CIO unpacks TSX outperformance relative to US markets, despite economic weakness

If relative outperformance holds for the rest of the year, 2025 will be the first time the TSX 60 outperformed the S&P 500, in a year when both indices were positive, since 2017. The remarkable positivity of the Canadian equity market is contrasted with a more bleak economic picture as tariffs introduce an overhang of uncertainty and at least one quarter of this year saw GDP decline. Robert Taylor unpacked why, despite those economic issues, Canada’s equity market looks strong now and potentially into the future.

Taylor is the Senior Vice President & Chief Investment Officer of Canoe Financial. He explained how the ongoing rate cutting cycle has helped investors see through the valley of troubling economic data. He explained which sectors have driven Canadian equity performance higher, which sectors have dragged, and why he remains constructive on Canadian stocks into the future.

“The markets tend to look through weaker economic data when you're in a rate-cutting cycle, anticipating kind of clearer skies ahead,” Taylor says. “I think the second point is when you look at the large index weights in TSX60, there's certain stock sectors that just did exceedingly well, and have really driven the overall index performance.”

Taylor explains that the vast majority of positive performance on the TSX can be ascribed to the financials sector, gold stocks, and Shopify. Gold companies were buoyed by both an incredibly positive run up in the price of gold and the subsequent influx of investor interest towards gold mining names on the TSX. Financials have also benefitted from the rate cutting cycle and steepening yield curve with respect to net interest margins. The overhang that banks might be too exposed to a weakening consumer was also lifted with banks reporting lower loan loss provisions than analysts anticipated.

Outside of those sectors, as well as the company-specific factors driving Shopify higher, Taylor notes that most of the TSX has underperformed. Transportation companies, especially the railways, did quite poorly so far this year. Many Canadian software names have been impacted by the expectation that generative AI might disrupt their core business models. Energy has seen relative underperformance, too, though Taylor remains constructive on Canadian energy as well as Canadian equities in general going forward.

Taylor’s view is that, relative to US stocks, Canada looks appealing. Because US growth has been so concentrated in mega-cap technology names, US broad-market indices now reflect that concentration. That makes those indices vulnerable to negative catalysts, especially around the AI theme that has driven much of this recent growth.

Canada, conversely, is not at such extreme levels of valuation or concentration into a particular theme or narrative. Moreover, Taylor sees a secular shift towards stickier inflation and higher resting interest rates that may suit Canada’s equity market makeup better than the US.

Energy is one of those areas where Taylor sees those secular shifts driving appreciation. He believes Canadian energy stocks are cheap at the moment while likely approaching or at the bottom of a commodity cycle. These companies tend to have strong balance sheets and trade at reasonable valuations with lots of free cash flow. In that sector, and some others in Canada, Taylor sees a wider opportunity to buy high quality companies at reasonable valuation. He notes that the Canadian equity market still offers lots of opportunity to buy companies like that and as money shifts towards more value oriented names over the next five years, those might offer upside potential for investors.

That is not to say this view is without risk. Taylor notes that the positive impact of a rate cutting cycle comes with the caveat that Canada still retains some economic resilience. Rate cuts in the context of a deep recession are not as warmly greeted by markets. He notes, too, that broad equity markets are at risk of complacency in the face of some very high valuations as well as more disruptive macro trends like deglobalization. Macro overhangs like rising debt to GDP ratios and shifts in the role of the US dollar could also derail equity markets, in Canada and around the world.

Despite those risks, Taylor remains constructive on Canadian equities. He notes the challenge that some advisors may have in presenting optimism about the Canadian market while pessimism about the economy remains an issue. He notes, however, that advisors can present a compelling case despite those overhangs.

“I think Canada should be part of a portfolio for longer-term investors. There's a number of stocks with very attractive valuations at the moment. And more importantly, it's not exposed to the expensive tech areas that the S&P is in the US,” Taylor says. “Effectively, being an index investor in the U.S., you are a tech investor and heavily exposed to AI. So, I do think it provides you some diversification benefits.”