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Economic Impact

To keep you informed and stimulate your thinking, Stéfane Marion and Denis Girouard take a look at economic news and share their perspectives in our monthly informative videos.

Hello everyone. Welcome to Economic Impact. Today is September 10th, 2024 and as usual, I am with our Chief Economist, Stéfane Marion. Good morning, Stéfane.

Good morning, Denis.

So, since the last time, we see the performance from the asset classes being a bit different. Since the last time.

Since we last time we saw each other, was in July at the beginning of Q3, right, all asset classes were rising. We were arguing for potential volatility. And now near the end of Q3, we can see this volatility has actually occurred, or more dispersion I should say with respect to the total returns of different asset classes. Note that the S&P TSX was really trailing behind all the other equity indices, actually leading in the third quarter, but followed by the bond market. And maybe the biggest difference, Denis, is the underperformance or lack of performance, negative performance from the S&P 500. So that's a big change from the start of the third quarter.

And because of that, we saw the volatility increasing quite a lot.

Well, yeah, you know, the negative return was triggered by a surge in volatility in August. Note on this slide that if you exclude the pandemic episode, we haven't seen volatility - VIX - at 40 since 2015. So about a decade, 9 years. And that means Denis that people are now second guessing what the actual outlook will be like. I would just remind you that at this point in time, there's still 80% of investors that are bidding on a soft economic soft landing for the US. We'll see what happens. But clearly there are some investors saying, well, maybe things are not so clear cut going forward.

Yeah. And I think the Fed not decreasing rates makes that volatility is getting higher and higher because, you know, people are expecting those rates going down and they're not coming down.

Yeah. Do you know how long it's been since the Fed last cut rates, Denis?

Long, long time.

Well, since their last rate hike, it's been now 12 months. Historically, that's very, very long because on average, the Fed will cut rate seven months after its last rate hike. Now it's been a year. We're going to get one probably in September. But note on this slide, what the big difference is between this time around and previous cycle is that the unemployment rate is up almost a full percentage point. Well, 0.7 percentage point, which is much bigger in terms of amplitude than what you normally see in a typical cycle, which is the blue line on this slide.

Is that what we call the SAHM rules?

If you want to speak to economics jargon on that one. OK, fine. I'll summarize what the SAHM rule is. I'll simplify it. Normally when the unemployment rate that rises 1/2 percentage point above its cyclical low, you trigger what you call the SAHM rule. And historically it's been associated with a significant slow down of the economy and more often than not a recession. So the SAHM rule was actually triggered last July, which brought this volatility that we got in August on the stock market. Now, as I said before, most people still believe all the SAHM rule is misleading us this time around. Maybe the soft landing is still the typical outcome because even the Fed argues that they can achieve a soft landing despite being very late in the game in terms of cutting rates.

And despite the fact that about the Fed are not, you know, moving down on their rates, global inflation is still creeping down.

Now, I will concede that the Fed is able to cut rates now and maybe they will be able to cut rates aggressively because inflation is coming down. As you can attest on this slide, you know, it's a global phenomenon. It's not just a Fed that will be coming cutting rates. It's a whole bunch of central banks. And under the circumstances, if it's a synchronized easing cycle, people believe that, there you go, you're going to get this economic soft landing and earnings won't be impacted negatively.

And at the same time, you know, we're seeing the economy cooling. That means that, you know, earnings and revision may come.

 Inflation does not come down by magic, Denis. So basically, what that means is that for inflation to come down, you have to get slower economic growth. And if you get slower economic growth and you keep monetary policy restrictive, you can get an accident. You know, at some point in time, as you'll see on this slide, the blue line shows that global manufacturing activity is now contracting again. And historically this has been associated with downward earnings revision. So again, the market is priced for perfection right now because you're training at high multiples and the assumption is that, you know, mission accomplished by the central banks, you'll get this economic soft landing and no impact on earnings. But I think an impact, a negative impact is coming if you can gauge on historical relationship between activity and earnings revision.

But then earning growth expectation will have to come down because right now they are still pretty high.

 Yeah. And remember we spoke to this back in July and say, listen, this is a bit high. It was expectations of 14% over the next 12 months. It's been revised a little bit down, but you're still expecting 12%. That's the red zone or pink zone on this slide. 12%, you know earnings per share growth globally, but note that every region in the world is showing a positive uptrend on earnings despite the fact that monetary policy remains restrictive. So we're going to get these rate cuts Denis, but monetary policy is not becoming accommodative anytime soon. So you're going to get below potential growth, which I think will impact earnings.

