Highlights. April 2016

Transcription

1 Highlights April 216 We are relieved that Beijing has veered away from currency devaluation in its effort to spur growth. The authorities announced a fiscal deficit of 3% of GDP for 216, up from 2.5% last year. In our opinion, fear of Chinese recession with massive capital outflows is no longer warranted. The Federal Reserve surprised markets with a dovish statement and projections that halved the number of rate hikes anticipated in 216. In doing so the FOMC opened the door to USD weakness. The S&P/TSX has climbed more than 12% from its January 2 low, the biggest rebound in more than seven years in such a short period. Oil prices have played an unusually large role in buoying Canadian equities. Bank stocks have become an oil play in the eyes of investors because of fear of contagion from the oil patch to the rest of the economy. We see such fear as exaggerated. Our asset allocation is unchanged this month. We are maintaining our recommendation to overweight equities relative to our benchmark. A slow-moving Fed, combined with fiscal stimulus in China and accommodative global monetary policies, keeps us optimistic about the world economy. Given our outlook of continued USD softness, we continue to see some lift for commodity prices in the coming months. Our target for the S&P/TSX is 14,7, for the S&P 5 2,2. Stéfane Marion stefane.marion@nbc.ca Matthieu Arseneau matthieu.arseneau@nbc.ca

2 Spring thaw A winter of glacial conditions for investors is coming to an end. The MSCI AC index has recouped almost half of its losses. On March 25 it was up 4.4% month to date, its best performance since last October (table). Quite tellingly, all regions were up on the month, led by a 6.8% advance of emerging markets their best showing since January 212. MSCI composite index: Price Performance Month to date Quarter to date Year to date MSCI AC World MSCI World MSCI USA MSCI Canada MSCI Europe MSCI Pacific ex Jp MSCI Japan MSCI EM MSCI EM EMEA MSCI EM Latin America MSCI EM Asia /25/216 At this writing the MSCI EM is on track for a second consecutive quarterly increase, its first since 213. This is an important development as it implies that fear of a global economic relapse is abating. Helping to quell these fears is U.S.-dollar depreciation. As the chart below shows, the greenback is down 4% from the end of January, its largest 5-day depreciation in more than five years. World: USD has depreciated the most since 211 Trade-weighted index of U.S. dollar against 26 currencies Index The USD has fallen 4% since the end of January Our expectation of USD depreciation in 216 was the cornerstone of our decision late last year to remain overweight in equities relative to our benchmark and to lower our exposure to U.S. stocks. So far so good. We think there is a bit more depreciation in store if policymakers make the right moves. China: RMB devaluation threat recedes Index of RMB against 13 currencies vs. index of RMB against USD January 215 = Q1 214Q2 214Q3 214Q4 215Q1 215Q2 215Q3 215Q4 216Q1 216Q2 The RMB is down against a basket of currencies RMB index RMB/USD but not against the USD As for China, we are relieved that Beijing has veered away from currency devaluation in its effort to spur growth. On March 6 the authorities announced a fiscal deficit of 3% of GDP for 216, up from 2.5% last year. Moreover, government spending will focus on labourintensive industries and especially on transportation infrastructure. The plan to build 5 airports by 22 and a new 2,-km railway shows the government s commitment to recycling workers displaced from the coal and steel industries, where pollution and excess capacity were rampant. Importantly, Beijing s 5-year plan does not set trade targets. This means less temptation to use currency devaluation. As the chart above shows, the index of the RMB against 13 currencies continues to trend down but that is due entirely to the weakening of the USD against other currencies the RMB has actually strengthened against the USD. In our opinion, fear of Chinese recession with massive capital outflows is no longer warranted. We are encouraged to see that industrial profits in January-February were up 4.8% from a year earlier, ending a run of 11 consecutive monthly declines (chart next page)

