on. China’s economic growth dipped to 6.9% in the third quarter, sending ripples around the world. Chinese manufacturing has been stagnating for more than three years. Retail sales have been a rare bright spot. In a bid to avert a sharper economic slowdown, China’s central bank has already cut interest rates six times, but an even more aggressive policy could hold the key to stabilizing growth in the coming months.

After five years in retreat, emerging markets are showing signs of recovery as the U.S. and Euro- pean economies pick up. While last year was truly dreadful, there may be some relief in sight as assets appear to be bottoming out and are starting to find their footing. It is far too early to ex- pect a significant turnaround but the developing markets do look inexpensive by historical stand- ards although a rerun of the roaring 2000s is unlikely.

While stock prices in the fourth quarter were positive across the board, returns for the year unfor- tunately dipped slightly into negative territory. International equity gained 4.8% for the quarter (all in returns in U.S. dollars), led by rebounding Asian shares that climbed 6.3%, while emerging market equities just managed to eke out a 0.3% gain. European stocks recovered from their third quarter shellacking with a 2.2% increase.

Slowing economic growth and structural reforms in China are causing concern around the globe. On top of this the decade old commodity boom came crashing to an end in 2015. While many developed economies have regained a little of their swagger, the list of issues hampering the markets is still very long. Discounting the current malaise is ill advised, as volatility seems to come in waves and the best solution is to batten down the hatches and wait for blue skies.