More to come then on that front.

I think so, yeah.

OK. If we come back to Canada, then you know, GDP still pretty high, but consumption, personal consumption are not there.

Yeah. So, if you focus of course on GDP, you'll say, ah, it was a better outcome than expected, but that's because government accounted for 50% of growth in the second quarter. If you look at consumer spending, the red line on this slide is pretty anemic, Denis. So, and that's impressive when you consider that population growth continues to surge in 2024. So to get the surge in population growth, this and only 0.6% growth in consumption means that your economy is not performing very well. So things are not better than elsewhere in Canada. It's actually it's a pretty tame GDP outcome in Q2.

Would you say that at this time, even if the Bank of Canada lowers rate, you know, before the Fed, they're not lowering fast enough to bring the consumption back?

It's a good question. I mean, the reason consumer spending is so weak is because households must devote 25% of wage increases to servicing their debt because interest rates are much higher than they were a few years ago. So considering all that, considering that inflation's coming down, there's going to be rate cuts. But at the end of the day, what you can see on this slide is that despite the fact that the Bank of Canada has cut rates already twice, the policy rate adjusted for inflation is barely coming down. So, monetary policy remains the most restrictive since 2006. Denis, what that means is expect slower growth in Canada and a higher unemployment rate, which will probably lead the Bank of Canada to accelerate the pace of rate cuts in the coming weeks. So yes, there will be collateral damage to the Canadian economy in the coming weeks. So but the good news, inflation is coming down. They can cut down to cut the rates aggressively, but there's still going to be an impact on earnings in Canada as there will be a negative impact elsewhere in the world.

Would you say that the Bank of Canada don't cut rate as much as they should because of the Fed not starting to do so?

You're right that they were probably a little bit shy of going more aggressively, but probably concerns about the Canadian dollar. But at this point in time, you know U.S. dollar has been weak. So Canadian dollar as hell is ground. So I think that opens the door for more aggressive rate cuts in Canada. Actually, our fixed income strategist who recently published their monthly and we're showing an acceleration of the pace of rate cuts from the Canadian perspective in the months ahead.

OK, now we said all of that. What do you expect has returned from different asset classes.

Investment conclusion, right. So well, Denis, if you trigger the SAHM rule, I'm sorry, historically it's not good for risk assets. So, historically 3 months following the triggering of the SAHM rule and note that this is one of the first time the Fed has not even cut rates despite the triggering of the Fed SAHM rule. You can see that the stock market whether it's the US or Canada, it's down about 9%. The only asset classes that play a defensive role would be gold prices and the US dollar. Gold because more volatility, the US dollar because more risk off environment and clearly the bond market is also somewhere to hide. So investment conclusion, Denis, I think there's going to be more volatility this fall as people reassess their earnings expectation. So it's time to be play a bit more defensive in our opinion. And just those US elections coming up, most uncertainty about policies, keep that in mind also.

Well, thank you, Stéfane, and thank you for being with us today. And above all, we expect to be with you next month, beginning of October. Have a good day. Thank you.

Property Perspective

Our National Bank specialists decode the latest trends in the real estate market, including interest rates, the resale market and forecasts for the coming months.

Hello everyone and welcome to this July 16th edition of Property Perspective. Today, I have the pleasure to be with Matthieu Arseneau. Hello, Matthieu.

Hi Simon.

And my good friend, Peter Thompson. Hi Peter.

Hi Simon.

Today, the topic of the day: the importance of loan insurance. But before we enter that discussion with Peter, let's talk with Matthieu about recent economic news that influence the real estate market. Matthieu, The Bank of Canada cut interest rates at the beginning of June, and since then, core inflation data has been less favorable than the previous months. Do you think that the Central Bank regrets having cut rates?

I hope they do not regret in fact, because yes, before they made that decision, there was impressive progress in core inflation.., very low inflation in the first four months of the year. Yes, there has been a bounce back in May, A bit too strong in June, but it's important not to overreact for the monthly volatility. When you look over the past six months and that's the chart I'm showing for current inflation. So when you remove the most volatile components each month, you get 2.2 inflation annualized over that periods. And so it's really close to the 2% target of the central bank. Clearly in our view, the widespread inflation problem is solved in Canada. And you can see that with the number of categories rising above this 2% target at just 23, that's significantly below the 2022 peak and below the historical average. So yes, for us, inflation is a problem that is fixed in Canada and it's not surprising given the economic backdrop in fact. Even in the first two quarters of 2024, we have growth between 1.5 and 2% so far, which is usually great growth for Canada. But given the population growth, it's very much as growth and below the potential of the economy. So, in such a context, no, I hope they do not regret and in fact we expect a rate cuts, further rate cuts in July given this economic backdrop.

