Monday, May 31, 2010

Q1 GDP 6.1%-- Not enough for a Bank of Canada rate hike?

In early May (the 18th) I discussed Q1 GDP performance that was then estimated to be around 3.2%, but many economists anticipated that this was a misread, and that the actual number would be much higher – around 5.5%.  The actual headline number at 6.1% is 0.6% higher than most economists had expected then (and about 30 bps higher than the street expected last week).  This is a strong signal for the Bank of Canada to tightening and increase interest rates – in fact, the futures market has already priced in a 130 bps increase in interest rates.  Because interest rate increases are like potato chips – you never eat just one (analogy from David Rosenberg).  

Q4/2009 and Q1/2010 are the arguments for an increase in interest rates.  However, looking at a few other macro data points:

  • Canada’s current GDP is at the same level it was in Q1/2007.
  • Canada’s GDP is 2.5% lower today than it was 2 years ago
  • Manufacturing export volumes are 20% lower than they were in Q1/2008
  • Unemployment is still around 8%
  • Corporate bond spread are widening
  • Inflation (CPI) is well within the “band”
  • Producer prices are 1% lower than they were a year ago
  • Raw material prices have dropped dramatically
  • Canadian dollar is up 22% -- creating strong deflationary pressures on prices.

Canadian companies (like their American counterparts) saw Q1 profits surging back to pre crisis levels.  

The table above excludes two segment, energy and financials, the reason is that the former pricing power is an externality to the Canadian economy, and the second, despite all the talk, financial institutions have been “making hay” out of the carry trade (borrow short and lend long to the government).  The Canadian economy is in full recovery mode (V-Shape even).  However, the bulk of this improvement has be cost driven as opposed to revenue driven (see the above on manufacturing), and profits pressures (especially on mining and transforming industry) will be under pressure as prices drop

However, there is another question:  What is the Bank of Canada’s mission?  In fact, price stability is its primary objective and although the BoC needs to be concerned about overheating of the economy (and our housing problem), interest rates are but one tool available to “readjust” the economy.  Internal factors outweigh externalities, but the BoC can see the labor market as well as anyone else and at the current rate of job creation it will take another 40 months to reach the 5% unemployment level target.

My thesis remains unchanged, while the BoC can see many reasons to raise rates, there are many more than would seem to make a decision to stand pat attractive.  Moreover, the BoC may want to telegraph to Bay Street (Canada’s Wall Street) that it is in Ottawa that rates policies are set, and not in Toronto

There is a tendency by market economists to look at specific data points as key factors (they may well have been in the past), and the exclusion of all other.  Yes the Canadian economy was strong in the 4th and 1st quarter, but this is a recovery phase.  

Even I was taken in when I saw the GDP growth for Q1/2010 – 6.1% is high, the housing market is strong (maybe too strong) and it’s a good reason to tighten.  But, lets not forget other data points, unemployment, inflation targets and the deflationary impact of a strengthening Canadian dollar.  The importance of each factor cannot be determined by when that data point was released (we tend to forget the earlier ones).

The one argument for tightening would be if producer prices were rising, and while the diffusion index was indicating that pricing points were rising, the reality is that PPI is actually down 1% on the year. 

One final note from David Rosenberg:

The Canadian economy does not operate in a vacuum and we are not isolated from global events, as we saw in 2008 and early 2009. Even before the deflationary shock emanating from the European debt crisis, and even in the face of an economic rebound of its own, the Fed was stressing the need to maintain an accommodative policy stance because the future is highly uncertain — more than what is typical coming out of recession — and that this recovery is more fragile than meets the eye and vulnerable to a policy mistake. My hope is that the Bank doesn’t make one as it did in 2002 when it last tightened prematurely.

Friday, May 28, 2010

The world is certainly getting interesting!


Fitch downgrades Spain to AA+
China declares that they will investigate the South Korean sinking – this after having seen the ship first hand today.
US figures provides convincing evidence of a renewed slowdown.
Canadian dollar back at the 1.0561/.95 level & Oil is at $74…

David Brooks of the NYT is one of my favorite commentators, and he draws an analogy between the Tree Mile island disaster and the Deepwater Horizon accident.  His point is that in a complex world, people tend to underestimate the impact of small failures.  Because people don’t understand complex systems, and the cascading effect of many small failure can have on a total system.

