TORONTO - Stock markets are likely in for more volatility and losses this week amid fears that the American housing market slump will cause a severe economic downturn.
After another losing week last week, investors' best hope for the short term is a positive holiday shopping season.
"I personally think the market is going to start shifting its focus on whether there has been a broader hit to the economy now,'' said Doug Porter, deputy chief economist at BMO Nesbitt Burns.
"So any signs that the kickoff to the holiday spending season, how it fared, will be critical for the market.''
In addition to housing-related damage to the U.S. economy and consumer worries, traders were anxious over crude oil tenaciously heading towards US$100 a barrel, a somewhat puzzling development when other commodities, notably base metals, have lost ground.
"That is a little bit of a curiosity -- that there is such a split between some of the economic-sensitive base metals and the oil market,'' said Porter.
"I suspect one is wrong, because there's nothing obvious going on in the supply front in oil to cause this big gap between the two.''
November has been a dismal month for Canadian and U.S. equity markets, which had largely recovered losses sustained in August and early September when the debt-market crisis provoked by the U.S. high-risk-mortgage collapse first surfaced.
But there have been billions of dollars worth of writedowns in securities related to the imploding American housing sector and the Toronto market has shed about nine per cent of its value since the end of October and the Dow about eight per cent.
As of Wednesday, the key S&P 500 index erased all its gains for the year.
"I think it's fair to say the mood among economists and among the financial markets has darkened just in the past couple of weeks,'' observed Porter.
"It's interesting, you know, because the labour market, which is key, hasn't buckled yet. And to me that would be the loudest warning bell, if we saw a distinct deterioration in the labour market.''
Although indexes lost ground on the week, markets finished on an up note Friday as some investors acted on a sense that the sharp downward move had left many stocks oversold.
"The optimists' case would be: the bad news has been priced in recent weeks and the U.S. economy may be able to hang on,'' said Porter.
"Despite all the gloom and doom ... it's not as though the consumer has thrown in the towel yet -- I guess that's the glass-is-half-full story.''
The Canadian dollar could also be in for more downward pressure.
The loonie hit all-time highs above 110 cent US earlier this month, but has since slid as officials have attempted to talk the currency down, hinting at interest rate cuts and warning of economic damage from a dollar that started the year just below 86 cents US.
Now, it's only about a cent above parity and it could slide below that level in the short term.
"It definitely appears the fever broke a couple of weeks ago for the currency,'' Porter said.
"It just got away from reality there for a few weeks and I think that little flight of fancy has been completely reversed.''
Prospects for Bank of Canada interest rate cuts are much greater than just a couple of weeks ago.
"With the renewed credit turmoil, it certainly seems like a real possibility, along with the fact that core inflation has dropped below the bank's two per cent target,'' said Porter.
He looks to the central bank to hold the line in December and start cutting in January, although "it's not unreasonable to call for a rate cut in December.''
Porter adds that financial markets have "all but assumed'' that the U.S. Federal Reserve will cut its rates again in December to limit damage from the housing downturn.