Matthieu, we saw that the labour market is showing many signs of slowing, which should obviously help contain inflation over the coming months. What are your thoughts on that?

In fact, given the economic backdrop, it's not surprising to see the unemployment rate rising over the past few quarters. And it was the case in June with a 2-tick increase. In fact, we got a thing, we got a stagnation in employment, but with 100,000 population growth, that kind of gap, we just see that in recession historically. So that was a huge gap. So leading to this increase in the unemployment rate. And when you look since 2022, this kind of hiring freeze that we are experiencing, on the macro perspective, clearly the people try to enter for the first time in the labour market, recent immigrants, people, the youngest one, people age group (15-24), we see a significant rise in the unemployment rate, which are at their highest level since 2014. If you exclude the pandemic and for recent immigrants, the increase is as large as what we observed during the global financial crisis for the magnitude. So, that's worrisome so far and we don't expect improvement in the short term given that labour shortage is a story of the past at this point with only 15% of corporations indicating that they are experiencing those labour shortages. That's the survey made by the Bank of Canada. With only that proportion at 15%, we have only seen this during the last two recessions. So that's very low. And we don't expect a hiring spree over the next few months. Perhaps that hiring spree will continue. So we expect unemployment rate to continue to rise. In such a context, yes, we expect a rate cut in July and further rate cuts down the road. Over the next year, we expect rates to decline by a further 175 basis points. We expect rates to stabilize around 3% by the end of next year.

OK, that's a good news. And Matthieu, as you just mentioned, with interest rates falling, but population growth still very strong, what can we expect in the real estate sector in the next, in the next months?

In fact, these two factors usually typically support the housing markets. So and with the rate cuts we got in June, we saw rebound in a slight, but a rebound in home sales at the national level and in the three largest markets. So Vancouver, Toronto and Montreal experience a pickup of activity. It remains low level of sales at this point. But as you can see on this chart with that kind of level of sales, active listings are increasing, which is good news to bring supply in the market for people who try to buy. So there's more options. So yes, strong population growth, lower rates in the coming months, but at the same time less favorable labour market we saw especially for the younger one. And we have to keep in mind that affordability remains an issue in this country. So, perhaps yes, still increasing sales over the next few months, but perhaps a slight rebound rather than this really strong labour market given this context.

OK, Thank you, Matthieu for your very interesting comments as usual. Now, let's discuss with Peter about loan insurance. Peter, as you know, for most people, buying a property is probably the biggest financial commitment in their lives, especially when you're first-time buyers, right? Often they invested all their savings into this purchase. When you think about it, there are certain risks to be a homeowner. Can you give us Peter, some, advice on how to protect this major commitment?

Yes, absolutely Simon. And I think you put it really well. There are some important risks. It's such a great opportunity and exciting, especially for first-time homeowner to, you know, to have your new home. But with the mortgage come some risks as well. And when it comes to health or death risks associated with the mortgage, there is what we call loan insurance, some people call credit protection insurance. And it really exists to address those risks related to health, or in the worst case, death. And there's three types of coverages that come with loan insurance: disability insurance, critical illness insurance and death insurance or life insurance. And essentially disability, the way to think of it is if you have an accident, for example, which may keep you from working full time and as a result, you're, not getting 100% of your income as you maybe would otherwise, that obviously will put a squeeze on your ability to be able to make your mortgage payment. Sometimes people have a group insurance which helps cover a part of their income, but generally it doesn't cover 100% of the income. So it's important to recognize that and to look at that aspect. And disability insurance comes to make up for that gap, if you will, to ensure that you're able to make your mortgage payments on a timely basis. And it just takes another stress off your mind as you're working on your health and getting back your health. The second type of coverage that is offered through the loan insurance is critical illness insurance. And these are three types of situations which are considered here. You're talking about a cancer diagnosis, a stroke or a heart attack. Those are the typically the three critical illnesses that are addressed, either that protection and when you have that kind of diagnosis, of course is very dramatic type of situation. Oftentimes in order to address the health issue, you may have to go through an extended period of rehabilitation. You may need special treatments. Oftentimes the treatments aren't covered under the public plans and so on. So it becomes a pretty significant financial burden. So you have all these unexpected or unintended expenses added to the fact that maybe you're not able to work normally and you have to take some time off work. So the, the critical illness coverage really once again comes and makes up for that, that gap that may exist on the financial things just to make your life easier so that you can concentrate on getting better once again. So that's the whole critical illness coverage. And finally, the death coverage that is the worst scenario. Or let's say, for example, you have a couple who own a home and they have a couple of children, one of the people of the couple passes away. And that can put obviously from the most beyond the most important, you know, hardship that you have to go through in the mourning process, you have to go through. You don't want to add to that the financial burden that goes along with it, that maybe just having one income makes it very difficult to support a mortgage. And in the worst kind of scenario, you have a family which is no longer able to support their mortgage payments and as a result have to sell a home, move into an apartment with kids and so on. So you're kind of amplifying what is already a very difficult situation. And what is common with all of these three coverages is they really do exist to enable you to focus on your health, on your family, on what's important without having that added pressure of how am I going to make my mortgage payment? How am I going to support that when you're already going through a very difficult life event? So these are important coverages that are available through loan insurance.

