Download One Unique Cycle

More like the rest
than like the US?
Canada’s Economic & Financial Outlook
David D. Wolf
Head of Canadian Economics
& Chief Strategist
Merrill Lynch Canada Inc.
May 2007
[email protected]
416.369.8764
Merrill Lynch does and seeks to do business with companies covered in its research reports. As a result, investors
should be aware that the firm may have a conflict of interest that could affect the objectivity of this report.
Investors should consider this report as only a single factor in making their investment decision.
Refer to important disclosures on page 13.
May
2007
Key points
Theme
- Canada leaning more towards stronger world than weaker US
Economy
- Growth, inflation moving above US after three-year undershoot
- Real GDP 2.3% ‘07, 2.6% ‘08, core inflation 2.2% ’07, 2.0% ’08
Rates & FX
- Canada-US rate convergence required given economic ‘cross’
- CAD has borne adjustment so far, seen 1.09 – 1.14 v USD
- Convergence eventually through BoC lagging Fed cuts, producing broadly
steady yields & steeper curve
Equities
- TSX following global multiple expansion as earnings soften
- Market particularly vulnerable to reassessment of risk
2
May
2007
US growth, inflation shifting down
The slowdown
Not just housing anymore
US real GDP growth, q/q% saar
10
US non-farm payrolls, y/y% (RHS)
25
US real GDP growth, y/y%
20
8
4
US real capital equipment investment, y/y% (LHS)
3
15
6
2
10
4
5
1
0
2
0
-5
0
-1
-10
-2
-15
97
98
99
00
01
02
03
04
05
06
-2
97
98
Source: Haver Analytics, Merrill Lynch
Core inflation set to ebb
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
pp
US ISM supplier deliveries (LHS, advanced 9 months)
70
99
1.5
12-month change in US core CPI y/y% inflation rate (RHS)
65
1.0
60
0.5
55
0.0
50
-0.5
45
-1.0
93
95
97
99
01
03
05
07
Source: Haver Analytics, Merrill Lynch
3
May
2007
But rest of the world picking up
Divergence is not new…
y/y%
… but it is intensifying
Real GDP growth: world ex US
8
130
US ISM
Germany IFO
Japan Tankan (expectations)
Index 2003=100
Real GDP growth: US
6
120
4
110
2
100
0
90
80
-2
81
83
85
87
89
91
93
95
97
99
01
03
05
Note: 2007 ML forecasts
07
03
Source: Haver Analytics, IMF, Merrill Lynch
Global inflation risks skewed
pp
04
05
06
07
Note: Indexes standardized for base year, volatility
Source: Haver Analytics, Merrill Lynch
Notes:
Expected change in inflation, 2007/08 vs 2006, ML forecasts
2
1
1
0
-1
-1
-2
China
Japan
Eurozone
UK
US
Source: Haver Analytics, Merrill Lynch
4
May
2007
Ex ante, hard to know which way
Canada would lean
Top three is really top one
But world matters most for export values…
US
UK
Japan
% of total Canadian exports
100
%
%
Real global growth (RHS)
8
7
Change in Canada's terms of trade (LHS)
6
80
4
5
60
4
0
3
40
2
-4
20
1
-8
0
70
74
78
82
86
90
94
98
02
0
81
06
Source: Haver Analytics, Merrill Lynch
… which feed domestic demand
Canada final domestic demand trend* (RHS)
3
86
91
96
01
06
Source: Haver Analytics, Merrill Lynch
Notes:
6
Canada terms of trade trend* (LHS)
5
2
4
1
3
0
2
-1
1
-2
0
76
81
86
91
96
01
06
* - 5-year average annual % change
Source: Haver Analytics, Merrill Lynch
5
May
2007
Canada is overtaking US in growth
Opening up daylight in real GDP
Leading indicator divergence I
y/y%
12
US real GDP growth q/q% saar (LHS)
7.5
Canada leading indicator (StatsCan)
US leading indicator (Conference Board)
Canada real GDP growth q/q% saar