3 China: Profits no longer declining Industrial profits % y/y -5 Dec 214 Jan 215 Apr 215 Jul 215 Oct 215 Jan 216 NBF Economics and Strategy (data via Bloomberg) Beijing s policies combined with a weaker USD have buoyed commodity prices. The CRB Metals index is up more than 15% year to date, Brent oil almost 13%. That means less deflation in the months ahead and upside potential for earnings. We see this as a necessary condition for equity markets to advance in 216. World: Commodity prices since 26 CRB Metals Index and Brent oil 1,4 1,3 1,2 1, 1, Index NBF Economics and Strategy (data from Datastream) The Fed: friend or foe? US$/barrel Oil (right) Metals (left) The Federal Reserve surprised markets March 16 with a dovish statement and projections that halved the number of rate hikes anticipated in 216. In doing so the FOMC opened the door to USD weakness. This turn of events, coupled with super-accommodative monetary policies in Japan and the Eurozone and fiscal stimulus in China, sets the stage for a reflation trade. The Fed remains a friend, assuming no wageinflation surprise in the coming months that would force it to raise interest rates more than twice (our current forecast). At this juncture, we continue to think there is enough slack in the U.S. labour market to limit wage inflation in 216. As the chart below shows, the official unemployment rate may be low by historical standards but that is not true of the wide measure of unemployment that includes discouraged workers. Historically, the wide measure needs to drop to 8% or less to generate inflation. U.S.: Wage inflation remains tame Unemployment rate (official and wide measure) vs. wage inflation % Official U.R Wide U.R. Wage inflation Not having to swim against the Fed is nice. But for equities to move higher when valuations are not low, we also need a better economy. Fortunately, U.S. indicators are no longer disappointing. As the next chart shows, momentum is shifting in the right direction: economic surprises are on the verge of turning positive for the first time in more than a year. That development could go far to revive earnings expectations. As the chart shows, analysts have been revising down their outlook for S&P 5 forward earnings every week since the end of 214. U.S.: Economic surprises have been negative since 214 Economic surprise index vs. 3-month revision of S&P 5 forward earnings % Q2 214Q3 214Q4 215Q1 215Q2 215Q3 215Q4 216Q1 216Q2 NBF Economics and Strategy (data via Bloomberg and Datastream) Economic surprises (right) Earnings revisions (left) index

4 Helping to solidify the outlook is a substantial easing of financial conditions in recent weeks. Overall financial conditions are now back where they were at the time of the first Fed rate hike December 16. If the economy continues to improve, we would expect financial conditions to ease further via tighter corporate spreads and a better stock market. U.S.: Financial conditions are easing Financial conditions index (GSFI) 14.5 Index NBF Economics and Strategy (data via Bloomberg) S&P/TSX: more upside? The S&P/TSX has climbed more than 12% from its January 2 low, the biggest rebound in more than seven years in such a short period. Oil prices have played an unusually large role in buoying Canadian equities. As the chart below shows, the correlation between the daily change of the S&P/TSX and the daily change of the price of WTI oil is currently at a long-term high of.75. This is all the more impressive given that the weight of Energy in the S&P/TSX has fallen from 32% to a multi-year low of just 19% (chart). What s happening? S&P/TSX: Energy sector now less than 2% of the index Weight of Energy sector in S&P/TSX market cap % NBF Economics and Strategy (data via Bloomberg) For Canadian banks, which account for 23% of the equity benchmark, the 13-week correlation with the price of oil has exploded to.65 also a long-term high (chart, below). Bank stocks have become an oil play in the eyes of investors because of fear of contagion from the oil patch to the rest of the economy. We see such fear as exaggerated. For one thing, earnings excluding Energy are currently at a record, buoyed by rising export volumes and a competitive currency. With full-time employment at a record in Ontario, Quebec and British Columbia, we do not see a surge in delinquent loans in 216. For another thing, Ottawa has opted to support growth with fiscal stimulus of.5% of GDP in 216 and 1% of GDP next year. Canada: Trading on oil like never before (1) Correlation between S&P/TSX and WTI* week moving correlation * 13-week moving correlation of daily % changes Canada: Trading on oil like never before (2) Correlation between S&P/TSX banks and WTI*.7 Moving correlation weeks 1-year 5-year * Correlation of daily % changes 4

