Weekly Wrap-Up March 8-12, 1999

The bond and equity markets rallied this week aided by inflation friendly economic data and comments from the Federal Reserve Board Chairman Alan Greenspan. News of further cut backs in oil production by the major OPEC nations helped the price of crude oil, as well as the oil and gas sector of the stock market. Provincial budgets from Quebec and Alberta were as expected leaving those credits unchanged to slightly better bid.

The North American bond market benefitted from a continuation of the short covering relief rally and comments out of Federal Reserve Board Chairman Alan Greenspan indicating inflation is benign. Economic data released in both Canada and the US contributed to the inflation friendly comments by the Fed chief.

Early this week, Federal Reserve Board Chairman Alan Greenspan discussed the condition of the US economy. Mr. Greenspan indicated that "growth output has remained vigorous, unemployment is lower than it has been in 30 years, and yet, despite the tautness of the labour market, there have been no obvious signs of emerging inflation pressures". Adding that "dramatically reduced inflation expectations" were helping to reduce borrowing costs by lowering risk premiums and at the same time were boosting investments in expanded production facilities, the Fed Chairman gave the bond market an indication that there would be little chance of an interest rate increase in the near-term. The next FOMC meeting is March, 30.

The Provinces of Quebec and Alberta tabled their budgets this week. Quebec brought in its first balanced budget in recent memory. The Separatist forces in the Province felt that a balanced budget would be one of the pre-requisites in order to establish the winning conditions for a referendum on sovereignty. However, at this juncture it should be considered good government. With the Federal Government running surpluses, as are many Provincial governments, a balanced budget is a good start. Quebec finds itself in the position of playing catch-up in terms of fiscal responsibility.

The Alberta Finance Minister, Stockwell Day, introduced a new flat tax to replace the current graduated tax system tied to the Federal tax system. The new taxation system proposes to remove thousands of Albertans from the tax rolls, and place a flat tax of 11% on those remaining. The budget also increased spending on health care and education, paralleling the Federal budget. At the end of the week both Provincial credits were unchanged to slightly better bid in the bond market.

Global events continue to be of concern to the economies of North America. In China, the default rates of business enterprises are increasing at the same time that foreign bank liquidity is drying up. This could mean liquidity problems for the emerging capital markets in China. As a result of the increasing concerns over China's financial markets, rumours run rampant through the global foreign exchange markets that China may devalue the Yuan. If this occurs there may be a whole new round of turmoil in the Asian capital markets.

The news just refuses to get any better for Japan. After some optimism had been introduced into the market about the health of the Japanese economy, the hammer came down this week. Japanese fourth quarter GDP was reported to be down 0.8%. This following a decrease of 0.7% in the third quarter. The Japanese economy has contracted for the last five quarters, making this the worst recession the country has experienced since the end of the Second World War. Sony reported its first loss, ever, and announced a host of restructuring measures including approximately 10,000 layoffs. Adding to concerns is that corporate year-end is March, 31. This could lead a lot of companies to tighten the reigns further to make balance sheets look good.

German Finance Minister Oskar Lafontaine resigned suddenly this week. His departure came as a result of harsh criticism received as a result of an austere budget with significant tax increases aimed businesses. This at a time when the German economy is experiencing high unemployment and slowing economic growth. The German market experienced a relief rally on hopes that the punitive taxes would be struck from the budget. However, the news out of Germany is the tax bill will be tabled unchanged.

Brazil and Ecuador continue to make headlines. Brazil appears to have secured the balance of the IMF rescue package put together to help prevent the break-down of the Latin American economy. Ecuador does not appear as lucky. The Government declared a couple of Bank Holidays this week, in an effort to prevent a run on the banks. The Ecuadorian currency has dropped 26% versus the $US this week and 42% this month. The country's current account deficit has reached 11% of GDP (read - not good). By the week's end Ecuador continued to experience a falling currency, rising inflation, and growing labour unrest.