8
5
4
2.5
0
-4
0
04
05
06
07
Note: Q2 US, Q1 & Q2 Canada ML estimates
99
Source: Haver Analytics, Merrill Lynch
Leading indicator divergence II
y/y%
12
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
Canada leading indicator (OECD)
US leading indicator (OECD)
9
6
3
0
-3
-6
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
6
May
2007
Canada consumer fundamentals
better
Recent job growth impressive
3
y/y%
Canadian incomes have accelerated
y/y%
Canada employment
US real personal disposible income
7
Canada real personal disposible income
US non-farm payrolls
6
5
2
4
3
1
2
1
0
04
05
06
07
0
97
98
Source: Haver Analytics, Merrill Lynch
Leverage growing less quickly
130
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
Canada household debt as a % of disposable income
US household debt as a % of disposable income
120
110
100
90
80
70
90
92
94
96
98
00
02
04
06
Source: Haver Analytics, Merrill Lynch
7
May
2007
Actual consumption growth has
slipped, but should rebound some
Canada spending trend has been stronger
y/y%
Canada real consumer spending
7
Soft patch in recent months…
15
Real retail sales, 3m/3m% saar
US real consumer spending
10
5
5
3
0
-5
1
97
98
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
04
05
06
07
Source: Haver Analytics, Merrill Lynch
… seems to have ended with spring
Index 2005=100
125
Canada motor vehicle sales
120
US motor vehicle sales
115
110
105
100
95
90
85
05
06
07
Note: April 2007 ML estimates
Source: Haver Analytics, Merrill Lynch
8
May
2007
Housing offers most striking
divergence
US busting, Canada leveling off
y/y%
Higher inventories suggest softer pricing…
y/y%
-60
Canada real residential investment
30
US real residential investment
pp
20
Unabsorbed new home inventory (LHS, inverted, advanced six months)
12-month change in new house price inflation (RHS)
15
-40
20
10
-20
5
10
0
0
0
-5
20
-10
-10
40
-20
60
97
98
99
00
01
02
03
04
05
06
07
-15
-20
89
91
Source: Haver Analytics, Merrill Lynch
… but from less frothy levels
Index 1981-2006=100
140
93
95
97
99
01
03
05
07
Source: Haver Analytics, Merrill Lynch
Notes:
US house price to rent ratio
Canada house price to rent ratio
120
100
80
81
83
85
87
89
91
93
95
97
99
01
03
05
07
Source: Haver Analytics, Merrill Lynch
9
May
2007
Fiscal policies divergent too
Coming together
% of GDP
5
H2 slowdown in public spending…
Canada government financial balance
7.5
US government financial balance
y/y%
Canada real government consumption & investment
US real government consumption & investment
2.5
5
0
2.5
-2.5
-5
0
-7.5
-2.5
-10
90 91
92 93
94 95
96 97 98
99 00
01 02
03 04
05 06
97
Source: Haver Analytics, Merrill Lynch
… also looks temporary
%
98
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
Investment growth: Public sector
20
15
10
5
0
-5
-10
92
93
94
95
96
97
98
99
00 01 02 03 04 05 06 07
Note: 1992-2006 estimated actual, 2007 intentions
Source: Finance Canada, Merrill Lynch
10
May
2007
Business investment trends look
more like the US
Caution!
y/y%
24
Intentions also soft, energy off the boil
Private non-residential investment, oil & gas/mining
y/y%
15
Canada real machinery/equipment investment
Private non-residential investment, all industries excluding oil & gas/mining
US real machinery/equipment investment
16
10
8
5
0
0
-8
-5
-16
98
99
00
01
02
03
04
05
06
98
07
Source: Haver Analytics, Merrill Lynch
Softer profits, CapU the cause?