Now imagine our world of complexity (just try to explain how a derivative works – or how it settles if there is a failure), and there are right now a number of small failure that don’t appear to be interconnected, but could all this lead to something bigger.  For a start many countries are otherwise engaged in solving “more critical” problems:

(1)                                         Europe is in a major “navel grazing mode” and will remain there for the foreseeable future, or at least until “Greece” gives up the ghost and sits down with its creditors and negotiate an acceptable outcome.  You can more or less count “out” Europe for anything outside their borders
(2)                                         The Korean peninsula seems to be going through a very difficult phase.  There are rumors of power struggles within various government factions in North Korea concerning the succession of Kim Jong ll.  It was rumored few weeks ago that this could be the cause of the rising tension with South Korea.
(3)                                         China’s economy appears to have slowed down dramatically.  Although China notoriously unreliable economic data (what do you want the growth rate to be!) can say anything.  But there is no doubt that Europe’s economic pain is transferring itself into China’s economy via a reduction in the growth rate of exports.  Government imposed “pinpricking” the residential real estate market bubble may have also slowed things down (although it feels “early” for any meaningful change to have occurred).  
(4)                                         China’s “tune” on North Korea changed dramatically today.  It is unclear what this change could presage in terms of the behavior of the hermit kingdom…
(5)                                         American data just ahead of the long weekend indicates that the economy is either slowing down or at least marking a pause.  

One of the crazier bloggers out there suggested that the May 6th crash was a system test, and that the main event will occur as soon as the right market conditions are in place.  However, imagine an escalation of tensions in the Korean peninsula, Europe getting into serious trouble (think of a small banking crisis based on a write-down of Greek and maybe Spanish exposure – European banks trading in NY are getting “bitch slapped” this afternoon).  Market begins to realize that U.S. growth rate for 2010 will not be 5% (yes that’s what the market is pricing right now!).  Loss of confidence in North America, and Europe, armed conflict in Korea (with the corollary effect on China, Japan and the U.S.).  You have an excellent reason for a market panic, this market lacks conviction (low volume).  Could this be the sign of a major correction in this bear market environment.  Ca you say S&P500 at 850…

As for Canada, well the Canadian dollar continues to behave as a Petrocurrency, when crude was trading at $68, the Canadian dollar traded near 1.0834/.92, but is now back around 1.04/.96 as oil price have rallied back to around $74.  The Canadian money market seems to have discounted a rise in s/t interest rates in Canada – the futures market has priced in about 1.3% in increase for the next 12 months.  Again, these are expectation, but at least real money is betting on this outcome!

And finally, a bit of chart porn at the request of Ms. FitN on house prices.  You see we have lots of Australian friends, and many live in an area of Sydney called Mosman (across from the Opera House and the Zoo) anyway I was telling Ms. FitN that house price in Australia had gone through the roof, and I had seen a chart.  So here it is


Thursday, May 27, 2010

The Sell out of Main Stream Media

"How telling is it that the best 'news' program on TV is on Comedy Channel (Daily Show with Jon Stewart) and the best financial journalist is found at Rolling Stone (Matt Taibbi)?  Is that a pathetic commentary on our corporate media or what?"

This comment was left on a blog (Zero Hedge), and speaks volume on what has been happening in the American media -- Matt Taibbi is infamous for having come up with the Goldman Sachs "Vampire Squid" moniker for the firm, which has stuck to the firm like super glue.  But it remains that the main stream media is not only loosing viewers/readers but it is also losing its hedge.  

In finance in particular the hard questions are now being asked by bloggers and not financial journalists.  Its not only litigation but its also a certain laziness that has gripped even the better news know outlet.  

MY top list of news sources are:

Zero hedge
Calculated Risks
Bronte Capital
The Big Picture
Worthwhile Canadian Initiative
Steven Williamson

These are the guys (and gals) that write the good, cutting edge stuff.  Most of the MSM doesn't pick up their ideas for several months.  Worse yet, here in Montreal the French speaking newspapers will "translate" articles from the WSJ and NYT under their own bylines.  At first I thought I was dreaming, but it turns out that Montreal's highly paid journalists like to "lift" articles (and translate), from the American press.  I suppose its easier, and cheaper, than writing their own. 

As an example, discussions about Greece were big in September and October 2009 -- Yeah, I know that's when the "meat" came out (actually Societe General's top economist started last summer).  It took the MSM until March 2010 to start focusing on that problem.

