TORONTO - Investors looking for an end-of-year rally to push the Toronto stock market past its highs for the year will likely be in for a disappointment in trading ahead of Christmas.
The TSX moved lower last week, leaving it about 450 points below the 11,878 high for the year set in early November.
The index is up about 28 per cent year to date, and more than 50 per cent from the lows of early March, but the rally has been looking stretched as investors look for a reason to send stocks higher in an environment many analysts call fairly-valued.
"When it comes to the markets... right now optimism and momentum have stalled," said Paul Vaillancourt, director of asset allocation at Franklin Templeton Managed Investment Solutions.
"The equity indexes have not broken through some highs - which is somewhat troublesome - volumes are quite low and I think there's probably not too much upside in the next month or two."
Another issue hobbling markets this week is the time of year with traders taking time off for the holiday season.
Also contributing to a cautious mood in the week ahead are the consequences of huge amounts of government debt taken on to stimulate economies out of recession.
Standard & Poor's last week lowered its outlook on Spain's debt rating to "negative" from "stable," reflecting "the risk of a downgrade within the next two years."
S&P had already cut Spain's rating from AAA to AA+ in January. Earlier in the week, rival Fitch had downgraded its rating on Greece.
And Moody's Investor Service also cut the ratings of six companies linked to the government in Dubai to junk status and said the U.S. and Britain are at risk of having their ratings downgraded if they don't get their finances under control.
"There's no doubt at this point that the fundamentals have stablized or improved - but those are the economic fundamentals," Vaillancourt said.
"Some of the financial scars are still healing (and) it is a reminder that there are still some skeletons in the closet and they will continue to emerge."
Vaillancourt thinks gains will be elusive well into January, until investors see the fourth-quarter earnings and fourth-quarter revenues in particular.
In its Financial System Review, the Bank of Canada said future earnings will have to be driven by revenue growth, as opposed to past quarters when results were driven by cost cutting. The bank added that equity markets could go into correction mode if earnings growth proves to be disappointing.
Investors will be focused this week on the U.S. Federal Reserve, which holds a two-day meeting on interest rates Tuesday and Wednesday.
The possibility of rates moving higher earlier than expected has also had a negative effect on markets this month, particularly after U.S. jobs data for November came much better than expected. The report raised speculation that signs of an improving economy would sway the Fed towards moving rates from almost zero before well into next year.
"But those concerns are premature," said Vaillancourt.
"Interest rates will probably remain on hold and the talk is going to be highlighting that and right now, deflation is the bigger concern over inflation at this stage."