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Interest rates, the loonie and ‘condomanium’: Economy turns on a dime

Interest rates, the loonie and 'condomanium': Economy turns on a dime

Briefing highlights

  • Observers see brighter economy
  • New forecasts for interest rates
  • How high can the loonie go?
  • Whither housing markets
  • Investor seeks HBC shakeup
  • Markets at a glance
  • Shorting of loonie eases
  • What to watch for this week

State of play

Some economic assumptions are turning on a dime.

We've known for some time that Canada's economy is powering ahead, this year, at least. But there has been a marked shift over the past few days, notably where interest rates, the loonie and bubbly housing markets are concerned.

As The Globe and Mail's Barrie McKenna reports, the Bank of Canada suddenly changed its tone last week, pointing to a sooner-than-expected bump in rates, first in a speech by senior deputy governor Carolyn Wilkins and then in a media interview with Governor Stephen Poloz.

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Their comments drove the Canadian dollar higher and prompted observers to change their outlook on the timing of the first increase in the central bank's benchmark overnight rate, which now sits at 0.5 per cent.

"Clearly this is no longer an economy that requires emergency-level interest rates," said Toronto-Dominion Bank senior economist Brian DePratto, noting that growth has averaged 3.5 per cent over the past three quarters.

Here's a look at the state of play:

Economic growth spurt

"The Canadian economy started 2017 with a bang," TD's economics department said in a recent forecast, raising its projection for growth this year to 2.8 per cent from its earlier call of 2.3 per cent.

"This would mark the fastest pace since 2011, and place Canada at the top of the leaderboard among the G7 countries," the TD team said.

"Importantly, 2017 is also expected to mark the first year since 2014 that all major sectors of the economy contribute positively to economic growth. All signs suggest that remaining economic slack will be absorbed by mid-year, and, as such, inflationary pressures are likely nascent."

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Next year is one of uncertainty at this point, given an expected cooling of the housing market and renegotiation of the North American free-trade agreement. But, hey, that's next year.

Royal Bank of Canada, in turn, expects economic growth of 2.6 per cent, not far off TD's call (and who wants to quibble over 0.2 of a percentage point anyway).

"Business investment provided the biggest lift to growth since 2012," RBC's economics team said.

"The swing in investment is encouraging following two years of significant declines reflecting a marked drop in investment by energy companies."

That's a big turnaround from the oil shock.

Then there's the relative strength of the jobs market.

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"Canada has experienced strong growth of late … alongside aggregate job growth of 316,800 in the past 12 months, 220,900 of which has come in the full-time category," said Mark Chandler, head of Canadian fixed income and currency strategy at RBC Dominion Securities.

"The output and employment strength is tied fairly strongly to housing activity and an abrupt turnaround could threaten these gains," he added.

"However, at the least it looks like the BoC's assumption of the output gap being closed 'in the first half of 2018' is on track, with the timeframe likely inching closer towards the turn of the year as they prepare their revised forecasts for the July 12 [monetary policy report]."

Interest rates

"So we have a bank that is finally admitting that rates in Canada are too low," said Benjamin Tal, deputy chief economist at CIBC World Markets.

He was referring to last week's comments by Ms. Wilkins, which have prompted some observers to now expect a first rate increase as early as October.

Bank of Canada senior deputy governor Carolyn Wilkins

Some observers believe that increase will come in January, while others are waiting to see what Mr. Poloz, Ms. Wilkins and their colleagues have to say on July 12.

TD Securities, for one, has revised its projections, now expecting a rate hike of one-quarter of a percentage point in October, rather than than next April, as had been its call.

That would be followed by two similar increases in April and October, 2018, TD chief Canada macro strategist Fred Demers and his research colleagues said in a report.

"There are a couple of reasons for this initial slow pace," they said, adding that the central bank will closely monitor how consumer spending and housing react.

"Macro imbalances are an increasing source of concern, and increases in the overnight rate – and any associated increase in mortgage rates – will have immediate effects on household balance sheets," they added.

"The bank will therefore likely favour a slow pace of hikes in order to keep a close watch on the impact higher rates are having on consumers."

BMO Nesbitt Burns expects a January rate increase, though October is a possibility and, like others, it wants to see what the central bank says next month.

"Indeed, given the way the bank surprised the market with a rate cut in January, 2015, and given [last] week's messaging (which we suspect the bank would argue is an adequate alert), one can't rule out a rate hike next month," said deputy chief economist Michael Gregory.

"However, even Wilkins' speech laid out reasons for continued policy caution."

Pennies from Heaven

Okay, it's not a dime. But the Canadian dollar has a future that's forecast to be a few cents brighter than just a short time ago.

Currency observers are revising their projections for the loonie in the wake of the Bank of Canada comments and the perkier economic outlook.

Oil prices, of course, are still a looming uncertainty.

JPMorgan Chase now expects the currency to top 76 cents (U.S.) by December, though later sink again as, among other things, it sees oil prices weakening early next year, with NAFTA talks "likely coming to a head" at about the same time.

CIBC also sees the loonie at 76 cents by December, and through to the end of next year, with a temporary dip of a penny or two in between.

"The prospects of the [Bank of Canada] to remove excessive stimulus later this year favours a more upbeat outlook for CAD," said Mark McCormick, North American head of foreign exchange strategy at TD Securities, referring to the loonie by its symbol, and adding that economic growth "momentum" is key to currencies.

