It wasn’t a surprise when the Bank of Canada (BoC) cut the policy interest rate by 0.25% yesterday, bringing it down to 2.5%. This marks the eighth reduction since the 5% peak in April 2024, as the central bank continues to take a cautious stance in response to economic contraction and weak job numbers in the second quarter. Economists expect another cut of 0.25% in October or December, according to Reuters.
While this move was largely anticipated, investors may be wondering: What does this actually mean for Canadian markets — and my portfolio?
The bullish case: Why lower rates lift stocks
In a textbook response, lower interest rates make it cheaper for consumers and businesses to borrow, which can boost both spending and corporate profits. That’s a tailwind for the stock market — especially for interest-rate-sensitive sectors like utilities, REITs (real estate investment trusts), and energy pipelines.
These sectors tend to outperform during periods of declining rates because their steady cash flows and high dividend yields become more attractive compared to lower-yielding bonds. As capital flows away from fixed income in search of better returns, these equity sectors often benefit.
And they already have.
The rally has already begun
Although yesterday’s cut grabbed headlines, much of the market’s reaction to lower rates has already played out since the BoC’s first 0.25% cut back on June 5, 2024. Take a look at how interest-rate sensitive Canadian exchange traded funds (ETFs) have performed since then — including both price gains and total returns (which include dividends):
- iShares S&P/TSX Capped Utilities Index ETF (TSX:XUT):
17% price gain/23% total return - BMO Equal Weight REITs Index ETF (TSX:ZRE):
12% price gain/20% total return - Global X Equal Weight Canadian Pipelines Index ETF (TSX:PPLN):
11% price gain/17% total return
These gains are substantial, especially when compared to the 10-year annual return of about 11% from the broader Canadian market (as represented by the iShares S&P/TSX 60 Index ETF (TSX:XIU)). This suggests that many of the benefits from rate cuts may have already been priced in.
So where does that leave investors now?
Valuations, discipline, and diversification still matter
Despite the tailwinds from rate cuts, investors shouldn’t throw caution to the wind. A falling interest rate environment doesn’t eliminate the risk of overpaying for stocks. As history shows, markets can turn unexpectedly — and quickly.
Many investors fall into the trap of buying high during euphoric rallies, only to sell low when sentiment turns. That’s why it’s crucial to stick to fundamentals, evaluate valuations, and maintain a long-term view.
Furthermore, ensure your portfolio remains diversified across cash, equities, and fixed income. For instance, U.S. dollar guaranteed investment certificates (GICs) may still offer attractive yields for conservative investors. As of now, a one-year Canadian GIC yields around 2.6% from the big banks, while a U.S. dollar GIC can offer around 4% — providing income without the volatility of equities.
The Foolish investor takeaway
The 0.25% rate cut to 2.5% is another signal that Canada is moving toward a looser monetary environment, but it’s not a game-changer on its own. Markets have already responded, and future moves may already be priced in.
For Canadian investors, the message is simple: Stay diversified, stay disciplined, and don’t chase the rally. Let your strategy — not headlines — drive your investing decisions.
