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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 November 20th, 2024, and as usual I am with our chief economist Stéfane Marion. Stéfane, we had an election in United States.

Yeah, it's been a shock for many people, many sectors, but for financial markets, Denis, I have to tell you it's been positive so far. And as you look at the year so far, year to date, we're looking at positive returns for every asset class. And you know what? Despite the fact that the stock market has done particularly well this year in the US, Canada too and last year, investors now believe that next year could be yet another banner year.

Wow! Can we say the same thing for across the world? Is it the same situation? Are we seeing the same results?

No breadth is not that great Denis when you when you think about it because the reality is that—there's a lot of numbers on this slide, but bear with me—if it's green, these markets reach a new all time high in November. There's only three markets in the world that did that, the US, Canada and Hungary. So not everyone wins in this new political or geopolitical environment.

And since the election of Mr. Trump, price earning are still at the top, at the highest.

Well, the reason the US is as high as it is right now, it's been driven by multiple expansions. So forward P ratios are now trading at 23 times forward earnings. Denis, if you look prior to the COVID pandemic, when earnings normally surged during a recession, you have to go back to 1999 to see earnings or price the valuation on the stock market as high as what we have right now. And, and notice that the valuation on U.S. stock market is 35% higher than it was when Mr. Trump first won his election in 2016. So there's a lot of good growth expectations already built in the current valuations.

And at the same time, we're observing shift into yield curve, major shift in the yield curve.

This is where I'll need you to help me because you used to be a fixed income specialist and you still are, but you are actively involved in terms of trading. So what we're seeing right now, what's helping fuel the rally in financial markets is the fact that the yield curve, which had been inverted for two years. And remember, you and I exchanged a lot of times on that saying an inverted yield curve is not a good sign for the economy. Well, guess what? The inversion has disappeared. And now people are saying, wow, if the yield curve inversion has disappeared, therefore the economy can only do better in the months ahead.

Yeah. What's quite interesting that we're seeing a yield curve, you know, shifting upward while we're seeing rates going down, and we don't see that very often in the cycle.

No. So it's a yield curve. You know, it's a steepening, but it's a bear steepener.

That's getting complicated.

It's complicated, but it's most important. Because if you calibrate your model on just the shape of the yield curve, you say, OK, it's steepening, it's good for the economy is one thing. But what's happening right now, it's steepening, but I can't calibrate a model for something I've never seen. So what I'm trying to say here is that yes, rates are coming down at the short end of the curve. The feds already reduced the Fed funds rate by 75 basis points. But long-term rates, 10 year treasury yields, are up 79 basis points. So this type of bear steepener, Denis, has not been observed in over 30 years. Since the Fed started targeting the Fed funds rate, this is the first time it happens when the Fed starts cutting rates. So most unusual.

But what's kind of weird also is that the government, U.S. government are going for, you know, probably one of the biggest deficits ever and we're seeing the yield curve going down. In fact, shifting U and treasury Fed fund going down, that's weird.

There's a malaise here that seems to be explained by the fact that the 10 year treasury yield is moving higher because people are concerned now because with the level of government debt in US. So unless the US is able to significantly reduce its spending, what we're looking at for the next few years is that the US debt to GDP ratio will exceed the previous high, which was reached after... well at the end of World War 2 when the US was financing a global war. So we are in unchartered territory. Hence the movement of the yield curve that is most uncanny.

Despite all of that P/E are high, yield curve is shifting up, Fed funds are going down. People are still expecting good results or good performance for the coming year. So people are looking at the yield curve with not necessarily the same amount of details that we should speak to, you know, is it a bear or bull steepener? So you're absolutely right. What's driving the market right now? It's a steepening of the yield curve, as simple as that. And yes, every region of the world is expected to benefit from the new economic policies that will be unveiled by Washington in the quarters ahead. So anyway, Denis, when you look at this, every region of the world is expected to be up next year. So I'm not sure everyone wins in a new political or geopolitical environment, but these are the expectations as we speak.

There's a lot of positive on the market right now.

There's a lot of positive on the market right now.

There's a lot of good news already priced in the market.

But the bond market is getting a little bit more suspicious.

OK, let's come back to Canada and talk about the, you know, what's going on in our own country in terms of unemployment.