y/y%
00
01
02
03
04
05
06
07
Note: 1998-2006 actual, 2007 intentions
Source: Haver Analytics, Merrill Lynch
Notes:
%
88
Pretax corporate profit growth (LHS)
50
99
Industrial capacity utilization (RHS)
40
30
86
20
10
0
84
-10
-20
-30
82
98
99
00
01
02
03
04
05
06
Source: Haver Analytics, Merrill Lynch
11
May
2007
Inventories a key question mark
Much of the needed adjustment done in Q4
97C$mn
25000
I/S ratio suggests downside…
Ratio
0.75
Change in business inventories
Economy-wide I/S ratio
Linear trend
20000
0.725
15000
0.7
10000
5000
0.675
0
0.65
-5000
0.625
-10000
-15000
0.6
86
88
90
92
94
96
98
00
02
04
06
97
Source: Haver Analytics, Merrill Lynch
… but BoC forecast implies a bounce
Index pts
20
12-month change: ISM inventory index minus customer
inventory sentiment index (LHS, advanced 3Q)
15
12-month inventory contribution to Canada GDP growth, with
implied BoC projection (RHS)
98
99
00
01
02
03
04
05
06
Source: Haver Analytics, Merrill Lynch
Notes:
pp
4
3
10
2
5
1
0
0
-5
-1
-10
-2
-15
-3
00
01
02
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
12
May
2007
Real exports can’t escape US drag
Real exports depend on US demand
Canada does build US houses
Canada real exports (y/y% , RHS)
12
24
US real domestic demand (y/y% , LHS)
18
8
12
4
6
0
0
-6
-4
-12
80
82
84
86
88
90
92
94
96
98
00
02
04
06
Source: Haver Analytics, Merrill Lynch
Source: Bank of Canada
Manufacturing overhang still to be worked off Notes:
USD/CAD (RHS, advanced 2 yrs)
2400
1.65
Manufacturing employment, 000s (LHS)
2300
1.50
2200
2100
1.35
2000
1900
1.20
1800
1700
1.05
87
89
91
93
95
97
99
01
03
05
07
09
Source: Haver Analytics, Merrill Lynch
13
May
2007
But some resilience evident
near-term
Manufacturing survey bounces in Q2…
Canada real GDP growth (RHS)
65
q/q% saar
Canada BCS Composite* (LHS)
60
… eliminating underperformance vs US
Canada BCS Composite*
8
65
6
60
4
55
2
50
0
45
US manufacturing ISM
55
50
45
40
35
93
95
-2
97
99
01
03
05
07
* ML aggregation of BCS components using US ISM mfg weights
40
97
98
Source: Haver Analytics, Merrill Lynch
Auto sector apparently through correction
y/y%
Transport mfg contribution to y/y GDP growth (RHS)
20
Canadian car and truck production (LHS)
99
00
01
02
03
04
05
06
07
* - Weighted and standardized to ISM methodology
Source: Haver Analytics, Merrill Lynch
Notes:
pp
0.4
15
0.3
10
0.2
5
0.1
0
0.0
-5
-0.1
-10
-0.2
-15
-0.3
-20
-0.4
-25
-0.5
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
14
May
2007
Near-term bounce partly reflects
ebbing regional divergences
Full convergence in manufacturing
50
Alberta BCS production index
40
Ontario BCS production index
Some convergence even in job growth
10
3m/3m ann%
Alberta employment
Ontario employment
8
30
6
20
10
4
0
2
-10
0
-20
-30
-2
04
05
06
07
04
Source: Haver Analytics, Merrill Lynch
Alberta house prices off the boil
3m/3m ann%
80
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
Alberta new house price inflation
Ontario new house price inflation
60
40
20
0
04
05
06
07
Source: Haver Analytics, Merrill Lynch
15
May
2007
Canada-US ‘growth cross’ comes amid
already-tighter Canadian economy…
Canadian growth seen above US in 2007…
y/y%
% of GDP
4
US real GDP growth
7
ML fc
Canada real GDP growth
6
… from already higher position
Canada output gap
US output gap
3
2
5
1
4
0
3
-1
2
-2
1
-3
-4
0
97
98
99
00
01
02
03
04
05
06
97
07
98
Source: Haver Analytics, Merrill Lynch
Labour markets levels also contrast
%
00
01
02
03
04
05
06
07
Canada BoC conventional estimate, US CBO estimate
Source: Haver Analytics, Merrill Lynch
Notes:
%
US unemployment rate (LHS)
7
99
9.5
Canada unemployment rate (RHS)
6.5
9
6
8.5
5.5
8
5
7.5
4.5
7
4
6.5
3.5
6
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
16
May
2007
… promoting inflation convergence
Headline CPI differential has narrowed
y/y%
Canada headline CPI inflation
6
Core CPI differential almost gone
4
US headline CPI inflation
Canada core inflation
y/y%
US core inflation
3.5
5
3
4
2.5
3
2
2
1.5
1
1
0.5
0
97
98
99
00
01
02
03
04
05
06
07
97
98
Source: Haver Analytics, Merrill Lynch
Producer prices have also converged
8
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
Canada finished goods IPPI inflation
y/y%
US finished goods PPI inflation
6
4
2
0
-2
-4
-6
-8
97
98
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
17
May
2007
Capacity pressures on Canadian
inflation questionable
Productivity softer, but wages too
Labour market flexibility the key?