Absolutely, right, Peter. That's really important that when an unfortunate event occurs, you want to maintain your lifestyle, your regular routine that you just mentioned that exactly what the good the good coverage can help you do. right? I'm sure your teams hear from clients every week who are going through difficult times and file a claim to get help. Can you give us any examples that Peter, where insurance really made a difference?

Yes, and I think that's really well put, Simon. The whole claims process, of course, when somebody is living one of these experiences, it's just so difficult. So everything are clean team does is so important and it really does require a special kind of person to be able to adequately serve customers when they're in that kind of situation. So the whole claims process is very, very important in terms of what we do. That's the reason we exist. Having said that, the process at the very beginning, the advice that we give to customers to explain to them the risks that they're exposed to and different ways that they can cover those risks or mitigate those risks is just as important that advice that's given at the very start of the process. And I have a couple of examples I think that illustrate the importance of that. The 1st is, we have an advisor in a branch met with the customer and that customer had some concerns about how am I going to include this protection that how am I going to make it fit in my budget. Money is a bit tighter. I'm not sure I can make it work. Should I get it? Should I not get it? And the advisor in the branch was able to help that customer find a way to make it fit. And at the end of the day, that same customer went ahead and took the protection, a couple years later, came back and told the adviser that she had just received a cancer diagnosis and was going to have to be dealing with that for the coming months. Also inform the advisor that she had just separated from her spouse and was now having to support two kids on her own. So you can imagine the financial pressures just to stress that this customer had to live through. But, had this coverage, this critical illness coverage which kicked in, which was able to support her financially and make a huge impact just to alleviate that part of the stress that she had just taken on with this recent diagnosis. So at least the financial burden, what it wasn't what it would have been had she not had that coverage. So that illustrates, I think really well one type of situation which is fairly common. Another one which was quite dramatic is, we had a situation where we have a couple of friends who went out fishing one day and unfortunately the worst you can imagine did happen. Both individuals passed away. The first of those of those gentlemen had gone out a few months prior and gotten protection for his mortgage such that his family was able to remain in the home that they lived in with the kids. The wife and kids were able to remain in that home and not have that financial burden to deal with. Over and above obviously the mourning of having lost the spouse. Unfortunately, the other partner in this story, the other Fisher in this story did not have the protection. And the result was that the financial burden was too much for the remaining spouse and that couple to support. They could no longer make the mortgage payments and therefore had to sell the house, move into an apartment. So you're just kind of amplifying once again, a very difficult situation with an added financial burden and something that's already very difficult. So I think those sorts of cases and unfortunately, as you said, we have all sorts of stories that we hear on a fairly regular basis that just are good demonstrations of the importance of that protection and making sure that you've thought of these things ahead of time.

Peter that makes you think about the importance of protecting yourself. Peter you mentioned “budget”. I like to hear more from you on that. The past few years, as you know have been a real game changer for Canadian owned. Prices have gone to the roof, interest rate have skyrocketed. So our client mortgage payments are higher than ever, right. What would you tell clients who say they don't need or they think they can afford to protect themselves when they taking out or renewing an existing loan?

