In a new report, HSBC Investments (Canada) Ltd. says it expects the Bank of Canada to raise rates a total of 50 basis points over the next year.

The report says commodity prices have been an overwhelming influence on markets. “Poor prospects in the developed world have prompted investors to look elsewhere for returns,” it says, noting that emerging markets have benefited most. ”High commodity prices tend to depress profit margins, accelerating the migration of production towards low cost countries. This is one of the reasons for expecting modest returns from traditional markets.”

On the rate front, it notes that bond yields have risen during the recent oil spike. “This reflects the risk that the US Federal Reserve will eventually have to raise interest rate more quickly in response to higher commodity prices.”

However, it adds that below-potential growth in Canada during the second half of 2004 “would suggest further delay in closing the output gap. This should keep inflation well contained despite an expected rebound in growth. We believe that the Bank of Canada will raise rates a total of 50 basis points over the next year.”

“Although the global economy appears to be slowing slightly, most equity markets still appear attractive from a bottom-up perspective,” HSBC suggests. “Corporate profits and cash flows are supportive and valuations are not excessive. Merger and acquisition activity should continue to give the market an occasional boost as companies look to divert improved cash flows away from paying down debt.”

“We expect further gains from the equity market, although we may see a further pause for consolidation after the strong run in late 2004 and early 2005,” it explains. “High oil prices are likely to hold back market gains in the short term and we suspect that speculation plays a part in recent gains. Despite recent reports suggesting US$100-plus oil, long-term futures suggest that an oil price in the mid-$40s will be in place at the end of the decade. The market will also be influenced by Fed moves, as well as oil prices, particularly if Wall Street reacts badly to more aggressive interest rate hikes.”

‘Another short-term negative is a renewed focus on risk. Following the GM profit warning, spreads on riskier assets have widened and any further increase in risk aversion is likely to have a negative effect on the market,” it concludes. “In this environment, we maintain a stock-specific focus, with few country or sector themes.”