2022 brought us a seemingly unending climb in interest rates, with rates now more than double what they were a year ago. The Bank of Canada raised interest rates by a further 25 basis points recently, bringing the current rate to 4.5%.

RBC expects the Bank of Canada to hold its rate stable throughout 2023 before cutting 50 basis points in the first quarter of 2024. Desjardins economists are more optimistic, forecasting the Bank of Canada to cut rates to 4% by the end of 2023, and to 2.25% by the end of 2024. Either way, neither is forecasting a rapid near term decline in rates.

Montfort’s Predictions

Montfort predicts that the worst is over for interest rate hikes, at least for the time being. However, inflation has proven to be sticky in past cycles and there is generally a lag of several quarters in the economy before the effects of interest rate changes are reflected in significantly lower inflation rates. After the experience of the 1970’s, central banks are reluctant to cut rates too quickly, and risk re-igniting inflation.

We predict that the BoC rate will be sustained at a modest level (by historical standards) of 4-5% over the next year.

 

Impact of Today’s Interest Rate Environment

When business loan interest rates increase, it can feel like another tax on the business. Interest payments come directly from cash flow, so profit growth takes a hit as cash is redirected to service the existing debt. In this environment, many businesses will reduce forecasts, cut costs through layoffs and other spending cuts, and generally settle for slower growth than planned.

However, slower growth does not mean recession. Overall unemployment rates are still low which lessens the fear of a recession. Unemployment is 5% in Canada compared to the historic low of 4.9% and 3.5% in the U.S., the lowest rate in over 50 years.

It should be noted that while the technology sector is currently reporting significant newsworthy layoffs, it is not representative of the entire market. The technology sector is guilty of overhiring for growth during the pandemic and is currently undergoing a normal correction.

TIMIA Capital — a company within the Montfort group that provides flexible growth capital to companies in the technology sector — noted its portfolio companies have seen slower growth in the past few quarters, but the basket of companies has continued to grow.

On the consumer side, higher interest rates create pressure to clean up personal balance sheets, so we expect less discretionary spending and a slowdown in the retail sector. Canada and the U.S. remain among the top countries in the world to live in, and have ambitious immigration targets, so we expect immigrant household formation will keep housing demand high.

 

Opportunity for Private Credit Investors

With interest rates expected to remain at modest levels over the next 12 months and with continuing growth, there remains demand for credit.

Public credit markets and banks are restricting access to credit, thereby allowing private credit managers with access to risk-appropriate capital to fill the credit void. These managers have gained the ability to take market share from banks, credit unions, public market credit providers, and to some extent, venture capitalists and private equity firms.

The private credit space anticipates strong demand in the next 12-24 months as private credit managers deploy much-needed capital to sustain the economy and drive growth. As a result, private credit offers a lot of opportunities for investors to earn attractive returns during that time.

To find out more about private credit, please speak to your financial advisor or visit Montfort.com. For investors interested in our yield-generating opportunities, please contact Matthew Priebe [email protected]