Economic Update

Over the past week I have attended three seperate financial forums:

Dr. Martin Murenbeeld, Chief Economist, Dundee Wealth

TD Financial:  five member symposium (economist and four portfolio managers)

Mackenzie Financial:  Full day financial forum, (economic and financial updates)

I thought it would be prudent to pass on a summary of the information presented

All three economists were in agreement that the root of the current financial problems was the overinflated price of real assets, namely US real estate.   Foreign exchange reserves reaching in excess of 5 trillion dollars created excess liquidity, leading financial institutions to lend those reserves and inflate prices.   At the same time, the US consumer decreased savings.

As housing prices fell (collapsed) we have experienced a massive de-leveraging, causing further price depression of all asset classes, equities included.

This depression of asset prices, caused by excess supply, could have turned into a depression spiral. 

BUT IT WILL NOT

Why?

Monetary and Fiscal Policy.

1) Massive increases in fiscal deficits (governments spend more)

this did not occur until too late in the last depression.  1.8 trillion dollar deficit (US)  14% of GDP

2)  Massive increases to the money supply

federal reserve pumps money into the system by buying treasuries, and banks have excess reserves to go out and lend.  Fed will also be buying corporate paper to add to the reserves.  When the banks start to lend the money supply will decrease.

3) Currency devaluation

Massive Chinese FX reserves (1,750 TRILLION) keep raising US dollar, but chinese currency has been rising, making chinese imports more expensive.  This is good for US domestic manufacturers

US recession

unemployment will rise to 10%

confidence is down sharply due to housing price declines.

When household wealth grows, consumer spending will rise.

End of recession:

forecasting Q3, 2009

15 trillion in government spending programs/guarantees will create activity

House prices will eventually stop falling as they are at 2004 levels.

Canadian Recession:

will be longer than the US recession.  Unemployment is at 8%, but reached 13% in 1982.  Canadian housing starts are down 5-7%.  Expect a further 10-15% decline in house prices from current levels.   It is still cheaper to rent vs. own, but suggest making “sucker bids” by low balling any offers.

Canadian dollar:

80-83 is comfort level.  If commodities rally so will the dollar.

US dollar:

major controllers are Chinese/Russia/Europe Foreign exchange reserves

EQUITIES:
S&P 500 is down close to 40% and is currently undervalued.  Peak to trough down 56%!  Biggest decline ever except for the great depression..remember: depression is over 20% GDP contraction.  Thought is we have panicked too much and equities are cheap.

TSX:  70% chance that March was the bottom of the market.

Bonds

Corporate and High yield bonds offer the best opportunities. Default rates will rise, but not in higher credit rated bonds

Commodities:

weak demand and weak world growth will affect the rebound.  China continues to stockpile copper.  Suggest dollar cost averaging back into commodities

marginal cost for producing oil is approximately $80/bbl, so prices will rise.   Canada/us consume 23/bbl per capita, china only 1/bbl .  this will definitely increase demand curve going forward.

Gold:  monetary stimulus is good for gold.   International deficits are good for gold, as all countries are trying to devalue their currencies and thus increase exports.   Near term cautious on Gold prices.  5% weighting

Interest rates:

will remain low into 2010.

Impact on long term investment accounts:  (rrsp/RRIF/long term cash/tfsa)

Cash is yielding next to nothing.  Fixed income needs to be increased and corporate and high yield bonds added.  slight overweight to canadian equities, especially dividend paying companies.  US and international exposure should be currency hedged.  Consider 5% of a portfolio to gold.

Asset allocation:

cash 10-30%  (the upper end only for clients close to retirement or regularly withdrawing now)

Bonds:  40-50%

Equity:    50%-60%