Business sector compensation per hour
y/y%
7
Interprovincial migration (LHS, 4qma)
000s
450
Business sector productivity
%
2
Unemployment rate (RHS, inverted)
4
5
375
6
3
8
Unit
labour
cost
1
300
10
12
-1
225
00
01
02
03
04
05
06
07
14
66
71
Source: Haver Analytics, Merrill Lynch
Capital deepening should help too
76
81
86
91
96
01
06
Source: Haver Analytics, Merrill Lynch
Notes:
Canada net fixed non-residential capital stock
y/y%
5
US net fixed non-residential capital stock
4
3
2
1
0
70
74
78
82
86
90
94
98
02
06
Source: Haver Analytics, Merrill Lynch
18
May
2007
Bottom-up approach sees
divergent influences
House pressure coming off…
10
… perhaps replaced by food?
CPIX: House replacement
CPIX: Shelter
CPIX excluding shelter
BoC target
y/y%
8
3
6
2.5
4
2
2
1.5
0
00
01
02
03
04
05
06
07
1
Jan-06
Source: Haver Analytics, Merrill Lynch
Core goods contrast with core services
y/y%
CPIX
CPIX food components (food ex-fruit/vegetables)
CPIX excluding food components
BoC target
y/y%
3.5
Apr-06
Jul-06
Oct-06
Jan-07
Source: Haver Analytics, Merrill Lynch
Notes:
CPI inflation, durables/semi-durables ex-autos
CPI inflation, services excluding shelter
BoC target
6
5
4
3
2
1
0
-1
-2
-3
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
19
May
2007
Money & credit indicators a
marginal worry to the upside
Narrow money suggests stronger growth
Real GDP (2qma, LHS)
q/q% saar
21
Broad money has accelerated
y/y%
q/q% saar
7
Real M1+ (LHS, 2qma, advanced 1q)
12
18
6
15
5
12
4
8
9
3
6
6
2
3
1
0
0
-3
-1
99
00
01
02
03
04
05
06
07
Gross M3 money supply
10
4
2
0
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07
Source: Haver Analytics, Merrill Lynch
Credit growth slower but still elevated
y/y%
M2++ money supply
Source: Haver Analytics, Merrill Lynch
Notes:
Consumer credit
Residential mortgage credit
Business credit
16
12
8
4
0
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
20
May
2007
Canada inflation outlook mixed vs
downside in US
CPIX likely to come down to target…
5
y/y%
ML forecasts
… but not as fast as in the US
y/y%
3.5
Canada core inflation
ML forecasts
US core inflation
3
4
CPI
2.5
3
2
2
1.5
1
CPIX
BoC target
1
0
02
03
04
05
06
07
0.5
08
03
Source: Haver Analytics, Merrill Lynch
Reversing the recent differential
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
Notes:
Canada-US headline inflation differential
pp
2.5
Canada-US core inflation differential
ML forecasts
2
1.5
1
0.5
0
-0.5
-1
-1.5
-2
97
98
99
00
01
02
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
21
May
2007
 Canada growth, inflation rising above US
 Real, nominal interest rates remain below US
 Something has to give
22
May
2007
So far, it’s been the currency that’s
borne the brunt of adjustment…
An abrupt reversal in trend
Mostly Type I?