So I'm going to tell you why we have a weak currency, right? So the reality is we have a big divergence in terms of economic performance with the unemployment rate for people age 25 to 54, which is your biggest consumer base if you want, at over 5.5% in Canada, whereas the US it's at closer to 3.5%. So this massive divergence, Denis, brings that if the economy is not performing, obviously monetary policy can diverge between the two countries.

Yeah, that does mean lower Canadian rate but lower Canadian dollar.

So the way your forecast models work, when you do your currency forecasts, if you have an historical, it's a near historical spread. Well, I won't say historical, but the highest since 1997. This divergence between monetary policy between two countries is likely to be sustained for longer because of the behavior of the unemployment rate which brings about a cheaper currency. So we're at 1.41 to buy U.S. dollar. Well, we might have to pay 1.45 in the months ahead according to our model if those interest rate differentials prevail for a little bit longer, which I believe they will just because of where the economy is relative to the US. So a lot of moving parts Denis.

Well, you have a lot to say today, OK, What kind of conclusion we can come with?

Well, the conclusion is it's even difficult to know precisely with precision where you are in the cycle because the US keeps on pushing more fiscal stimulus despite the fact that the unemployment rate is low. And with the yield curve that is starting to steepen right now and in bear steepener mode, we will see what happens in the months ahead, particularly that the stock market is not cheap in the US. So if long term rates move higher because people are concerned about fiscal policy, that might be an issue. Denis, I would also say, you know, not everyone will win in the new economic regime, but the market seems to be positioned that everyone wins. So I'm a little bit more skeptical on that one. I know that people are—there's a lot of hype that AI could boost productivity and that's fine by me, I have no issues with that. But down the road, we have to be, you have to be consistent with economic theory. If I want to do more AI, more robotics, I need more electricity and electricity costs are becoming a concern at this point in time. So by at large, Denis, it's a structural change. The selection will bring about structural change. Deregulation, tax cuts will be good for corporate earnings. But there are other concerns, particularly what happens with this steepening of the yield curve. So the message here today. So let's just be prepared to live with market fluctuations in a month ahead. There will be volatility, the market will find a direction. But I'm not sure that it's a one way bet that everything goes up next year.

And once again, let's be careful.

Absolutely.

Well, thank you, Stéfane, for being with us today. Hopefully, it's gonna help you in your investment, you know, assets and everything, portfolio management. We'll see you in December. Thank you for being with us.

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 November 28th edition of Property Perspective. Today I have the pleasure to be with Matthieu Arseneau, hello Matthieu. 

Hi Simon. 

And with Andrée Desrosiers. 

Hello Simon. 

Hello Andrée. Our topic of the day, what's best for my mortgage, a fixed or a variable rate. But before we enter that interesting discussion with Andrée, let's talk with Matthieu about recent economic news that influence the real estate market. So Matthieu, a number of events have occurred since we last spoke, all of which have an impact on the economic outlook, obviously. First, what are the implication of the Republican sweep in the US presidential election for economic growth and interest rates? 

Yes, this was a big event and there will be application for that for Canada over the next four years. Higher uncertainty, we saw that with the announcement of potential tariff on Canada. We'll see. But clearly, in my mind, the big event and this has implication for the housing market in Canada, particularly for interest rates. It's the fact that there could be much more fiscal stimulus South of the border given the promises of Trump during the campaign. As you can see on that chart, while the Congressional Budget Office was expecting roughly 6% of GDP deficit, which is already very high, it could be as high as 8% if all those promises are realized by Mr. Trump. So at the moment the Federal Reserve is trying to calm inflation in the US, calm the economy. There's government that could support growth over the next few years. So before the election, the Federal Reserve started to decline rates. They did already 75 basis points. But you can see that at the same time it didn't mean that longer term rates decline. In fact, it increased because of risk of tariffs and its implication for inflation because of stronger growth, though that's something we have to keep in mind. And the problem with that increase is given a global correlation in interest rates, when you have the largest economy in the world supporting the economy and having those rates it has an impact on rates in countries with economies not as strong as the US and has to cope with those increases. And that could be difficult for a couple of other economies in the world given the increase of those of those rates. So big implication and that has implications for Canada as well. 

Very interesting Matthieu, so the ability to lower the prime rate in the US now looks more limited. What about Canada?