OPEC Ministers meeting in Brussels this week, indicated that an agreement in principle has been reached among the largest members regarding further production cut backs. The new agreements, which are to go into effect April, 1, are supposed to trim a further 2 million barrels per day of production form the global supply. This amounts to a total cut back of 2.7% of daily global production. Oil closed the week at $US 14.48, up over 18% in the last two weeks.

Economic data released this week demonstrated that Mr. Greenspan's comments regarding benign inflation rang true. In the US, fourth quarter non-farm productivity was revised up to 4.6% from 3.7%; wholesale inventories dropped 0.2%; retail sales rose 0.9%, up 0.6% ex-autos, with January's figure revised to +1.0% from +0.2%; PPI was -0.4%, with the core rate, excluding food and energy, unchanged. In Canada, housing starts rose 1.5% in February, new building permits declined 2.9%; Canadian employment rose 17,000 jobs, the unemployment rate remained unchanged at 7.8%; 61,000 full-time jobs were created while 44,000 part-time jobs were lost.

The bond markets took the economic data released this week, combined with Mr. Greenspan's comments, as an indication that inflation is still over the horizon. This is good for bonds as inflation erodes the value of a bonds future cash flows. The technical tone in the market improved somewhat this week as shorts continued to be covered. Open interest dropped in the long bond futures contract, indicating that fewer shorts exist. As well, 'stop loss' levels were hit this week forcing shorts to cover. In Canada, the Government issued $CDA 3.5 billion 2 year bonds, which were well received by investors. Corporate supply came into the market in large size on both sides of the border as borrowers took advantage of the better tone in the fixed income markets to issue new debt.

The Canada 30 year long bond shed 7 basis points on the week, closing a 5.43%. The Canadian long bond is 29 basis points higher now than at its low yield in mid-October, 1998. In the US, the Treasury 30 year bond fell 7 basis points to close the week at 5.52%. The US long bond is yielding 79 basis points more now than at its low yield in October of last year. The flight-to-quality trade continues to be unwound. The Canada/US long spread remains at -9 basis points. (A basis point is 1/100th of a percent.)

The North American equity markets benefitted from the positive tone provided by the tame inflation data, comments made by the Federal Reserve Board Chairman, and news out of OPEC of further production cuts. Both the DJIA and the S&P 500 rallied to new record highs over the week, as oil and gas shares lead the markets higher, while the tech stocks kept the gains subdued.

Merger and acquisition activity was hoping again this week. CIT Group bought Newcourt Credit in a $US 4.2 billion stock swap deal; Allied Waste bought BFI in a $US 9 billion waste management deal; BMC announced its purchase of software company New Dimension for $US 650 million; RJR Nabisco announced the sale of it's international tobacco assets to Japan Tobacco for $US 8 billion, and also indicated that it would spin the domestic food and tobacco groups into separate companies; Banque Nationale de Paris announced a $US 37 billion bid for both SocGen and Paribas Bank. Sony announced that it would undergo significant restructuring following the announcement of its first loss, ever. The company indicated as many as 10,000 employees would be laid off and 5 manufacturing facilities would be closed.

The TSE posted a 2.29% gain, adding 146.95 points to close at 6562.09. The oil and gas sector helped skate the Toronto market 1.17% into the black for the year. The Toronto exchange is still down 16.11% from it's high. The DJIA posted three record highs and came within 42 points of 10,000, before ending the week up 1.44%, or 140.27 points, at 9876.35. The S&P500 posted a couple of record highs this week closing up 1.50%, at 1294.59. The Nasdaq rose 1.90%, to close at 2381.53. The tech heavy Nasdaq is still off its record highs by 5.12%, but up 8.61% on the year.

The bond markets are technically poised to move higher, with 5.40% the low end of the new range in the US. The DJIA wants to test the psychological 10,000 level. With commodities firming up, the strength in natural resource stocks may be enough to counter weakness in tech stocks and push the Dow over the top. Good trading.

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