USD-CAD
BoC assumption range, April MPR
1.200
BoC commodity price index (LHS, inverted)
170
1.200
USD/CAD (RHS)
1.175
180
1.175
1.150
190
1.150
1.125
200
1.125
1.100
210
1.100
1.075
Jan-06
Apr-06
Jul-06
Oct-06
Jan-07
220
Jan-06
Apr-07
Source: Haver Analytics, Merrill Lynch
Or Type II?
1.075
Apr-06
Jul-06
Oct-06
Jan-07
Apr-07
Source: Haver Analytics, Merrill Lynch
Notes:
USD broad index (Fed, LHS)
112
1.200
USD/CAD (RHS, inverted)
1.175
110
1.150
108
1.125
106
104
Jan-06
1.100
1.075
Apr-06
Jul-06
Oct-06
Jan-07
Apr-07
Source: Haver Analytics, Merrill Lynch
23
May
2007
… more than enough, if the US
does what we expect
Stronger CAD path…
… tilts down economic profile…
Real GDP growth (q/q% SAAR, LHS)
USD-CAD with ML assumption
1.40
6
3
Output gap (% of GDP, RHS)
USD-CAD with former ML assumption
1.35
ML forecasts
1.30
4
2
2
1
0
0
1.25
1.20
1.15
1.10
1.05
-2
04
05
06
07
08
-1
00
01
Source: Haver Analytics, Merrill Lynch
02
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
… even with lower rates, assuming Fed cutting Notes:
%
ML forecasts
Canada overnight target
7
US Fed funds target
6
5
4
3
2
1
0
00
01
02
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
24
May
2007
Leaving higher CA-US base case
on mixed rates, steeper curve
Positive spreads seen by 2008
bps
%
Canada-US 2-year spread
300
Canadian yields seen higher on net
ML forecasts
Canada-US 10-year spread
Canada 10-year yield
7
ML forecasts
US 10-year yield
250
6
200
150
5
100
50
4
0
-50
3
-100
-150
2
00
01
02
03
04
05
06
07
08
00
01
Source: Haver Analytics, Merrill Lynch
A steeper curve
%
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
Notes:
Canada 2-year yield
7
02
ML forecasts
Canada 10-year yield
6
5
4
3
2
00
01
02
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
25
May
2007
Most confident aspect of rate
forecast is Canada-US convergence
Spreads have followed inflation gap…
2.5
Canada-US headline inflation y/y differential (LHS)
pp
pp
Canada-US 10-year yield spread (RHS)
1.6
2
1.2
1.5
1
0.8
0.5
… and jobs gap
5
pp
pp
Canada-US y/y employment growth differential (LHS)
2
Canada-US 10-year yield spread (RHS)
4
1.5
3
1
2
0
0.4
0.5
1
-0.5
0.0
-1
-1.5
-0.4
-2
-2.5
-0.8
97
98
99
00
01
02
03
04
05
06
07
0
0
-0.5
-1
-2
-1
97
98
Source: Haver Analytics, Merrill Lynch
If Fed on hold, expect convergence up
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Notes:
%
Canada overnight target
7
Alternate
scenario
US Fed funds target
6
5
4
3
2
1
0
00
01
02
03
04
05
06
07
08
Source: Haver Analytics, Merrill Lynch
26
May
2007
Canadian equities have attended
the global party
TSX has built on 2002-06 doubling…
Index Jan1/97=100
Canada TSX Composite
250
Concentration in high beta sectors has helped
60
World Composite (DJ)
Share of index in low-beta sectors (consumer staples, health care & utilities)
%
Share of index in high-beta sectors (materials, energy and info tech)
50
200
40
150
30
20
100
10
50
0
97
98
99
00
01
02
03
04
05
06
07
Canada TSX Composite
Source: Haver Analytics, Merrill Lynch
As has M&A/private equity boom
US S&P 500
Source: Haver Analytics, Merrill Lynch
Notes:
C$bn
100
FDI into Canada: All other industries
FDI into Canada: Energy/mining
80
60
40
20
0
91
92
93
94
95
96
97
98
99
00 01 02 03 04 05 06
Note: Four quarter moving sums shown
Source: Haver Analytics, Merrill Lynch
27
May
2007
Multiple expansion has taken over
as earnings flatten out