Of International Banking Operations

A bit of a tangent today, in a sense I am proud of my employer decisions.  About 10 years ago, my employer decided to shut down the vast majority of its foreign operations (Before my time), keeping a small (funding) operation in London, and two regional offices in other major European cities.  These limited European operations generate a small profit for the firm; they have limited aspirations and do an excellent job.

Our firm is a smaller financial institution, and having international operations to “follow our clients” just didn’t make any sense.  My own experience working in London, New York and Singapore for very large financial institutions would also justify similar decision.  Our “home” clients were just not interested in working with us (and when I say us, I mean three different institutions from three different continents…).  Bottom line, our “home” client wanted local market expertise, and not some overpaid expatriate douche bag which had gotten off the boat two weeks earlier! (I wish I was making this up, but this actually happened – a German colleague (almost no English) investment banker debarked in Singapore and started pitching German clients his local expertise – he got lost driving back his “clients” to the airport…needless to say that this client took his business elsewhere!)

This morning, the royal Bank of Canada unveiled its results for the first quarter, the numbers were good, but all the profits were generated by the domestic operations.  The foreign operations were once again a drag on profits.  RBC is Canada’s premier financial institution, with a market cap of nearly $90 billion it stands shoulder to shoulder with some of the world’s largest banks (JPM and BoA are both around $154 billion in market cap).  RBC has been active in Europe and South America for more than a century.  It is a well established player in these markets.  Despite this RBC’s foreign operations almost never make a profit, and generally produce losses (as they have in the first quarter of 2010 – with a $27 million loss, which is better than the $1.1 billion loss for 2009, still…).

My point is that if one of the best run international banks is unable to generate consistent profits from its international operations, what chance do medium sized banks have, and why do so many try? My guess is habit, looking at the annual report of their competitors; banks decided that they too needed a foreign presence.  My guess is that those strategies are never fully though-out 

My employer decided that instead to strike agreements with strong local financial institutions.  Has it paid off?  Hard to say, our clients appear happy, they get our “seal of approval” and introduction to the right people, do we get the same kind of referral, no we don’t, but then there’s not that much interest in investing in Canada – on the other hand we have virtually not costs associated with the endeavor.

Wednesday, May 26, 2010

Canadian housing prices slowing – Is the jury in for a rate hike?

Between January and April 2010 200,000 jobs were created in Canada of which 30% were related to housing and its ancillary businesses.  Every Canadian economist, starting with the BoC, recognized that housing stability/growth saved the Canadian economy in 2008/09 period.  David Rosenberg did a “bottom-up accounting” to see how much of the recovery could be attributed to housing:

Based on our statistical work, around half the seven per cent annualized growth rate in nominal GDP from the recession trough has been due to the combined direct and indirect benefits from the housing boom. And when we apply the price deflators to the various sectors of the GDP, we actual find that every penny of economic activity, in real terms since this recovery began, has occurred thanks to the housing sector. In other words, if not for housing, real GDP would have stagnated since Q2 2009 instead of rebounding at a three per cent annualized pace.”

A recovering housing market provided Canadian banks with a good backstop, and credit as a whole remains healthy in Canada.  In fact, rising house price (or their stability) has one very important impact – its supports labor mobility.  If you can sell your house (and in Canada we have no limited liability non-sense as do our American cousins), you can find new employment outside of your immediate neighborhood.

This morning the Teranet-National Bank house price index was published for the month of March 2010, and the growth rate in house price is 0.3%, Vs. 0.2% for February.  Looking at the annual figure (+10%) is somewhat “wrong” since several markets in Canada saw a national retracement in house price of 9%.  Much of the data available elsewhere shows house price rising more dramatically, but the reality is that what has changed is the nature of the homes being sold – more expensive ones!  This brings the average up.  The Teranet-National Bank House price Index doesn’t suffer from this bias, but its production lags other indicators because the data needs to be cleaned up. 

Bottom line is that if a red hot housing market was a reason for the BoC to raise interest rates in June, that “excuse” is now gone.  In fact, the only real reason for raising rates in the next few days is to provide the BoC with ammunition in the event of another crisis. 

