Getting Ready for Canada's Close-Up

by: Roger S. Conrad

Two thousand ten is shaping up to be a big year for Canada. Three global events will take place in the Great White North in the first half of the year, each significant in its own right. Viewed together they highlight Canada’s potential on the world stage.

Although its status in the world has diminished amid the worst economic downturn in at least three decades, the Group of Eight (G-8) industrialized countries still account for 40% of global GDP. And, because Canada is the chair of the 2010 G-8 meeting, the leaders of the member countries will gather February 5 through 7 in Iqaluit, the remote capital of Nunavut, the largest and newest Canadian territory.

Hosting the meeting there is designed to showcase Canada’s northern territories and to further assert its dominion over the North Pole and its considerable resource potential. Finance ministers and central bankers from Canada, the US, the UK, France, Germany, Italy and Japan will meet where the ground never thaws and winter blizzards can last for days.

The global institution that’s assumed much of the G-8’s prior global influence, the G-20, will gather in Toronto June 26 and 27. This larger group became the focal point of the global response to the financial panic that followed Lehman Brothers’ implosion in September 2008.

Its members’ fiscal and monetary authorities coordinated massive amounts of government spending and unprecedented central bank efforts to create liquidity.

There’s still no substantive progress on real financial system reform in any jurisdiction of note, and fiscal and monetary authorities face significant difficulties rolling back the stimulus measures, including ramped up spending and historically low interest rates, embarked upon to sustain and then grow the global economy.

Its status as the president of the G-8 and co-host of the G-20 also places Canada at ground zero of what’s sure to be a loud debate about global warming and the future of carbon dioxide emissions regulation. Canada’s economy is mature by any measure, but it shares characteristics with emerging and resource-rich countries in Asia and the Middle East; our neighbor to the north depends on oil and gas production for a big chunk of its livelihood; anything that threatens the status quo will concern Canadians, too.

How and when extraordinary stimulus measures are rolled back will certainly be a topic when G-20 leaders get together; less certain, of course, is whether they’ll do anything serious to rein in big banks. Carbon legislation will likely boil down to how much more domestic political capital President Obama wants to burn in the wake of the health care debate and how far he’s willing to go to get China to make meaningful concessions on its emissions.

That they’ll contemplate (or not) all these issues in Canada highlights this developed economy’s unique potential as a bridge between its G-8 peers and emerging economies such as China and India and resource-rich nations in the Middle East.

And, of course, beginning February 12, Vancouver plays host to the Winter Olympics. While the weight of the available evidence suggests the economic impact on host cities isn’t as positive as politicians and members of the “movement” would have us believe, the Games will certainly showcase one of Canada’s most beautiful cities.

It’s difficult to imagine as substantial a buzz developing around Vancouver as arose around Beijing in the summer of 2008, and there are in fact legitimate concerns about the long-term fiscal problems putting on the event will create. There is, however, a way to quantify performance before the medals are handed out: The Dow Jones Summer/Winter Games Index of 36 sponsors and suppliers for the 2010 Winter Olympics is up 40% since it was updated to track the Vancouver games on Dec. 22, 2008. The S&P 500 is up 29% and the MSCI World Index is up 31% during the same time frame.

Royal Bank of Canada (NYSE:RY), the sponsor of the Olympic torch relay, is up 90% in US dollar terms, although the fact that the lender has beaten consensus profit estimates three times since December is probably at least as good an explanation for its impressive run as its Olympics role. Teck Resources (TCK), which will contribute to the gold, silver and bronze medals awarded at the Games, is up more than seven-fold. The rally in commodities prices and the injection of significant capital by China Investment Corp to help reduce debt are significant factors in its performance as well.

Coca-Cola (NYSE:KO) and McDonald’s (NYSE:MCD), the Dow Jones index’ top two weightings, are up 29% and 3.6%, respectively. Two sponsors--Nortel Networks (OTC:NRTLQ) and General Motors, er, Motors Liquidation Company (OTC:MTLQQ)--have declared bankruptcy since the Dow Jones index was re-jiggered from the Beijing games toward the Vancouver games last December.

The primary, headline objectives of the various events may not materialize--the G-8 won’t solve global warming, the G-20 won’t fix global finance, and Canada will struggle to win the hockey gold medal. But the background is important, too, and Canada is using its opportunity to assert vital national interests, to demonstrate useful financial regulatory structures to a needful world and to showcase one of its beautiful cities.

As Gluskin + Sheff chief strategist David Rosenberg put it in his “look ahead to 2010” piece: “At no time in my professional life have the downside risks--economic, fiscal, financial and political--been so low on a relative basis and the upside potential so high as is the case today. The near-2,000 basis point gap this year between the TSX and the S&P 500--the former leading--should be taken in the context of being just past the halfway point of a secular (i.e., 16-18 year) period of outperformance. Northern exposure never felt this hot.”

Another Question for 2010

Official positions--monetary and fiscal--on the rising loonie have softened in recent weeks. Data suggest the Canadian economy is recovering despite a relatively stronger currency, and government authorities as well as central banks seem to be more open to arguments about the merits of a strong currency.

Bank of Canada Governor Mark Carney’s “conditional commitment” to keep the official benchmark rate at a record-low 0.25% through June 2010 seems solid. But the language accompanying the last decision softened on the loonie threat.

The key point to keep in mind, however, is that the BoC’s mandate is to keep inflation within a 1% to 3% range, with 2% the target. Unless and until inflation becomes a threat, Carney and the BoC will stand still. If inflation picks up to the point where a rate hike becomes necessary, whether or not the Federal Reserve has acted, Carney and the BoC will act. It’s the only way to preserve its credibility.

Depending on when the US Federal Reserve begins its inevitable rate-hiking campaign, the Canadian dollar could have the added catalyst of tightening money supply relative to its closest global trading partner.

The Canadian dollar has registered an impressive gain against the US dollar in 2009. Even more significant is the loonie’s flight off its Jan. 21, 2002, all-time low of 61.79 US cents. It peaked at 110.24 US cents on Nov. 7, 2007, and could approach those levels again.

Fly, Loonie, Fly

According to a report by Bloomberg News, Finance Minister Jim Flaherty thinks China and Russia will buy more Canadian-dollar-denominated assets in the coming year to protect against US-dollar weakness. “It does not surprise,” said Flaherty to Bloomberg, “that China and Russia would take greater positions in the Canadian dollar than they have previously. I would expect countries looking around the world to invest in market currencies that are reliable.”

This also means sovereign wealth funds--tasked with diversifying excess currency reserves by investing in, among other assets, publicly traded stock and debt--will likely look to buy more Canadian-denominated assets.

China Investment Corp is the most active (healthy) SWF in the world. Unlike Dubai-sponsored SWFs, CIC didn’t load up on debt. And, apart from the high-profile disaster that was its investment in Citigroup (NYSE:C), the USD200 billion fund kept most of its powder dry through the 2008-market meltdown.

CIC has a lot of capital to deploy, and the government is said to be considering providing it another USD200 billion to pick up cheap, strategic assets.

Disclosure: no positions