Trailing earnings flat, forward earnings falling
900
Macro factors suggest further softness
Trailing 12-month TSX Composite EPS
C$
S&P TSX trailing 12m earnings per share (RHS)
pp
12
2007 consensus TSX Composite EPS
y/y%
90
ML Canada CMI (LHS, 4qma, advanced 1Q)
ML
fc
9
60
6
800
30
3
0
0
700
-30
-3
-6
600
Jan-06
Apr-06
Jul-06
Oct-06
Jan-07
Apr-07
-60
85
88
Source: Haver Analytics, Merrill Lynch
91
94
97
00
03
06
09
Source: Haver Analytics, Merrill Lynch
But higher valuations have more than made it up Notes:
TSX Composite index (LHS)
14000
17.0
TSX Composite FY1 P/E ratio (RHS)
16.0
13000
15.0
12000
14.0
11000
13.0
Jan-06
Apr-06
Jul-06
Oct-06
Jan-07
Apr-07
Source: Haver Analytics, Merrill Lynch
28
May
2007
Has abundant global liquidity
made the ‘Fed model’ apply?
Earnings yields above bond yields…
18
%
… leave an apparently juicy spread
pp
Long Canada bond yield
TSX Composite earnings yield less long Canada bond yield
4
TSX Composite earnings yield
15
2
12
0
-2
9
-4
6
-6
3
-8
0
-10
82
87
92
97
02
07
82
Source: Haver Analytics, Merrill Lynch
Hasn’t worked in the past, but…
20
pp
87
92
97
02
07
Source: Haver Analytics, Merrill Lynch
Notes:
%
80
TSX Composite earnings yield less long Canada bond yield (LHS)
Subsequent 12-month TSX performance (RHS)
15
60
10
40
5
20
0
0
-5
-20
-10
-40
82
87
92
97
02
07
Source: Haver Analytics, Merrill Lynch
29
May
2007
Risk of adverse shift in fund flows,
too
Historic underweight in foreign assets ebbing…
Year-over-year change in foreign equities as a share of total RPP equities held
pp
Foreign assets as a % of total Canadian
registered pension plan assets
30
… in both bonds and stocks
8
Year-over-year change in foreign bonds as a share of total RPP bonds held
6
25
4
20
2
15
0
-2
10
94
95
96
97
98
99
00
01
02
03
04
05
94
06
95
Source: Haver Analytics, Merrill Lynch
Foreign portfolio inflows have offset, for now
C$bn
36
Foreign purchases of outstanding Canadian equities* (LHS)
TSX Composite Index (RHS)
96
97
98
99
00
01
02
03
04
05
06
Source: Haver Analytics, Merrill Lynch
Notes:
y/y%
70
27
18
35
9
0
0
-9
-18
93
95
97
99
01
03
-35
05
07
* - 12 month rolling sum
Source: Haver Analytics, Merrill Lynch
30
May
2007
Canada among markets vulnerable
to reassessment of risk
Volatility is low…
… and risk appetite is high
S&P VIX Index
48
450
Chinese equities (DJ Shanghai Composite Index)
400
40
350
300
32
250
24
200
150
16
100
50
8
97
98
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
97
98
99
00
01
02
03
04
05
06
07
Source: Haver Analytics, Merrill Lynch
Lowered risk premiums – the apparent consequence of a long period of economic stability –
coupled with greater productivity growth have propelled asset prices higher… this vast
increase in the market value of asset claims is in part the indirect result of investors
accepting lower compensation for risk. Such an increase in market value is too often viewed
by market participants as structural and permanent. To some extent, those higher values
may be reflecting the increased flexibility and resilience of our economy. But what they
perceive as newly abundant liquidity can readily disappear. Any onset of increased investor
caution elevates risk premiums and, as a consequence, lowers asset values and promotes
the liquidation of the debt that supported higher asset prices. This is the reason that history
has not dealt kindly with the aftermath of protracted periods of low risk premiums.
