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Second Quarter 2013

July 15, 2013 • Print This Article

There appears to be growing disconnects between the US and the Canadian equity markets.
The US equity market has been driven by quantitative easing (QE). Interest rates have been pushed down to a level where there are negative real returns. This has fueled a buying spree in equities, driving markets to record highs. The yield curve has begun to steepen as the Fed contemplates removing QE at some point in the future when economic conditions warrant. The increase of yield in longer maturity bonds may be a signal that the 30 year bull market in bonds may be winding down. Some of the money leaving the bond market appears to be slowly flowing into equities further driving the rally. The US Dollar has been very strong which appears to be contrary to current debt and monetary policies. However, as the largest most liquid global currency it is seen as the currency of last resort and has benefited from continuing problems in Europe, unrest in the Mideast and a drop in gold and commodity prices.

In Canada, investors appear to be suffering as a result of our Government's prudent management. Canada's fiscal books are in much better order than virtually any country in the developed world. The Harper government looks to balance its budget by 2015. Ontario appears to be committed to budgetary balance by 2018. Without the jet fuel of monetary stimulus, the Canadian equity markets have under-performed even though economic indicators appear to be somewhat stronger than those south of the border (GDP and employment). The predicted softening in the housing market has not occurred. Home sales, housing starts and pricing remain stable. Commodity markets have cooled dramatically as China's economy slows. Gold prices have retreated in anticipation of higher bond yields and economic recovery. Although oil prices have rallied to 15 month highs, due to global political unrest and surprise draw downs in US oil inventories, the value of Canadian oil stocks are less than they were the last time oil prices were at these levels. This is partly due to discounted Canadian oil prices.

The steepening yield curve is a major benefit to banks which tend to borrow short and lend long and to insurance companies as they match premium maturities. It is somewhat negative for REITS which typically borrow long and have benefited recently by being able to roll maturing bonds and debt at lower rates. Rising interest rates are also harmful to homeowners as the interest cost of mortgages and consumer debt increase. It is thought that interest rates will have to rise at least 1.5%-2% to significantly impact the US housing recovery and or the stability of the Canadian housing market. However, we do not anticipate a rapid increase in rates.

We continue to remain underweight and at the short end of the bond market. We believe that interest rates, over the longer term, should rise as economies improve and stimulus is gradually removed. We are of the opinion that the greatest risk to portfolio values currently lies in long maturity bonds which are heavily influenced by interest rates.

We remain committed to the Canadian equity market. We believe, as the US and global economies recover, Canada will continue to benefit as a provider of essential goods. The weakness in China we think is a soft landing and growth should re-accelerate in 2014. The US still accounts for the majority of Canadian exports. It is not unreasonable to believe that a US recovery should be good for the Canadian economy and Canadian equity valuations.

Filed under: Uncategorized

The opinions, estimates and projections contained herein are those of the author as of the date hereof and are subject to change without notice and may not reflect those of Mackie Research Capital Corporation ("MRCC"). The information and opinions contained herein have been compiled and derived from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. Neither the author nor MRCC accepts liability whatsoever for any loss arising from any use of this report or its contents. Information may be available to MRCC which is not reflected herein. This report is not to be construed as an offer to sell or a solicitation for an offer to buy any securities. Member-Canadian Investor Protection Fund / member-fonds canadien de protection des ├ępargnants.

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