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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.

Hello everyone, welcome to Economic Impact. Today is October 17^th 2024, and as usual I am with our Chief Economist, Stéfane Marion, who exceptionally is in Calgary right now and we are at a distance. Hello, Stéfane, how are you today?

Good morning, Denis. So we're doing this remotely this morning.

Yeah, remotely exactly. Stéfane, you know, we've been talking about the stock market for a while and we said we should be prudent but despite of that, the stock market keeps going up.

Yeah, the enthusiasm is still there Denis. We're hitting an all-time high and it's in many regions of the world driven by both expectations of more rate cuts by the central banks. So we're talking about the synchronized monetary easing cycle and also expectations that, you know, we could have sizable fiscal stimulus from countries such as China that will help support global growth and obviously earnings going into. But I have to say, Denis, there's a lot of these expectations that are already embedded in current valuations.

And at the same time, you know, valuations are quite high compared to the past.

Yeah.

So if we look at this slide and the little red, you know, sorry– yellow dots shows the beginning of easing cycles in the US And you can see that it's exceptional for the US stock market to be valued at 21 or close to 21 times forward earnings at the beginning of an easing cycle. So there's only one precedent for such a situation, Denis. So again, we're navigating into unusual waters if you want and on certain waters, I would say when it comes to valuations on the stock market.

Yeah. And we're seeing on that graph that only a two time out of seven we saw the market going down after rates cuts. And you know, it's interesting to see where we are in the cycle compared to the past. But also, the next slide will show us how the market interprets, you know what's going on in term of you know, valuation and volatility. And I would say the first three lines, that's quite busy. But it's quite interesting because it shows, you know, as the market is doing different signals depending on what you look at.

Yeah, so you're right. So that, you know, the blue bar represents the range in which the market has already as traded in the past. The green line, if you want, the green number represents where we are now versus what you see on average in any other episodes. So you can see that valuations, you know, trading at, you know, almost 21 times forward earnings is quite high relative to the norm. The fact that, you know, earnings expectations are at 14% versus normal of 10% means that, you know, we're expecting significant growth in the months ahead. And the stock market has not really corrected historically the Fed starts cutting rates once the stock market starts correcting, which hasn't been the case this time around. So from a stock market, the first 3 bar show that, yeah, there's a lot of good news already expected in the stock market.

And at the same time, the last three bar are giving a different signal. The one what we call the MOVE is the volatility on the bond market, the VIX is the volatility on the stock market and after that the corporate spread and all of those data are, you know, below the line.

So historically the markets a little bit nervous because you know, the Fed starts cutting rates because maybe something's happening to the economy. So this time around the stock market is already concluded that this is a soft landing and other markets are saying it's going to be a perfect soft landing with no volatility. You can't get more perfect than this Denis because volatility for bonds or for the stock market is well below the historical average and corporate spreads are the least stress we've ever seen at the beginning of the easing cycles. So again, there's a very strong conviction in the markets that the soft landing is mission accomplished, and it only gets better from this point on.

Yeah. And but, you know, there's probably cloud above our head because when you look in the United States, you know, the very small business optimism is not there.

Yeah. So small businesses in US, and we said it before, the uncertainty index is important to look at because they account for 50% of job creation. So I do recognize that the latest jobs report in the US was stronger than expected. But, you know, it seems like it broke the trend from the past six months to me. But I don't think, you know, one month makes a trend. So we'll have to see another good employment report before we change our mind on a potential stress on US labor markets that could undermine profit expectations. But I have to say, people always claim that an election year is good for equities. It's been the case so far. I get this, Denis. But at the same time, we've never seen so much uncertainty prior to US election, and that's quite evident in this slide. So my point, Denis, here's, yeah, if we are going to change our view on the US economy, let's wait for another jobs report. But more importantly, let's wait for the result of the US election and to see whether it's contested or not by one of the two candidates. Both candidates could also contest. We'll see that, Denis. So I think, you know, going into the US election, we've never seen so much uncertainty. And at the small business level, that should transpire theoretically with less aggressive hiring. But let's see the next job report to see if I'm right or not on that one.

Yeah. And we won't wait too long because all of this will happen the beginning of November, then we'll know more really at the start of November about that.

When we meet next month in person, then we will be able to assess the whole situation.

Yeah, might be quite different. But if you come back in Canada, you know, the story is a bit different where, you know, the economy is not doing so well.

Yeah. So people are uncertain about this, you know, the health of the US economy. I have strong conviction that from a Canadian perspective, we're not that great. It's pretty weak. If you look at the manufacturing sector, it's stagnation. If you look at the service sector, it's contraction. So I know the latest jobs report in Canada, like in the US, was better than expected. But I think the uptrend on the unemployment rate is still intact. And that suggests that the Canadian economy is underperforming, Denis. So yes, we're looking at yet another quarter of weak growth in Canada. It's not a recession, Denis, don't get me wrong, but it's still below potential growth and it's underwhelming. And underwhelming growth means higher unemployment in the months ahead.

But probably more and bigger rate cuts have to come in Canada.

Yes, Denis, because underwhelming growth means that inflation is coming down quite significantly in Canada. So headline inflation surprised everyone at 1.6% only in September. Notice on this slide Denis, if you exclude the mortgage interest rate component, which you know the cost of financing your mortgage inflation is only at 1%. But Denis, if you exclude shelter on which the Bank of Canada has no control because of surging population growth, we're at 0.4%. Denis, that is extremely low, I cannot justify keeping rates where they are right now in Canada. I have to up the ante on rate cuts in Canada, 25 basis points is just too slow, they have to move to 50 basis points increment. And that's where the whole Canada.

But if you go province by province, some provinces are not that great too. They are in deflation situation right now, in territory of deflation.

Yeah, actually it's a good point. If you exclude, if you look at inflation, excluding shelter, it's at 0.4%, so anemic at the national level. But there are 4 provinces we're actually talking about deflation. So prices actually coming down if you exclude the shelter component. Those four provinces, Denis, it would be Quebec, Manitoba, New Brunswick and Saskatchewan. So you rarely see so many provinces showing deflation. So as I said before, the Bank of Canada, despite the rate cuts, monetary policy is overly restrictive. They need to start cutting rates by  basis points increment because now Denis what they've been doing, they've been cutting rates, but inflation is falling faster, which means that you're not you're not moving the needle on real interest rates. So 50 basis points would be my best guess for next week and another 50 basis points after that. We got to come back to % very quickly to help the economy for next year.

Well, on that positive note for consumers. Thank you very much for being with us, Stéfane. And hopefully next time we'll be close together in the same room. And thank you all for being with us. We'll see you next month, beginning of November.

Thank you.