- Alan Greenspan, Reflections on Central Banking, August 26, 2005
31
Key economic & financial
forecasts
May
2007
Real GDP (q/q % ann)
Consumption
Government
Housing Investment
Business Investment
Exports
Imports
Inventory (C$bn)
Final Dom. Demand
CPI (y/y%)
CPI-X (y/y%)
Overnight Target (eop. %)
2-yr GoC
10-yr GoC
USD-CAD
TSX Composite
TSX EPS
Memo:
US GDP
US Core CPI (y/y %)
Fed Funds (eop. %)
2-yr UST
10-yr UST
EUR-USD*
USD-JPY*
S&P 500**
S&P 500 Operating EPS
Quarterly
Q406
Q107
1.4
2.7
3.1
2.2
1.8
3.2
0.3
-3.0
6.0
3.4
4.8
3.0
-0.6
-2.0
1.0
-5.0
3.0
2.8
Q106
3.8
5.4
4.0
13.1
10.1
-4.8
-1.9
11.0
6.1
Q206
2.0
3.7
4.4
-4.7
6.9
-1.3
9.0
18.1
3.7
Q306
2.0
5.1
2.0
-6.9
9.4
3.5
5.1
13.9
4.0
2.4
1.7
3.75
3.99
4.26
1.17
2.6
1.8
4.25
4.40
4.58
1.12
1.7
2.1
4.25
3.91
4.00
1.12
1.3
2.2
4.25
4.02
4.08
1.17
5.6
2.1
4.75
4.82
4.85
1.21
117
2.6
2.5
5.25
5.16
5.15
1.28
115
2.0
2.8
5.25
4.71
4.64
1.27
118
3.5
2.7
5.25
4.82
4.70
1.32
119
Q207
2.8
4.0
3.8
-2.0
4.1
1.0
6.0
-2.0
3.6
Q307
2.1
3.4
4.4
-4.0
3.8
0.0
5.0
0.0
3.2
Q407
1.9
3.6
4.4
-4.0
3.8
1.0
5.0
0.0
3.3
2005
2.9
3.9
3.2
3.2
9.4
2.1
7.1
15.5
4.3
Annual
2006
2.7
4.4
3.8
2.4
9.2
1.4
5.2
11.0
4.5
2007
2.3
3.6
3.3
-3.0
5.0
2.2
2.6
-1.8
3.3
2008
2.6
3.5
4.2
-3.6
4.8
2.1
5.6
3.4
3.3
1.8
2.3
4.25
3.98
4.11
1.15
2.0
2.3
4.25
4.25
4.25
1.17
2.4
2.1
4.25
4.15
4.20
1.20
2.9
2.0
3.75
4.00
4.20
1.18
2.2
1.6
3.25
3.85
3.98
1.16
11,272
603
2.0
1.9
4.25
4.02
4.08
1.17
12,908
750
2.3
2.2
3.75
4.00
4.20
1.18
12,900
735
2.1
2.0
4.50
4.60
4.80
1.12
13,200
790
1.3
2.5
5.25
4.58
4.65
1.34
118
2.0
2.3
5.25
4.55
4.50
1.34
114
2.0
2.0
4.75
4.35
4.30
1.33
107
2.0
2.0
4.25
4.15
4.20
1.33
107
3.2
2.1
4.25
4.40
4.39
1.18
118
1248
76.5
3.4
2.5
5.25
4.82
4.70
1.32
119
1418
87.7
2.0
2.2
4.25
4.15
4.20
1.33
107
1590
93.0
2.6
1.9
4.00
4.20
4.45
1.29
97
-97.0
*ML FX Strategy Team; **12-mth fwd; Shaded regions represent ML forecasts; Source: Merrill Lynch, Haver Analytics, CPMS
32
May
2007
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33