Recapping the case for and against interest rates hike:

(1)               Its not for the over heated housing market (0.5%, 0.2%, 0.3% growth m/m since Jan)
(2)               Its not because of inflation pressures (right on the mid-point target of 2%)
(3)               Its not for the currency – as a matter of stated policy BoC doesn’t consider F/X movements (Canadian dollar is trading near its fair market value of 0.9200)
(4)               Its not for slowing the economy – although the Q1 print was excellent at 5.0%, anticipation is for Q2 to be lower, and the second half to be difficult (on target for a 3.2% GDP growth in 2010)
(5)               Canada’s economy can sustain a rate hike (There appears to be less slack in the economy than the BoC first thought)
(6)               Commercial banks don’t need the steep yield curve (carry trade) as the balance sheets are in “good” condition (strong Q1 earnings expectations)
(7)               Slow down the pace of “fast money” entering the economy (See March TIC report)

Take your money and place your bets --

Tuesday, May 25, 2010

Micro Vs. Macro Factors in Canada


Inflation in Canada is just shy of 2% (mid range target)
200,000 new jobs were created in the first 4 months of 2010
Retail sales rose 2.1% (YoY) in March 2010
Very little economic news out of Canada this week

But over the past 30 days:
    Oil prices down 20% from USD 86 to USD 68
    Copper prices down 17% from USD 3.6 to USD3.0
    Canadian dollar down 6% from parity with the USD to 0.94.

The situation in Canada is interesting, insofar as for the first time in over a year, the Canadian dollar is trading near or at its fair value.  It could give a break to (manufacturing) exporters, but many of them have been aggressively hedging their short term US dollar exposure – a reasonable decision, but it means that over the next 6-12 months they will not benefit from a weaker dollar.  That has implication for growth expectation from ¼ of Canada’s economy (manufacturing).  The energy complex and natural resource sector are also hurting both from a drop in price (especially copper which is considered a bell weather), but also a “contagion” of new taxes on resource extraction – Alberta started the ball rolling in 2007, and last week Australia upped the antes!  

For the BoC’ 30% of Canada’s economy became more exposed to external inflation pressures (the proportion of GDP that is made up of imports), because of the recent weakness of the Canadian dollar – however, the BoC doesn’t take into consideration exchange rates when making decisions about monetary policy – although external factors are probably a key component of the BoC’s decision to increase rates on June 1st.  Like David Rosenberg, I believe that the likelihood if a rate hike is around 40% -- if we hear more rumors of quantitative easing, the BoC’s hands will be tied and no rate hike, in fact if the s/t and m/t vision is of deflation the yield curve will flatten out – it’s the long end that will come in, not the short end that will go out.  

For the BoC one the core sector worries has been the overheating housing market, Both in 2009 and in the first five months of 2010 it has been Canada’s engine of growth – nearly 30% of all jobs created over the first 4 months of 2010 were in housing or related sectors. There now appears to be a slow down in housing market, which nominally could make the BoC more cautious and hold back on raising rates.

The title of this note reflects the decision tree faced by the BoC over the summer.  The rest of the world appears to be imploding, while Canada remains largely steady – it’s easy to forget that over the past 5 months the Canadian equity market has been more or less static, the S&P500 is down about 5% since January 1st.  China is down 25% and Europe is “off a cliff” due to its troubles.  I mentioned in a previous post that Europe is not a major market for Canadian exports (the UK is about as big as the rest of Europe), but it remains that the budget cuts announced by the British Government (USD 8.6 billion in 2010), Italy (USD 29 billion), and Spain (USD 80 billion), is going to directly impact these countries GDP – it has to, its simply impossible for private enterprise to replace this lost GDP, so for each of the UK, Italy and Spain it represents at least 1% to 2% in GDP reduction, which means that these countries may find themselves in negative territory.  The “second hand smoke” risk to Canada is clear.  All these countries will require fewer things – which means they will need less raw materials, which means that raw material prices will have to fall – as they have over the past few weeks.

As a commentator once said about one of Evil Kenevil’s motorcycle failed stunts – That’s gotta hurt!

Thursday, May 20, 2010

Did you know

Apparently all Euros are not equal.  There are rumors of Euro hoarding (the physical currency)! Each issuing country has a code attached to its Euro, and certain country's Euro are deemed to be a better store of value.  All euro notes have a numerical code which identifies the issuing country.  Those with the following letter codes: X,W and Z are especially popular (Germany, Netherland and Finland) the three countries who are in the best shape.  Don’t know if its true, but it would be an amusing, also I'm not sure if in the event of a break up for the Euro each country would only purchase its own Euro...

Maybe a real life application of Gresham's Law

Whoa Nelly!

Man this market is insane.  Up here in Canada we are watching as spectators, unclear of what our role is in this financial ballet taking place in Europe and in the U.S.  The Canadian stock market is off by nearly 2%, the Canadian dollar dropped 3¢ today – which is a lot.  