5 With economic surprises turning positive for the first time since last fall, our view of the Canadian economy has turned more constructive. This month we are revising our 216 economic growth forecast from.9% to 1.3% (see our Economic Monitor for details). Canada: Corporate operating profits From operations on Canadian territory, annual data $ billion Nonfinancial non-energy Financial Energy * * Oil and gas extraction and support operations plus petroleum and coal product manufacturing NBF Economics and Strategy (data from Statistics Canada) With this improved backdrop, we remain constructive on bank stocks. Though we see limited upside for oil prices between now and year end (our target for WTI is $45), we expect bank stocks to move higher as investors become confident there is no accident waiting to happen to the Canadian economy. Canada: Economic surprises turn positive Citi economic surprise index (weekly data) Asset allocation Our asset allocation is unchanged this month. We are maintaining our recommendation to overweight equities relative to our benchmark. A slow-moving Fed, combined with fiscal stimulus in China and accommodative global monetary policies, keeps us optimistic about the world economy. Given our outlook of continued USD softness, we continue to see some lift for commodity prices in the coming months. Our target for the S&P/TSX is 14,7, for the S&P 5 2,2. Sector rotation Our sector allocation for the S&P/TSX is unchanged this month with a recommendation to overweight bank stocks. NBF Asset Allocation Benchmark (%) NBF Recommendation (%) Equities Canadian Equities 2 23 U.S. Equities 2 2 Foreign Equities (EAFE) 5 7 Emerging markets 5 8 Fixed Income Cash 5 5 Total NBF Economics and Strategy Change (pp) 7 Index 6 For the first time 5 since November data is surprising 3 on the upside Q1 215Q2 215Q3 215Q4 216Q1 216Q2 NBF Economics and Strategy (data via Bloomberg) 5

6 NBF Market Forecast NBF Market Forecast Canada United States Actual Q1 217 (Est.) Actual Q1 217 (Est.) Index Level Mar Target Index Level Mar Target S&P/TSX 13,39 14,7 S&P 5 2,37 2,2 Assumptions Q1 217 (Est.) Assumptions Q1 217 (Est.) Level: Earnings * Level: Earnings * Dividend Dividend PE Trailing (implied) PE Trailing (implied) Q1 217 (Est.) Q1 217 (Est.) Treasury Bills (91 days) Treasury Bills (91 days) year Bond Yield year Bond Yield * Before extraordinary items, source Thomson * S&P operating earnings, bottom up. NBF Economics and Strategy 6

7 NBF Fundamental Sector Rotation - April 216 Name (Sector/Industry) Recommendation S&P/TSX weight Energy Market Weight 19.2% Energy Equipment & Services Market Weight.5% Oil, Gas & Consumable Fuels Market Weight 18.7% Materials Market Weight 11.1% Chemicals Underweight 2.4% Containers & Packaging Market Weight.4% Metals & Mining * Market Weight 2.1% Gold Market Weight 5.6% Paper & Forest Products Overweight.5% Industrials Market Weight 8.1% Capital Goods Overweight 1.8% Commercial & Professional Services Underweight.8% Transportation Market Weight 5.6% Consumer Discretionary Underweight 6.7% Automobiles & Components Underweight 1.5% Consumer Durables & Apparel Overweight.6% Consumer Services Underweight 1.% Media Market Weight 2.2% Retailing Underweight 1.4% Consumer Staples Underweight 4.7% Food & Staples Retailing Underweight 3.7% Food, Beverage & Tobacco Underweight 1.% Health Care Market Weight 1.% Health Care Equipment & Services Market Weight.2% Pharmaceuticals, Biotechnology & Life Sciences Market Weight.8% Financials Overweight 38.% Banks Overweight 23.7% Diversified Financials Market Weight 1.5% Insurance Overweight 7.3% Real Estate Market Weight 5.5% Information Technology Overweight 3.% Software & Services Overweight 2.5% Technology Hardware & Equipment Market Weight.5% Telecommunication Services Underweight 5.8% Utilities Underweight 2.5% * Metals & Mining excluding the Gold Sub-Industry. 7

8 ECONOMICS AND STRATEGY Montreal Office Toronto Office Stéfane Marion Marc Pinsonneault Warren Lovely Chief Economist & Strategist Senior Economist MD, Public Sector Research and Strategy Paul-André Pinsonnault Matthieu Arseneau Senior Fixed Income Economist Senior Economist Krishen Rangasamy Senior Economist Angelo Katsoras Geopolitical Associate Analyst General: National Bank Financial Markets is a business undertaken by National Bank Financial Inc. ( NBF ), an indirect wholly owned subsidiary of National Bank of Canada, and a division of National Bank of Canada. This research has been produced by NBF. National Bank of Canada is a public company listed on Canadian stock exchanges. The particulars contained herein were obtained from sources which we believe to be reliable but are not guaranteed by us and may be incomplete. 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