Weekly Wrap-Up July 6-10, 1998

Closing Numbers

The north American bond markets benefitted from the continued 'flight-to-quality' trade which has presided over the market since the re-emergence of the Asian crisis. The early strength in the fixed income markets was due to comments out of Japan that the proposed income tax cuts, which have been promised as part of the stimulus package, may not be permanent. This left investors around the world concerned that the Japanese economy would not be making a stellar come back soon, leaving the rest of Asia mired in recession and continued economic weakness.

Added to the effects of Asia, is the continuing melt-down of the economic conditions in Russia. The equity, fixed income and unofficial exchange rate have all been beaten badly over the recent past. The IMF may not be able to do anything to stop the bleeding. Capping things off, if the Japanese Yen shows any serious decline in value versus the $US, China will devalue the Yuan, thereby re-igniting the downward spiral being felt in Asia.

Economic data did little to change investors' perception of the North American economy...moving along well with little sign of inflation. In the US, wholesale inventories for May were down 0.3%; consumer credit rose to record highs; PPI for June was down 0.1%, with the core reading, ex-food & energy, up a modest 0.2%. In Canada, the international reserves for June were down $CDA 590million, all in defense of the dollar; building permits for May were down 5.9%; help wanted index was unchanged; housing starts for June were down 4.6%; unemployment in June was unchanged at 8.4%.

The Canadian economic data is being skewed by strikes in the manufacturing sector (GM) and the construction industry (particularly in Ontario). As well, the unemployment data saw a 54 thousand decline in full-time jobs, with the net result being a loss of 36 thousand jobs. This was the worst employment report for Canada in the last 21 months, and handcuffs the Bank of Canada with respect to raising rates to defend the dollar.

The Canadian 30 year long bond finished the week at 5.45%, 4 basis points stronger than last week. The Canadian bond set a new record low yield Tuesday at 5.43%. The US 30 year Treasury added 2 basis points on the week to finish weaker at 5.62%. The US market set a record low yield this week at 5.57% on Monday. The Canada/US long bond spread now stands at -17 basis points. The fundamentals do not currently warrant Canada remaining at a premium to the US. Look for the Canadian bond market to underperform the US over the near-term. (A basis point is 1/100th of a percent.)

The North American equity markets all finished the week in the black, although Toronto had to work hard to hold onto the gains. With interest rates setting record low yields, the equity markets were spurred on by the financial sectors. Investors seem to be chasing investments linked to the domestic economy in an effort to insulate their portfolios from the Asian contagion and any spill over effects.

The commodity heavy TSE just managed to finish in the black this week adding a mere 6.01 points, or a microscopic 0.08%, to close at 7389.72. The DJIA finished the week better at 9,105.74, up 89.48 points or 0.89%. The S&P 500 added 1.56%, establishing 2 record high closes during the week, and the Nasdaq added 2.59%, finishing the week with three record high closes.

Sunday evening brings upper house elections in Japan. If the Liberal Democrats show any signs of loosing control of their majority, look for some more of the same 'flight-to-quality' trade to continue. This in turn will put pressure on China, and Russia. The Russian concerns have lateral damage effects in Germany due to the tight nature of Russian borrowing from German banks. If the Japanese elections go poorly for the Liberal Democrats look for the Yen, the Yuan, the Ruble, and the Deutschemark to feel the pinch. The Canadian dollar is likely to continue to loose ground to the $US, with the Bank of Canada sidelined due to the tepid nature of domestic indicators. Good trading.

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