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Briefing highlights

  • Trump, part of the problem
  • Stocks, loonie, oil at a glance
  • Vancouver, Toronto home sales surge
  • Fears mount for U.S., U.K. economies
  • Linamar shares sink on GM strike warning
  • What analysts are saying today
  • Required Reading


Call it President Donald Trump’s merry-go-round: Where the U.S. dollar is concerned, he’s part of his own problem.

The President has been lamenting the strength of his currency, and pointing fingers at other countries over the weakness of theirs.

But, Bank of Nova Scotia economists have found, Mr. Trump is part of the problem through the uncertainty he creates.

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That’s not to suggest that the President isn’t doing exactly what he pledged to do during his election campaign, only that, as we’ve seen in other markets, the unpredictability of it all is taking a toll.

That toll depends on where you sit, of course. And Mr. Trump sits in the camp that wants a weaker currency and even lower interest rates than the Federal Reserve is providing.

“Our newly estimated model of the broad U.S. effective exchange rate finds that uncertainty, as measured by the VIX, has a significant positive effect on the USD,” said René Lalonde, Scotiabank’s research director, and his colleague, senior economist Nikita Perevalov.

In citing the VIX, they were referring to the Chicago Board Options Exchange Volatility Index, which measures the short-term market volatility expected by investors.

“The rise in uncertainty since the last U.S. presidential election and the associated global flight to the safety of U.S. assets put upward pressure on the effective exchange rate of about 14 per cent relative to its pre-election level, leaving the exchange rate 11 per cent above current fundamentals,” Mr. Lalonde and Mr. Perevalov said.

“The strength in the USD is contributing to the observed and expected widening of the U.S. trade deficit, which has been moving in the opposite direction to President Trump’s desire,” they added.

“We expect trade uncertainty to remain high, and in so doing maintain upward pressure on the broad measure of the USD.”

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We’ll learn more on Friday, when the next report on U.S. trade is expected among economists to show a wider deficit of almost US$55-billion for August, up from July’s US$54-billion.

“Despite steadily broadening and increasing U.S. tariffs, the persistence of record-sized trade deficits reflects the impacts of retaliatory actions against U.S. exports, strength in the U.S. dollar, still sturdy U.S. domestic demand and weakening global economic growth,” said Michael Gregory, Bank of Montreal’s deputy chief economist, who expects the trade gap to come it at US$54.5-billion.

The U.S. dollar is, of course, the No. 1 reserve currency across the globe, and, obviously,also an “important determinant” of U.S. trade, Mr. Lalonde and Mr. Perevalov said

“The latter role is a specific focus of the Trump administration, which has labelled China a currency manipulator and accused Germany of benefiting from an undervalued euro,” they said.

“Underlying this charge is a concern that an overvalued USD is constraining demand for U.S. exports and makes imports more attractive, increasing the trade deficit,” Mr. Lalonde and Mr. Perevalov added.

“In part, this is also motivating President Trump to weigh in on matters of monetary policy, urging lower rates at home in order to depreciate the U.S. dollar.”

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Without going into all of their complex work, Mr. Lalonde and Mr. Perevalov said that many things helped drive down the effective exchange rate between the third quarter of 2016 and the first quarter of this year.

Source: Bank of Nova Scotia

Among them were “less impressive” economic growth compared to U.S. trading partners, higher oil prices and a higher yield on the U.S. 10-year bond.

But all of that was more than offset by the “increased uncertainty since the election of President Trump,” the Scotiabank economists said.

“Given that the elevated trade uncertainty is expected to persist well into 2020, it should continue to support the U.S. real exchange rate and thus prevent the shrinking of the U.S. trade balance.”

This comes as the U.S.-China trade war is raging and tensions are mounting between the U.S. and the European Union.

Just yesterday, the Trump administration said it would hit Airbus plans with 10-per-cent duties and a raft of other goods with 25-per-cent levies.

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This action did not come out of the blue. It followed a World Trade Organization decision to allow the U.S. to hit the EU with US$7.5-billion in tariffs in response to subsidies to aircraft manufacturing.

“We still expect a limited trade deal to be achieved this year. However, we continue to expect U.S.-EU trade tensions to rise as there are other catalysts on the horizon,” said Citigroup global economist Cesar Rojas.