On a global basis what we do know:  Energy, metals and other raw materials prices are dropping fast.  WTI crude that was flirting with $85/89 bbl in April is now trading just north of $65/68 per bbl (-24%).  

What we don’t know:  rumors of a German bank in trouble are all over the “blogosphere” after the government there prohibited the shorting of bank stocks, this morning the German Minister of finance indicated that the EU needs to have a mechanism in place if country needs to restructure their debt burden (Greece is not a solution going forward)… what do they know that the market doesn’t?  

Economic indicators (south of the border as usual) are downright horrible, deflation seems to be the problem now, unemployment is up, and housing demand is falling.  Apparently, 10% of all mortgages are behind in their payments.  It turns out that when the money supply drops (as does credit) there are real consequences to the economy.

Anecdotal evidence in Canada is that the real estate market is cooling down; several reports are emerging of a dearth of buyers for condos in Toronto… There is no doubt that the new permits are drying, but then last months number were so large, it is easy to conclude more out of the data the exists.

One thing for sure is that prices are dropping for natural resources, on the other hand manufacturers in Canada just got a massive break, the Canadian dollar has droped nearly 6% on the past two weeks, and energy costs are down 25% in Canadian dollar terms  

Most Canadian economist are taking the view that inflation will breach the BoC’s comfort zone of 1.00% to 3.00% range, others look at the trend line and come to a different conclusion.  That inflation is under control, and if raw material prices are dropping in price then inflation should be tame in Canada – reducing the pressure on the BoC to raise interest rates

My GDP growth estimate remains unchanged at 3.2% for 2010.  Q1 was very strong (first report) but at the very least a slowing in global economic activity and the fall raw material is bound to affect Canadian GDP growth.  Moreover, a slowing housing market will impact GDP growth.  Q3/Q4 will be much slower but still growing.  Giving Canada a positive overall growth rate of slightly more than 3% is still on the cards. 2011 is another story…

Dance baby dance!

Last tine Ms FitN and I went to the SAT in Montreal, its one of those spaces that has a multi purpose use, well last night it was dance – both Ms. FitN and I love dance, and last night it was a real treat:  We saw the Nyata Nuata dance company.  They call it African dance, maybe I wouldn’t know but it was GOOOOOOOOD!  It was actually one of the best show we saw this year.  The creator of this troupe Ms. Zab Maboungou has been all over the world, is based in Montreal.  Tickets are cheap around $25 and really worth it -- assuming its not sold out.

There’s a show tonight and tomorrow!  If you are in Montreal it’s a must see.  Dress light the room is very warm.

Wednesday, May 19, 2010

No New Posts

I’ve been busy at work for a few days, reducing my ability to say or write anything.  Honestly, the problem seems to be that the indicators are not providing a clear picture of where things are going.  Part of the problem is once you’ve stated your position you have to wait for events to catch up.  

I still believe in deflation for North America, because the great debt contraction wagon is still moving ahead (I am speaking of the U.S.), but since Canada is so expose to the U.S. there has to be a certain level of correlation.  Credit is shrinking as is the money supply (in the U.S, right now in Canada both Credit and the money supply are growing -- a reflection of Canada's strong economic growth).


Oil Price this morning are still below $69 bbl, no so long ago oil prices were around $89 bbl, an 18% reduction – although the impact at the Canadian pump has been somewhat muted, for a variety of reasons, but first and foremost is that the Canadian dollar has backtracked from parity, Canadian dollar is trading 1.05/.95 (depending on how you look at the exchange rate).

I will not talk about Europe, insofar there’s so much being written elsewhere by people who know what they are talking about, I would just end up being a parrot, and a bad one at that.  More fascinating was an commentary by Michael Pettis, economics Professor in Shanghai see her.  On the impact of the weakening of the Euro on China’s foreign exchange policy.  The impact on Canada of what is says is serious; in a nutshell Professor Pettis is worried of a major trade war between China and the U.S. especially if China doesn’t modify its exchange rate policy.  His salient point is as follows:

I assume that for the foreseeable future the major trade deficit countries in Europe are going to find it very difficult to attract net new financing.  At best they will be able, through official help, to refinance part of their existing liabilities.

