CONFERENCE CALL Dial in: 905 694 9451 (local to Toronto) Passcode: 549 537 728# CONFERENCE CALL COMMANDS Press 1 to skip backwards 5 seconds; press 3 skip forward 5 seconds Press 4 to skip backwards 5 minutes; press 6 to skip forward 5 minutes Press 5 to pause the presentation press 5 again to resume CAD OUTLOOK A BALANCED PERSPECTIVE CAMILLA SUTTON l CHIEF FX STRATEGIST l416 866 5470 l CAMILLA.SUTTON@SCOTIABANK.COM November 2013
SCOTIABANK: FORECAST FX USD performance is mixed REAL GDP US outperforms Canada 2012 2013f 2014f 2015f 00 12 2013f 2014f 2015f USDCAD 0.99 1.06 1.06 1.03 US 1.9 1.6 2.5 3.0 CADUSD 1.01 0.94 0.94 0.97 Canada 2.2 1.6 2.2 2.5 AUDUSD 1.04 0.93 0.93 0.95 Mexico 2.4 1.2 3.3 3.7 EURUSD 1.32 1.31 1.25 1.23 Euro Zone 1.3 (0.5) 0.7 1.3 GBPUSD 1.63 1.59 1.55 1.52 UK 1.7 1.5 2.1 1.3 USDJPY 87 101 109 113 Japan 0.9 2.0 1.8 1.2 USDCNY 6.23 6.08 5.98 5.86 China 9.3 7.7 7.3 7.0 INFLATION Expected to remain contained INTEREST RATES Remain accomodative US 1.6 2.0 2.0 Q413 Q414 Q415 Canada 1.4 1.8 2.1 FED 0.25 0.25 0.50 BoC 1.00 1.00 1.25 COMMODITIES Yearly averages ECB 0.25 0.25 0.25 Oil (WTI) 99 97 93 BoE 0.50 0.50 0.50 Gold 1,410 1,350 1,400 BoJ 0.10 0.10 0.10 RBA 2.50 2.75 3.50 1
YEAR TO DATE: THE STORY FX RETURNS YEAR TO DATE AGAINST USD (up to Nov 15, 2013) % Source: Bloomberg, Scotiabank FX Strategy FX MARKETS: THREE MAJOR THEMES Central bank policy diverging policy paths & spillover of G4 Global growth: 1) improving; 2) advanced vs emerging Politics: elections, leadership as well as geopolitical risks 2
THEME 1: CENTRAL BANK POLICY INFLATION US: INFLATION TRENDING LOWER EUROPE: INFLATION TRENDING LOWER Source: Bloomberg, Scotiabank FX Strategy.. Headline CPI % y/y Core CPI % y/y.. Headline CPI % y/y Core CPI % y/y Source: Bloomberg, Scotiabank FX Strategy CANADA: INFLATION TRENDING LOWER.. Headline CPI % y/y Core CPI % y/y Source: Bloomberg, Scotiabank FX Strategy Inflation threat fails to materialize US, European, Canadian and others have inflation trending lower. Disinflation has major risks. Disinflation opens door to central policy response. 3
THEME 1: CENTRAL BANK POLICY THE FED s DECISION NOT TO TAPER QE expect to be tapered in early 2014 o o o Goal build near term economic momentum by achieving an improvement in the labour force. Criteria Substantial improvement in labour market, interpreted as nonfarm gains +200k mth. QE not preset conditional on incoming data, financial markets and fiscal policy. LABOUR MARKET SENDS CONFLICTING MESSAGES NONFARM SHOWS EARLY SIGNS OF IMPROVEMENT 3mth MA 6mth MA 200k UNEMPLOYMENT AND CLAIMS DIVERGE Unemployment rate (R2) Jobless claims (R) Source: Bloomberg & Scotiabank FX Strategy Source: Bloomberg & Scotiabank FX Strategy 4
THEME 1: CENTRAL BANK POLICY THE US INTEREST RATE OUTLOOK Interest rates are on hold for an extended period o Current threshold of 6.5% unemployment: Not a trigger for higher rates, only a threshold Level at 6.5% likely to be lowered FED s message rates are on hold for an extended period LESS QE BUT STILL ZIRP = SHIFT IN INSTRUMENTS MIX BUT NOT A CHANGE IN ACCOMMODATIVE STANCE THRESHOLD FOR RATES: UNEMPLOYMENT RATE AT 6.5% Rate hike threshold = 6.5% Source: Bloomberg & Scotiabank FX Strategy 5
CAD NEUTRAL: BANK OF CANADA FOCUS CAPACITY, INFLATION & HOUSEHOLD DEBT CANADIAN INFLATION DISINFLATIONARY PRESSURES Source: Scotiabank Economics & FX Strategy & Bloomberg BANK OF CANADA'S FOCUS 1. Inflation expected to trend higher; returning to target Q4 2015. 2. Excess capacity output gap expected to close end 2015. 3. Household debt showing signs of stabilization. 6