"CAD has scored well on this metric and moving forward continued growth momentum, and the growing prospects of a rate hike, should be supportive of CAD in the G10," he said.

"We expect CAD to outperform in the dollar bloc as the [Reserve Bank of Australia] and [Reserve Bank of New Zealand] lag the BoC (and terms of trade favour energy) but we are cautious about extrapolating the rally beyond a select group."

Société Générale sees the loonie at 75.8 cents by December, and 78 cents by mid-2018.

"But I can't help being struck that the Bank of Canada isn't the only central bank that could surprise us all by thinking about raising rates sooner rather than later," said chief foreign exchange strategist Kit Juckes.


Observers expect Toronto's housing bubble to ease after the intervention of the Ontario government, which, among other measures, hit foreign property speculators with a 15-per-cent tax.

The question is whether the market stays down or rebounds, as Vancouver did after its government-induced sales slump.

"As the year progresses, we expect prices and resale volumes to cool further, with a modest pullback expected in 2018," TD said in its economic forecast.

"From an economic growth perspective, this will translate into small declines in residential investment over 2018, driven by softening resale activity," it added.

"It also means that the support to consumption from housing wealth will begin to fade."

RBC's outlook calls for a 5.3-per-cent drop in national home sales this year, along with a slower pace of price increases.

"We expect a slowing in price gains at the national level from almost 10 per cent in 2016 to about 5 per cent this year," the bank said.

"The deceleration is forecast to continue in 2018 with price gains of 1 per cent as rising interest rates dampen demand and sales fall by another 4 per cent."

In a new forecast just last week, the Canadian Real Estate Association projected home sales will slip 1.5 per cent this year and 0.8 per cent next.

Average prices are projected to climb 7.4 per cent by the end of 2017, and 1.8 per cent next year.

Buyers have been flocking to areas around Toronto, having been priced out of the city, and to condos, given their lower costs. But there are issues there, too, BMO warned.

"The last affordable option for many first-time buyers in the Greater Toronto region is quickly becoming less so," senior economist Sal Guatieri said in a research note titled "Condomanium."

"Benchmark condo prices have soared 32 per cent in the past year to May," he added.

"Prices soared an annualized 39 per cent (seasonally adjusted) in the first full month after the new Ontario rule changes were announced … though this did mark a 'cooling' from the near 80-per-cent pace in April and March."

Read more:

Activist eyes HBC

An activist investor wants a shakeup at Canada's iconic Hudson's Bay Co.

Land and Buildings Investment Management of Stamford, Conn., said Monday it now holds a stake of almost 4.5 per cent in the retailer and wants the company to unlock its "substantial untapped real estate value."

In a letter to the board, released publicly, Land and Buildings called for either "monetization or repurposing" of HBC real estate assets or a management buyout of the company.

"Ostensibly, Hudson's Bay is a department store company, but unlike its peers that may own some of their real estate and whose values may approach or slightly exceed their share prices, Hudson's Bay owns the vast majority of its real estate," it said.

"As such, it is one of those rare diamonds in the rough that a real estate investor occasionally finds in a career, where the value of the real estate, which the company estimates is worth $35 [Canadian] per share, could be worth 4 times the current share price of $8.88. Even if the real estate is worth half the company's estimate, the shares would still be worth double today's share price."

HBC said it is reviewing the letter.

Read more:

Marina Strauss: No timeline for turnaround as HBC cuts deep

Markets at a glance

Read more:

Shorting of loonie eases

Shorting of the loonie continues to ease, though by inches.

The net short position against the currency narrowed for the third week in a row to $6.7-billion (U.S.), according to numbers released Friday, and measured as of last Tuesday by the Commodity Futures Trading Commission.

In contract terms, the net short position declined to 88,595 from 94,501.

"CAD remains the largest held net short, however details hint to a considerable amount of uncertainty as we note the recent decline in gross positions on both sides," said Bank of Nova Scotia foreign exchange strategists Shaun Osborne and Eric Theoret.

Read more:

What to watch for this week

Based on what we expect at this point, the next few days won't be anywhere near as interesting as the last few, what with Bank of Canada having hinted about raising rates, and the Federal Reserve actually having done it.

Among other things, we'll get the latest monthly reports on shopping and prices in Canada.

That starts Thursday morning with a report from Statistics Canada on retail sales for April, which BMO expects to show a rise of 0.3 per cent.

"Consumer spending has been consistently solid for the past two years, and continued solid job gains point to ongoing strength," said Canadian rates and macro strategist Benjamin Reitzes.

"However, the new real estate regulations put in place in Ontario could act as a bit of a dampener on any related activity, posing a downside risk through the summer months for retail sales."

Then on Friday, the federal agency releases its May report on consumer prices. Expect to see annual inflation dip to 1.5 per cent from April's 1.6 per cent.

"Inflation is looking sluggish now, but will firm in the back half of the year," said CIBC's Nick Exarhos.

"Food prices are likely to become positive contributors to headline [inflation] in the months ahead, while underlying inflation pressures should heat up as signaled by services inflation and the general performance of the economy in narrowing economic slack."

The rest of the calendar:


Investors get the latest quarterly results from Adobe Systems Inc., FedEx Corp. and Lennar Corp.


We'll learn how U.S. home sales fared last month, and also get the latest earnings from Oracle Corp.


The Statistics Canada shopping report.


Along with Statistics Canada's latest reading on inflation comes quarterly results from BlackBerry Ltd., which is always a focus of investors.

So mark that one in your smartphone's calendar.

Read more:

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