·         If these countries cannot attract net new capital inflows, their currency account deficits, currently equal to two-thirds that of the US, must automatically contract.
·         If European trade deficits contact, there must be one or both of two automatic consequences.  Either the trade surpluses of Germany and other European surplus countries – larger than that of China and just a little larger in sum than the European deficits – must contract by the same amount, or Europe’s overall surplus must expand by the same amount.
·         We will probably get a combination of the two, but a much weaker euro – combined with credit contraction, rising unemployment, and German reluctance to reverse policies that constrain domestic consumption – will mean that a very large share of the adjustment will be forced abroad via an expanding European current account surplus.
·         If Europe’s current account surplus grows, there must be one or both of two automatic consequences.  Either the current account surplus of surplus countries like China and Japan must contract by the same amount, or the current account deficits of deficit countries like the US must grow by that amount, or some combination of the two.
·         If the Chinas and Japans of the world lower interest rates, slow credit contraction, and otherwise try to maintain their exports – let alone try to grow them – most of the adjustment burden will be shifted onto countries that do not intervene in trade directly.  The most obvious are current account deficit countries like the US.
·        The only way for this not to happen is for the deficit countries to intervene in trade themselves.  Since the US cannot use interest rates, wage policies or currency intervention to interfere in trade, it must use tariffs.

Prof. Pettis makes a compelling argument and unless certain actions are taken by a number of governments trade conflict will rise.  A beggar-thy-neighbor policy cannot work if the world expects the U.S. to absorb everybody else’s surplus, especially since the world is blaming the U.S. for its trade deficit.  

The impact for Canada could be serious; although Canada and the U.S. participate in the largest free trade area (NAFTA) when the U.S. enacted their stimulus package foreign companies (which include Canada) were excluded from participating.  Trade barriers are often raised in an emotional reaction to global events.   The impact of this is clear.  Overall, Prof. Pettis’ prescription was for China to buy the Euro, and revalue the Yuan to avoid this outcome.  However, the actual outcome is far from clear.

Monday, May 10, 2010

What a weekend!

Canadian Economic news:

New residential construction:  +197k (target +200k)
April job creation:   +109k (target +43k)

The local news continues to be good; internationally the air of normality is somewhat strange.  Nothing has really changed; the Greek mess is still around, and if anything this newest bailout reduces the pressure on the Greeks to do the hard things.  The US regulator is freaking out that a country such a Greece could cause such a mess (2.4% of Europe’s GDP), looking at their own house the Americans must be getting worried, since the U.S. government deficit at 11.6% is in the same ballpark as Greece’s, we seem to be lurching from one catastrophe to another – 18 months ago it was U.S. mortgages, now its Europe, the crisis cycle seems to be accelerating (Steve Roach of MS Asia this AM on CNBC).  But in Canada new residential building was roughly in line with expectation, Canada’s economy is humming along, with new job (full time as opposed to part time) being creating across the country.  The manufacturing sector also appears to be pulling its weight (unlike the U.S. were temp worker and census workers account for nearly 100k of the new jobs – birth death model for another 60k), so Canada appears to be a within a harbor of calm while the maelstrom rages beyond our shore.  

Following Europe’s massive sovereign intervention. The TSX60 rose by 2.3% (now 1.8%) after falling 5% last week, so in one session ¼ of last week’s correction was erased.  The question that all Canadians are asking is what next?  It’s all very well for the Economist to write nice-ish things about us “Less Bad” and aside from a few factual errors (like the size of our government debt – its 89% vs 36% which only includes Federal debt and excludes provincial debt), the story of Canada is that of natural resources, and these are falling in price

On the currency front, the Euro is back where it was Friday evening, turns out that even $1 trillion is not enough to convince "speculator" that Europe is back in business.  One effect of the European intervention has been to strengthen the Canadian dollar back to “near parity”  -- it went off the rails last week when a “flight to quality” affected the global market.  However, oil prices are still substantially (12%) off their high of two week ago, trading below $76bbl which should have a depressing trend on the CAD.  If our story holds true and the CAD is a Petro-currency, then it holds that parity should not be the next target for the CAD, but rather the 94-95 range (or as traders express it the 105-04 range]

Finally we had snow again, on Mothers’ Day.  

Friday, May 7, 2010

Turns out that being a Bear is a bit easier today.

This was an interesting week for North America markets.  Yesterday was amazing, although I missed the live action (I was in a meeting) market participants freaked out late in the afternoon (when the Down Jones Industrial dropped by 1,000 points).  In Canada new jobs for the month of April were announced at + 108,000, or about 4 time the anticipated growth rate (last time it was this high was in January 1976!).  Also this morning permits for residential construction were up a staggering 12%.  