Absolutely, yeah. And that's really important. So you're taking out a mortgage or you're renewing, your rate is no longer what it was five years ago. There's a big jump in the payments. So that is especially these past couple of years with the impact of interest rates and so on has become an increasing topic of conversation. And we're often asked what do you say to that. So I think that's probably one of the most common questions that we get. And really what we try to, to sensitize customers to is to just be aware that if already things are tight financially with an increased rate and a mortgage renewal and the monthly payments and so on. If already the situation is tight, try to imagine the situation if you did have a disability that prevented you from having your full regular salary for say 6, 12,18 months. What would happen financially? Would you be able to make your mortgage payments and so on? Or what about a critical illness? If something like that happened and, and money is already tight, how will you manage? And oftentimes what our advisors will be able to help the customer find solutions to for sure, it does require some tightening the belt, finding ways to make some adjustments on a monthly basis. Sometimes it means depriving yourself of certain things. But you will be able to find the right balance for you with a good advisor who can help you out in that regard to find that balance so that you're comfortable with everything, both your lifestyle and the protection you have and just being prepared for anything that might come your way in the in the years ahead.

Thank you Peter for your advice and concrete explanation. What's important is to take the time to discuss, as Peter mentioned, loan insurance with your financial advisor and make the right decision in full knowledge of the facts according to your personal situation and needs. The ultimate goal is to make sure that you take the steps that will give you Peace of Mind. So thank you all for watching and see you again for our next edition of Property Perspective.

5 • 4 • 3 Market Outlook

5 minutes, 4 graphs, 3 key takeaways! Discover a fresh focused quarterly review of markets, the economy and investments with expert Louis Lajoie from our CIO Office.

Hello, everyone. Today is September 10. We're going to take stock of how the markets and the economy have evolved over the last few months and what that likely means for what's to come. So if we begin by looking at how the equity market has behaved year to date. We remember that in Q1, we had a very substantial upsurge in equity markets, followed by in Q2 a somewhat more hesitant price action. And in Q3, so far, it has been much more volatile, although equity markets remain largely positive year to date. But what's new here is that bonds have actually been doing some catch up against the rest of the market, now actually even above what cash has returned year today. So as you can see, the race is tightening across asset classes.

And the key factor behind that is actually what we've been talking about for some time, a further slowdown in the labour market, featuring an increase in the unemployment rates, which to be clear remains far from being dramatic, just barely above 4%. But what's more worrisome is that historically, whenever the unemployment rate begins to rise, it usually keeps on rising, especially when we reach a certain threshold, which we did, and reaching above the Sahm rule, which is a recession indicator that's never been mistaken since the 1950s.

Now, I want to be clear: the U.S. economy is still too strong to be deemed in a recession. But what's equally clear is that the warning signal has been heard at the Fed. And indeed, we've seen markets review their rates expectation accordingly much lower and indeed, in all likelihood will see a first rate cut by the U.S. Federal Reserve this month. Now, if we know that now that the Fed's about to begin cutting rates, the follow up questions is where is it going to stop? And right now, markets expect the Fed to stop somewhere in the neutral range, which is totally reasonable against the current backdrop. But bear in mind that if we were to base our expectations simply on the average response from the Fed following a similar rise in the unemployment rate, we would instead be talking about a policy rate that could be close to 2%. That is essentially where it was just before the pandemic. And I want to be clear again, we're not there yet. That's not the base case here. But we should expect rate expectations to move quite a bit over the coming in the coming few months.

If we do the exact same or similar actually exercise with how the equity markets have fared around previous rises in the unemployment rate, what we see is that on average, stocks were already on the downtrend, a downtrend that typically continues for a few more months only to see stocks bounce back and finish the year positive, as you can see here. And obviously that's not the exact path that current markets are following. Stocks are actually on an uptrend this time around. And it's not all that surprising either that we're not following that pattern to the letter, knowing that there's a wide range of historical path behind that average featuring, for instance, both an increase and a drop of nearly 40% at some time. So I guess both optimists and pessimists can conclude what they want here. But in their mind, this all boils down to a backdrop in the near term that's probably more fragile for stocks, without necessarily meaning that this story will end up with losses over a one-year horizon. Hence why it will be important for investors to stay the course in the face of inevitable ups and downs that are ahead of us.

To conclude, so as I said earlier, the overall picture is a rather positive one for markets and especially so for bonds with the last quarter that, you know, recoup some of their losses or actually lost ground against the rest of the market. Even now beating cash in the face of an increase in unemployment rate, which has confirmed that the Fed is about to cut its policy rate as we have seen elsewhere in the world, including here in Canada. And for investors, it likely means a volatile year end. But the good news here is that with inflation now taking the backseat – note that I didn't talk about inflation, I believe that's a first –, we can better rely on bonds to play their diversification role should the economic backdrop deteriorate further.

That's it for today. Thank you for listening and we will talk again in December.

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