In Canada, so we saw that in fact for investors expectation for the policy rate in the US, it was expected at 3%. Now it's much more closer to 4% by the end of next year. So clearly investors revised their optimism for rate cuts in the US. In Canada, the situation is clearly different in our view when you look at the labour market here, I'm showing the jobless wait for the prime age workers, the 25-54, it has continued to increase over the past few months. And that's diverging with the US and it's now its highest since 2017. And we don't see stabilization over the next few months given the hiring intention of corporations. So for us that's a sign that the economy has cooled significantly and this is reflected in inflation. When you look at services, core services excluding shelter in the US, it's running at 4.4% because they didn't have that weakness that we got in Canada, it's so it's running at 1.3%. So clearly inflation is under control here. So yes, we expect the Bank of Canada to continue to decline rates. Prior to recent announcements, we were expecting policy rate as low as 2% by the end of next year. But given the transfer that was also announced by the federal government, it could lead to upwardly revise a bit. We'll see if it will be implemented. But clearly as you can see on that chart, while Bank of Canada is declining rates, 10 year rate is increasing and is essentially in its last two years average at this point. So not that much relief for long term rates. So that's something to keep in mind. But for that reason, perhaps it's another reason for the Canada to try to push down those rates by having short term rates very low. So that's our expectation at this time, OK.

Matthieu, the government has announced recently an additional break on population growth for the next three years. What are the implications of this new announcement on the real estate market?

We talked about it very often over the past few months. Housing shortage is still very acute in Canada. We see that in the rental market with rent still increasing at a tepid pace. Same thing for first time home buyers. It's where affordability is still a problem. So I think it's the good decision to calm down population growth. In fact, with the recent announcement about the declining non permanent resident to 5% of population over a 2 year. Reducing permanent resident temporarily, that will lead for— when you look at the five year period, when we look in 2028, the pace for the next 5 years will be similar to what we had prior to the pandemic level, much more sustainable and much more in line with our capacity to welcome. So, I think it's a good decision at this point given housing shortage. And we have to keep in mind newcomers have problems to integrate the labour market in the current context. So let's fix that situation and get back to normal after this three-year period of slow growth and we will be able to get back to the model we had that was benefiting the Canadian economy prior to the pandemic. 

So finally good news. Thank you, Matthieu for your very interesting comments. Let's now discuss with Andrée, hello Andrée. In the context of the anticipated drop of the interest rate by the end of this year and obviously in 2025, should we go with a fixed rate or variable rate for our mortgage?

Very good questions Simon and indeed very relevant. The choice between a fixed rate and a variable rate for a mortgage depends on several factors, especially in the context of falling rates. Our risk tolerance, financial situation and short and mid economic outlook are key, you know, considerations to look at. We must first understand the bearish rate context, however, When the Bank of Canada lowers its prime rate, financial institutions typically adjust, you know, their mortgage rates in response to that downsize. Variable rates will generally follow primary fluctuations and become particularly advantageous in the short term. Fixed rates, although often higher than variable rates at the time of subscription, offer protection against potential future increases. We must however remember that they usually follow the interest rate on long term bonds and not the Bank of Canada prime rate. Therefore, a quarter point drop in the prime rate does not mean that fixed rate will fall by the same amount. 

OK. We must therefore understand this context carefully before making our decision. You're right, Andrée. Many people assume that when there's a drop in the prime rate, all rates fluctuate in the same way. However, as we have just seen, that isn't the case since different rates are influenced by different factors. With that in mind, Andrée, what are the advantages of one or the other? 

Yeah. If we look first, you know, at the variable rate, you should consider that rate if you believe that interest rates will continue to decline or stay low for an extended period of time. You can also choose the variable rate if you're comfortable with some level of risk and can handle or afford, you know, potential payment increases if rates rise. Also if you want to benefit from lower penalties, if you decide to pay off your mortgage early or switch lenders. Also, some variable rates loans offer the option to switch to a fixed rate if rates increase. On the other hand, you should consider, you know, a fixed rate if you prefer stability and want to avoid uncertainty, if you think rates might rise in the midterm and again, if your budget cannot accommodate sudden increases in monthly payments.