So why did the market react the way it did with a further 2% drop?  The very first sign was the low market volatility (price movements) and very low trade volumes when the market was rising but large volumes whenever the market dropped a bit.  Something became askew a few weeks ago when the Shanghai stock market which had been stead for the past few months started to trend down.  As of this morning the Shanghai market is off 22% since the beginning of the year.

G7 markets were priced for perfection, where the price earnings equation was high and suggested that companies could generate large earnings by cutting costs (when Caterpillar announced its results – revenues down 20%, profits up 5% the game was essentially up).  Canada was “overvalued” but not to the same extent that the U.S. markets.  The big question is how the Central bank will react to the massive increase in permits for residential construction, and  the employment report.  Inflation is still negligible and falling – on all measures.  But the Canadian market seems to have only two of its three pistons functioning:  energy & Natural resources, and residential construction were doing fine.  Manufacturing not so much; and now natural resource prices are getting hammered.  Copper, Aluminum and the energy complex are the most famous, add to this equation the events in Europe (Greece seems to be doing everything it can to sabotage its partners attempt at helping), growth complex make the assumptions that Europe can and will be the engine of growth – replacing America a more doubtful outcome. 

Taking a more careful look at the employment numbers we see that the Canadian employment report shows that none of the jobs created were in the manufacturing sector (about ¼ of Canada’s GDP), in fact the bulk of the new jobs were in construction or construction related sectors…I have mentioned before that Canada’s GDP has been greatly assisted by the strength of its housing market, exhibiting a full recovery in Toronto and Vancouver and a continuation of the growth trend in Montreal (Calgary is still off its feed – but closer to back to its peak 2008 level).

Since, I am no prognosticator I will shy away from making a prediction on the direction of the markets, although a 10% correction is very likely (so 4% still to go!) but it could be a deeper correction.  The instability in Europe could become a contagion.  Yesterday the European commercial paper market froze [EURBS5], this is important because nearly 1/5 of bank funding in Europe is source via the commercial paper market (anything from 1 to 30 days).  

The next few weeks promise to be interesting.  Mark Carney of the Bank of Canada has some hard decisions to make, the Canadian housing market is overheating dealing with this situation will take some level of deftness on his part, and that's not taking into account the events elsewhere.

Good Weekend

Tuesday, May 4, 2010

Is the EMU failing?

Have the European governments waited too long to take decisive action in the PIIGS problem?  It would seem to be the case!  Despite the Euro 120 billion package announced Sunday the 2nd of May, it seems that the credit markets don’t believe this will work, in Greece or elsewhere.

Above are the top five CDS price movments on Tuesday the 4th of May, between 10% and 19% movement in the price of insuring "Club Med" countries debt...

As other commentators have made clear recently, why are we bailing out investors who invested in a patently bad economy (Greece) for a few extra basis point of yield.  Why are we bailing our DB, SocGen and their friends?

Cheating a bit from my vow to discuss only Canadian events I want to talk about what is occurring in Europe:  It is a sense of outrage that forces me to make a statement here.  For years Greece has been screwing-up by massive overspending and tax evasion on a scale hard to imagine – now they have to pay the pipe!  This correction should and it will hurt, but there’s no way bond investors should be made whole, they too bear responsibilities here, especially since they were pros (which is maybe why they will get away with murder).   

I too would love to be a hedge fund (or a big European bank bond desk), having bought Greece debt at a discount from a pension fund (once Greece was downgraded they had too sell) and looking to make a killing by being paid out at par.  This is simply unacceptable.  The moral of the story:  As an investor (especially if you are a pro) you should buy the stinkiest bond in the world, and look for some schlep to make you whole.

Socialize the losses and Privatize the profits!

Now the Europeans are looking at a trillion Euro bail out for the rest of “Club Med”.  I can foresee one change soon; Germany is going to get downgraded by Moodys and S&P – that would actually be somewhat funny, the one guy in the room that acted responsibly is going to get hit with higher borrowing costs!  Serves them right for making an economic alliance of a bunch of douche bags!

The EMU was always going to fail; it was generally pre-ordained since there are no budget control devices (especially since France in ’02 broke the budget deficit limit – with no consequences).  

As a side note the direct impact of failure of the EMU would be limited – there is always contagions risk, furthermore the failure of the EMU will create a dramatic economic dislocation in Europe which is certain to have repercussions on the price of commodities…Europe is Canada’s 5th largest trade partner (less than 4%).

