Thinking About What’s Next January 2015 Jim Allworth

RBC Dominion Securities Thinking About What’s Next January 2015Jim Allworth

World we were 2008 - 2012 • Dominated by crisis • Low growth • Low inflation • Ultra-low interest rates • Low price-earnings ratios • Policy uncertainty RBC Dominion Securities | Thinking About What Comes Next

World we’re in now • Crisis is behind us • Global economy de-synchronising • US Growth has entered catch-up phase • Inflation will be back on the radar • Monetary policy and interest rates have begun to normalise • Price-earnings ratios have expanded • Policy uncertainty fading RBC Dominion Securities | Thinking About What Comes Next

Growth surge on the way? RBC Dominion Securities | Thinking About What Comes Next

U.S. Housing: Even a partial recovery is a big deal RBC Dominion Securities | Thinking About What Comes Next

Consumer Household Debt Household Net Worth % of Disposable Income $ U.S. (Trillions) Source: Bloomberg, quarterly series, data through June 2014 Source: Bloomberg, quarterly series, data through June 2014 RBC Dominion Securities | Thinking About What Comes Next

Manufacturing Renaissance • Cheaper dollar • Rising costs in low wage countries • Shale gas cost advantage • A decade of off-shoring experience RBC Dominion Securities | Thinking About What Comes Next

RBC Dominion Securities | Thinking About What Comes Next

More Than Just a New High? RBC Dominion Securities | Thinking About What Comes Next

A New Secular Bull Market ? RBC Dominion Securities | Thinking About What Comes Next

Valuation S&P 500 P/E Ratio Trailing P/E Ratio Forward P/E Ratio Source: Bloomberg, monthly series, data through October 2014 Source: Bloomberg, monthly series, data through October 2014 RBC Dominion Securities | Thinking About What Comes Next

Looking for Yield RBC Dominion Securities | Thinking About What Comes Next

Equities Valuation and Interest Rates Up to a point, higher interest rates are associated with higher P/Es 10-Year Treasury Yield and Equity P/E Ratio S&P 500 P/E Ratio (from 1/1936 to 5/2013) 10-Yr Avg Bond Yield (from 1/1936 to 5/2013) Source: RBC Capital Markets, May 2013 RBC Dominion Securities | Thinking About What Comes Next

Commodities CRB Raw Industrials Index Source: Bloomberg. monthly series, data through December 2013 RBC Dominion Securities | Thinking About What Comes Next

TSX Sector Weights S&P 500 Sector Weights RBC Dominion Securities | Thinking About What Comes Next

Thinking in advance about what’s to come • Unwinding of many extremes • A few years of faster than expected growth from developed countries starting with the U.S. • An end to unconventional monetary policies • Inflation back on the scene • A normalising of interest rates • Reallocation back to equities • A phase of growth that favours the U.S. market over the Canadian RBC Dominion Securities | Thinking About What Comes Next

Where are we headed? Markets will follow the economy and earnings higher No recession in sight Interest rates will normalise relative to inflation Inflation will gradually/eventually move higher Canadian dollar will weaken further RBC Dominion Securities | Thinking About What Comes Next

How should a portfolio be positioned? Increase exposure to equities that will participate in growth Boost exposure to U.S. stocks Reduce/shorten duration of fixed income holdings Look for opportunities to move back up the fixed income quality curve RBC Dominion Securities | Thinking About What Comes Next

How are Canadian investors positioned? Stocks – not offensive enough! Underexposed to equities Choosing stocks that have high yield / high payout ratios / comparatively little growth potential (ostensibly for safety??) Have very little exposure to equities that will participate in future economic growth lower yield / low payout ratio / higher growth Almost entirely Canadian RBC Dominion Securities | Thinking About What Comes Next

How are Canadian investors positioned? Fixed Income – not defensive enough! Overexposed to fixed income Chasing yield has led most portfolios steadily down the quality curve Corporate bonds and preferreds are much more correlated to the stock market So if we unexpectedly went into recessionstocks would fall and so would a large portion of many fixed income portfolios RBC Dominion Securities | Thinking About What Comes Next

Bottom line The worst of all worlds If the stock market goes up a typical equity portfolio won’t participate fully But if the economy and stock market go into decline most portfolios will suffer losses in the fixed income portion as well RBC Dominion Securities | Thinking About What Comes Next

Thinking About What’s Next January 2015 Jim Allworth