CAD NEUTRAL: BANK OF CANADA FOCUS CAPACITY, INFLATION & HOUSEHOLD DEBT EXCESS CAPACITY IN THE CANADIAN ECONOMY Bus outlook survey : some difficulty meeting rising demand (L) Business outlook survey labour shortages (L) Output gap measure (excl temp factors) (R) Source: Bank of Canada BANK OF CANADA'S FOCUS 1. Inflation expected to trend higher; returning to target Q4 2015. 2. Excess capacity output gap expected to close end 2015. 3. Household debt showing signs of stabilization. 7
THEME 1: CENTRAL BANK POLICY SPILLOVER EFFECTS 1. Financial Stability Risk Low interest rates fuel household debt. Rising real estate prices and high household debt. Financial stability risk driver would be surge in unemployment or rising rates. Small open economies at risk of G4 central bank spillover effects. 2. Volatility central bank policy crushed vol in 2012; volatility likely to return when policy is removed. HIGH HOUSEHOLD DEBT, RISING REAL ESTATE PRICES, FINANCIAL STABILITY RISK HOUSE PRICE INDEX 10 YRS FROM Q1 2003 NZ CANADA SWEDEN AUSTRALIA UK Q1 2003 = 100 rebased Source: The Economist 8
CAD NEUTRAL: BANK OF CANADA FOCUS CAPACITY, INFLATION & HOUSEHOLD DEBT HOUSEHOLD DEBT TO DISPOSABLE INCOME Source: Bank of Canada & Stats Canada last observation: Q2 13 BANK OF CANADA'S FOCUS 1. Inflation expected to trend higher; returning to target Q4 2015. 2. Excess capacity output gap expected to close end 2015. 3. Household debt showing signs of stabilization. 9
CAD NEUTRAL: BANK OF CANADA MONETARY POLICY OUTLOOK ONE YEAR OIS PRICES IN 8% PROBABILITY OF RATE HIKE IN CANADA As of November 15th Source: Scotiabank FX Strategy & Bloomberg At 1.0% market pricing in a 0% probability of an interest rate hike or cut over next 12 months BANK OF CANADA REMOVES HAWKISH BIAS Market prices in 8% chance of rate hike in next 12months (as of November 5, 2013). 2014: Fed to taper and drive USD strength in 2014; December not off table. 2014 & 2015: BoC to shift to an increasingly hawkish stance, stabilizing CAD. Governor Poloz drops financial stability warning. 10
CAD POSITIVE THE NORTH AMERICAN ECONOMIC BACKDROPS ARE LINKED US & CANADIAN GDPs ARE LINKED Source: Bloomberg, Scotiabank FX Strategy US AND CANADIAN GDP ARE LINKED What is good for the US is good for Canada. 11
THE CDN vs US ECONOMIC: HOUSING AND EXPORTS ARE OFF CYCLE 2014 - CONSUMPTION, BUSINESS INVESTMENT & GOVERNMENT VS NET EXPORTS & RESIDENTIAL 0.5 2.0 CDN 0.4 CDN US 0.3 US 0.2 1.0 0.1 0.0 0.1 0.1 0.2 Consumption Business Investment Government Net Exports 2015 - CONSUMPTION, BUSINESS INVESTMENT & GOVERNMENT 2.0 CDN US 1.0 0.1 Consumption Business Investment VS NET EXPORTS & RESIDENTIAL 0.4 0.3 0.3 0.2 0.2 0.1 0.1 0.0 0.1 0.1 0.2 Government Residential CDN US Net Exports Residential Source: Scotiabank 12
CAD RISK: NORTH AMERICAN OIL PRICING OIL PRICE SPREADS Brent WTI Spread between Brent and Western Canadian Select Western Cdn Select Source: Scotiabank FX Strategy & Bloomberg OIL: PRICING IMPROVED BUT DETERIOATING AGAIN The Brent Western Cdn Select spread narrowed into the summer; but has widen again This spread is important for Canada; when it is narrow it is CAD pos and vice versa. 13
CAD RISK: US DOMESTIC OIL PRODUCTION US DOMESTIC PRODUCTION DOES NOT EQUAL LOWER CDN OIL EXPORTS US OIL IMPORTS ARE FALLING BUT NOT FROM CANADA Mn of barrels Total US oil imports US imports from Canada Source: Scotiabank FX Strategy, Bloomberg, US Department of Energy 14