Monday, May 3, 2010

Growth, Inflation & All That!

Last week, Mark Carney, the Bank of Canada’s Governor, gave his latest assessment of the Canadian Economy.  In a nutshell, the BoC has underestimated Canadian economy in terms of growth, and capacity utilization.   

It may be that making GDP prediction when all levels of governments undertook massive simulative programs was bound to be problematic.  In fact, the BoC now recognizes that they may have overestimated the gap between potential and actual growth, a function of under estimated the permanent destruction of capacity Vs. temporary idle state, and also overestimating the growth in Canadian productivity. 

Mark Carney’s view of inflation remains optimistic – unlike some, he takes the view that the worse (in terms of increase) and despite the recent expansion of the diffusion index on manufacturer’s prices remains within the BoC’s favorite range.


From WCI:  But there's another thing that could be happening, although it will take a few months to confirm. If you look at that graph, the sharpest reduction in core CPI inflation over the past three years didn't happen during the recession. The drop at the end of 2007 coincided with the first time the CAD reached parity with the USD in almost 35 years. Even those who weren't sure if you should by multiplying or dividing prices by the exchange rate could see that we were paying more for many consumer goods than were American consumers, and the resulting consumer revolt forced many Canadian retailers to reduce their prices

Moreover, with limited inflation pressures from our southern neighbors it is difficult to see, in the internet age, how sellers will be able to increase prices (see my Ipad entry).  When Canadians look at prices for goods and services they can easily compare with what that same item would cost in the U.S.   On the downside, the combination of the persistent strength of the Canadian dollar and Canada’s poor relative productivity performance could exert a larger-than-expected drag on growth and put additional downward pressure on inflation.

However, the BoC remains cautious on the outlook for the economy; Canadian housing prices across the country are back to their pre crisis trend line.  This appears to be the one dominant factor that has propelled the economy, whereas the rest of the OECD economies remain mired in problems.

As a trading nation, Canada is particularly aware of the downside risk; the global economic recovery could be more protracted than currently projected.  There is a risk that sovereign credit concerns could intensify, leading to higher borrowing costs and a more rapid tightening of fiscal policy in some countries. Either of these factors would restrain global private demand relative to the Bank’s base-case projection.

Finally, my growth target for Canada remains unchanged at 3.1% for 2010.  Although the Q1 numbers were released a few days ago at 3.2% -- in line with my estimates, these figures are likely to be revised by 1% to 2% (the BEA is often wrong with its early figures).  For what its worse some Canadian economists are talking Q1 GDP growth in Canada of 5.5%.

My Ipad

Last week I drove down to Champlain NY to take delivery of my shinny new Ipad.  The problem is that for us Canadians the Ipad is not available in stores (or for delivery) yet.  On the other hand purchase via the U.S. site (U.S. delivery address and U.S. credit card only) was easy. 

Primary purpose of the device is to replace morning newspapers (I read the FT, WSJ and local newspaper – La Presse), and for surfing and doing simple emailing around the house (in Montreal and at the cottage).  The devices cost $499, plus NY taxes and I paid an additional $30 in Canadian taxes at the border – a remarkably simple process.

The device is simply magical; it reminds me of that you tube video of the 100 year old women who took to the Ipad immediately.  When opening the box you find the Ipad, a wire and a wall socket charger, and a card 4x3 which gives the device instruction:  plug into a computer and sync wiht Itunes 9.0.

The first thing that impresses is that when opening a page where the script is too small you just expand the text with your fingers – easy and fun.    I installed a few applications, nothing drastic, no games for example.  The best are Bloomberg’s Ipad version and writing software – I purchased a special stylus so that I can use my Ipad as a note taking device – really useful.

The Pogo stylus was a lesson in comparative shopping.  I went to the Apple store in Montreal; they didn’t have any in stock.  They did have the price which was C$39—plus taxes.  Apparently, you can buy it in NY Apple Store for US$24, but and this is the best, I didn’t buy it from the North American distributor – ($17 plus $12 shipping cost), but from Ebay -- $12 + $3.5 shipping

By the way most of my buddies (all tech crazies – yeah I mean you Ryk) think this device is the devils work!  My guess is that they cannot play with the system’s architecture.  On a final note both Microsoft and HP this morning announced that they were dropping their plans to introduce tablet PC.