So once again, Andrée, the choice does not automatically go towards one or the other. Even if we are in the context of falling rates. As you mentioned, we must make sure to take other elements into account in our decision. You are very right Simon. And we must also not forget that some lenders offer mixed rate mortgages, you know, part fixed, part variables. So this approach allows you to balance the advantages of both options and reducing risk while still benefiting partially from falling rates. So in summary, you know in a falling rate environment, a variable rate may seem more advantageous in the short term, but it remains a bet on future rate trends. If you're comfortable with some uncertainty, a variable rate could maximize your savings. However, if peace of mind is your priority, a fixed rate is the safer choice. It all depends like usual on your financial profile and financial goals. To help you in your choice as usual, do not hesitate to consider or consult a mortgage specialist to assess your personal situation and provide you the right advice for that choice. 

Thank you Andrée for sharing your insights. As you suggested, having a discussion with a mortgage specialist will help make the right decision. There's no point about that. So thank you all for watching and join us again very soon 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, December 4, we're going to take 5 minutes to look back on the year that's just about the end and look forward to the year that's right around the corner.

So, if we start by looking in the rear-view mirror, as you can see, 2024 turned out to be quite a spectacular year for investors. Returns of about 30% for global equities in Canadian dollars. There were some bouts of volatility from time to time, but ultimately with inflation moving down broadly and the labour market in the U.S. remaining relatively strong, the uptrend was sustained on the equity market front. The flip side of this is that without any substantial slowdown in growth, bonds gains were much more modest, but nonetheless in line with running yields. And if you combine these two key asset classes as we often see in a balanced portfolio of 60% equities and 40% bonds, again, as you can see, a spectacular year for investors.

And just to put things into perspective, let's look at how that specific balanced typical portfolio has performed historically on a year-to-year basis. And there are two things, two takeaways from this chart. The first one being just how much the chances of success are skewed towards investors, in favour of investors essentially 8 years out of 10. That portfolio has been positive since the 1990s by an average of about 8%. So, the point here is that whenever we may think at any point in time, just keep in mind that these are the odds that we're facing as investors. The second point is to show how the last few years have been rather extreme in many ways, and specifically in 2022, when that inflation shock spared no asset classes virtually. But since then, we've had quite a positive comeback in 2023, but even more so this year. And the fact that we've been so much in extremes in recent years is definitely a reflection of the reality that the economic landscape has been anything but normal in recent years as we've moved away from the pandemic.

And the reality is that even in as we approach 2025, there's still quite a bit of uncertainty and even fragility in this economic backdrop, all reliant on how the U.S. labour market will evolve. And for now, what we see is that businesses are very cautious, with hiring rates well below historical averages, and consequently, workers are also very much prudent, much less willing to quit their job on their own, the quit rate is at its slowest point in essentially 8 years. But the positive thing here is that despite all of this, layoffs remain very low. And the labour market picture that you see on the screen here, that was literally the best-case scenario in the eyes of the Fed and by extension, in the eyes of the markets. And that's what we got thus far. But let's be clear, these trends, specifically these two, need to stabilize in 2025 because otherwise the logical next step would be to ultimately see that layoff rate pick up.

So, we'll have to remain cautious, but there's ground for optimism. There are some promising signs that are starting to show up on our screen. Specifically, we like to monitor manufacturing activity, which has been relatively weak over the past two years. But when you take into account a series of factors and most importantly, the fact that global central banks have been cutting rates, most of them have been cutting rates since 2024, that suggests that we may get a rebound next year. And if that happens, that would be very much welcome news for markets.

All right. So, 3 takeaways for today. As I alluded to, it's essentially the best-case scenario that came to fruition in 2024 and markets have responded accordingly. But when we look at 2025, we technically see less and fewer cyclical clouds, but we're faced with much more political fog with the arrival of U.S. administration that you know, as well as I do, is fundamentally unpredictable. And there's a lot of things that will likely happen on the fiscal policy front, the trade policy front, foreign policy front. There will definitely be surprises on these fronts next year. And as such, as investors, we must expect sustained volatility next year and ultimately, perhaps gains that are much closer to historical averages and perhaps less extreme than what we've seen in recent years.

If you'd like more details on our outlook for next year, make sure to check out a report that came out in early December. And until then, I wish you all happy holidays and we will talk again in March 2025.

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