CAD NEGATIVE: CURRENT ACCOUNT DEFICIT CANADA's CURRENT ACCOUNT DEFICIT 3 MERCHANDISE TRADE DEFICIT 2 1 0 Forecast (IMF) 1 2 3 4 2000 2005 2010 2015 Source: Scotiabank FX Strategy & IMF Source: Bloomberg & Scotiabank FX Strategy CANADA s CURRENT ACCOUNT & TRADE BALANCES Canada is expected to make little headway on improving its current account deficit. 15
CAD POSITIVE: DEBT & FISCAL BURDEN CANADA: NET DEBT IS LOW CANADA: FISCAL DEFICIT IS IMPROVING 50 40 as % of GDP Forecast 2 as % of GDP Forecast 30 0 20 2 10 4 0 2000 2005 2010 2015 Source: IMF, Scotiabank FX Strategy 6 2000 2005 2010 2015 CANADA S BALANCES ARE THE ENVY OF MANY Net debt is low and stable Fiscal deficit is a concern, but narrowing Not as positive as it was in mid 2000s Positive on relative metric 16
CAD POSITIVE: FLOWS FOREIGN INTERNATIONAL SECURITIES TRANSACTIONS Fgn fixed income Fgn equity 6 mth MA of total Source: Bloomberg, Scotiabank FX Strategy CAD POSITIVE FLOWS MODERATE International securities transactions trending lower Diverging equity performance Flows remain positive but smaller Psychology has changed 17
CAD POSITIVE: FLOWS THE VALUE IN TRIPLE AAA 7.0% 6.0% ALLOCATION TO OTHER, CAD, AUD CAD (bn) $450 bn $400 $350 $25 bn CHANGE IN RESERVES Q/Q 5.0% 4.0% 3.0% 2.0% AUD (bn) Reserves (bn) Percent (L) $300 $250 $200 $150 $100 $050 $00 $25 CAD EUR AUD CHF USD GBP JPY Other emerging advanced 1.0% 2007 2009 2011 2013 $000 $50 Source: Scotiabank FX Strategy, IMF FX RESERVE MANAGEMENT SUPPORTS CAD FX reserves allocated to other currencies falls but to CAD and AUD it climbs. FX reserve buying of USD, CAD and AUD is only positive. 18
CAD NEUTRAL: SENTIMENT IS BEARISH BUT FAR MORE BALANCED 100 75 50 25 0 25 50 75 CAD: GROSS LONG, SHORT & NET '000s of contracts long short 100 Net Position Gross Long Gross Short 125 Nov 12 Jan 13 Mar 13 Jun 13 Aug 13 Oct 13 Source: Bloomberg, Scotiabank FX Strategy 10 5 long short 5 10 NET LONG / SHORT POSITION VS USD $ bn JPY AUD CAD GBP MXN NZD CHF EUR Source: Bloomberg, Scotiabank FX Strategy As of November 5 th, 2013 SENTIMENT IS BEARISH TOWARDS CAD CAD is held net short; but far more balanced than in April 2013. Allocation to CAD is relatively small. 19
CAD DRIVERS & OUTLOOK USDCAD FORECAST Q4 2014: 1.06 CENTRAL BANK POLICY: FED TO TAPER DRIVING USD STRENGTH BOC DROPS HAWKISH BIAS GROWTH OUTLOOK U.S. ECONOMY SET TO OUTPERFROM IN MEDIUM TERM WHAT IS GOOD FOR U.S. IS GOOD FOR CANADA CHINA s OUTLOOK IS STABILIZING (SCOTIABANK EXPECTS 7.3% GDP IN 2014) CANADIAN ECONOMIC FUNDAMENTALS LOW INFLATION & MODERATE EMPLOYMENT GAINS & HOUSING PRICES ARE CONCERNS COMMODITIES MARKET TOO PESIMISTIC ON IMPACT OF US DOMESTIC PRODUCTION ON CANADA CURRENT ACCOUNT & DEBT PROFILE: LONG TERM STORIES UNLIKELY TO DRIVE NEAR TERM CAD FLOWS: POSITIVE BUT MODERATING SENTIMENT: NEUTRAL CAD 20
SUMMARY USDCAD BULLISH INTO 2014 BUT THEN HOLDS IT OWN Q4 2014: 1.06 Economy underperforms and reliant on US. Central banks Fed to taper eventually; Fed and BoC to hike rates in tandem. Politics US side overshadows Canadian side. EURUSD BEARISH Q4 2014: 1.25 Economy underperforms and still struggling to firm. Central banks ECB likely to stay dovish for longer than other central banks. Politics vulnerable to negotiations in banking sector banking union (SRM). GBPUSD BEARISH Q4 2014: 1.55 Economy recent positive upswing; but still leveraged to Europe. Central banks BoE likely to stay dovish for longer than the Fed. Politics US side to temporarily overshadow UK side. USDJPY BULLISH Q4 2014: 109 Economy recovering and early success on Abe s policy Central banks BoJ likely to increase expansion of monetary base and drive USDJPY upside. Politics vulnerable to PM Abe s foreign policy and aggressive goals. 21
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