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Investors await Bank of Canada's progress report

It’s ironic that the recession, the very reason why you’d expect housing to be in a deep slump right now, has actually helped to propel the market higher. By ratcheting interest rates lower to stimulate economic growth, the Bank of Canada has cleared the way for mortgage rates that remain at historically cheap levels even after recent increases.

Canadian investors will be looking to the Bank of Canada next week for its latest indication of the progress of an economic recovery and to the next leg of the quarterly earnings season to see if the big gains on stock markets last week can be sustained.

The Bank of Canada's latest take on the economy will be contained in the central bank's scheduled announcement Tuesday on interest rates.

The bank's key overnight rate stands at a quarter point and analysts say there is little doubt about what that the bank will say about interest rates.

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"The bank has conditionally suggested it is going to keep its interest rates stable until the middle part of next year unless something major breaks (and) there's little reason to doubt that conditional commitment," said Doug Porter, deputy chief economist at BMO Capital Markets.

The bank's latest economic assessment comes amid some mixed data.

"There have been some indicators that have been surprisingly good in Canada, most notably home sales and home building," said Mr. Porter.

"But for every surprisingly strong development there's been some negative news as well, especially coming from the U.S. in terms of what looks to be another step back by the U.S. economy in June, especially on their employment number and consumer confidence in the U.S."

The latest data included a report this past week showing a 6-per-cent drop in manufacturing shipments during May, which Mr. Porter said "served as a pretty clear reminder that the economy is not in recovery yet."

Mr. Porter said it will also be interesting to see what the bank has to say about the recent sharp rise of the Canadian dollar to around the 90-cent U.S. level.

At the bank's last interest rate announcement in early June, the loonie had surged to the 91-cent level, causing the bank to warn that the sharp rise in the currency could offset what improvements it had seen in the economy.

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The currency recently advanced from the mid-80 cent level to almost 90 cents U.S. - paralleling the stock markets gains and benefiting from U.S. dollar weakness.

"So I expect the bank will again sound a bit uncomfortable with the currency," Mr. Porter said.

Meanwhile, some analysts are saying the stock markets look ripe for a retracement after strong gains this past week.

"I wouldn't be surprised," said David Rosenberg, chief economist at Gluskin + Sheff and Associates Inc.

"Whether we actually test the lows (of early March) or go through the lows, at this point that's a tough call. But if you're going to ask David Rosenberg, would I be chasing the market right now? The answer is no."

The Toronto stock market ended the week up just over 6 per cent after a string of better than expected earnings reports from blue chips such as Goldman Sachs Group and Intel Corp. raised hopes for an economic recovery.

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However, enthusiasm was tested at the end of the week by the quarterly earnings report from bellwether General Electric Corp. , which beat expectations on the earnings side but disappointed on revenue.

"It's the most popular game on Wall Street - you talk down your estimates, lower the high bar to a few inches off the ground so you really just have to take a stutter step to cross over it so then you get the headlines that 70 per cent of the companies have beaten the estimates," said Mr. Rosenberg.

"They're beating numbers that were hardly heroic when all is said and done. But what I think is interesting is that the vast majority of companies are still beating their estimates through cost cutting. Top line revenue growth is still very hard to come by."

Mr. Rosenberg thinks there are other asset classes that are more attractive than stocks right now, particularly high-grade corporate bonds.

"The spreads have come in a long way from where they were late last year, early this year but if you're looking for an asset class that truly was priced for Armageddon, it was credit," he said.

"The equity markets are priced for a 30 to 40 per cent earnings bounce next year. And the credit market is priced for gross domestic product growth of minus 1 to minus 2 per cent. So I just think that if you're looking for protection, or a cushion, I think you get it more in high grade corporate bonds right now than you do with the stock market."

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