Provided that the impeachment proceedings do not look unfavourable for President Trump, we expect trade negotiations to continue, and some of these risks for U.S.-EU trade tensions to start to materialize,” he added.

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Markets at a glance

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Home sales rise

Home sales rose sharply in Toronto and Vancouver last month as Canada’s most expensive cities continued to move strongly into recovery mode after a long slump, The Globe and Mail’s Janet McFarland and Brent Jang report.

Sales of all home types climbed by 22 per cent in the Greater Toronto Area in September compared with the same month last year, while average prices rose by 5.8 per cent. Much of the growth in activity came from a sharp rebound in sales of detached houses.

In Greater Vancouver, sales roared ahead by 46 per cent in September from a year earlier, but the growth came off of a low base of sales in 2018 as the Vancouver market was cooling rapidly. Last month’s sales were 1.7 per cent below the 10-year average for September, according to the Real Estate Board of Greater Vancouver.

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“This has become a perfectly sturdy market,” Bank of Montreal senior economist Robert Kavcic said of the Toronto numbers.

“Strong sales growth is flattered by weak year-ago activity, so it’s not as hot as the headline would suggest,” he added.

“Overall activity and the broad market balance are consistent with long-term norms. As such, we continue to see solid, but not excessive, price growth - 5.2 per cent year-over-year for the broad market, with continued gains month-over-month in September.”

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British services PMI slips

Fears are mounting for Britain’s economy after the latest measure of the services sector and in the runup to Brexit.

The HIS Markit services purchasing managers index sank to 49.5, just below the 50 mark that separates contraction from expansion.

This followed weak readings for the manufacturing sector across large parts of Europe.

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“The U.K. services sector tilted into contraction in September, with the third and final PMI reading of the week completing a trio of sectors in decline,” said IG senior market analyst Joshua Mahony, referring to earlier measures of the manufacturing and construction industries.

“While the U.K. economy has fared better than many had expected, owing to the lessened reliance on trade war-impacted manufactured goods, we are now seeing the all-important services sector fall into decline for the just the second time in two years,” he added.

Given the measures for current and new business, along with low expectations, Mr. Mahony said this doesn’t look like a “one-off month” for the sector.

“Crucially, while this marks the fifth period of contraction since the financial crisis, we are yet to see a protracted decline in services over the last decade,” he added.

“Thus, for markets, the key here is whether this will be a protracted contraction in U.K. services, with such a move likely to drive the country into a recession.”

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Fresh U.S. economic fears

The latest reading on the U.S. services sector is raising fresh fears, coming, as it did today, on the heels of a disappointing measure of manufacturing earlier in the week.

Today’s reading, the Institute for Supply Management’s non-manufacturing index, showed the measure slipping to 52.6 in September, still in expansion territory, but down from 56.4.

“Global manufacturing is facing plenty of headwinds and now, that is spilling over into services,” said Bank of Montreal senior economist Jennifer Lee.

“I take solace in the fact that activity is still growing,” Ms. Lee added, though she cited it as “yet another leak in the U.S. economy” that likely will not be fixed by lower interest rates.

“While the service sector is still adding jobs, it is very apparent that we are no longer adding jobs at a strong pace and we will likely see further weakness in the service sector have a strong ripple effect in the coming months,” said Oanda senior market analyst Edward Moya.

The sharp declines in the two indexes, manufacturing and services, “leaves a weighted average of the two at a level that has historically been consistent with a recession,” said Michael Pearce, senior U.S. economist at Capital Economics.

“Nevertheless, this is not a perfect recession indicator – with that weighted average producing false positives in both 2012 and 2016.”


Linamar warns of GM strike impact

From The Canadian Press: Shares of Linamar Corp. tumbled after the auto parts maker warned a strike at General Motors in the U.S. was taking a bite out of its bottom line. The Ontario-based company said a strike-related decline in GM orders is affecting Linamar’s earnings by up to $1-million a day. The strike by the United Auto Workers at GM began Sept. 16.

Imperial chief to step down

From Reuters: Imperial Brands PLC chief executive officer Alison Cooper will step down once a replacement is found, a move that comes as the cigarette maker grapples with a regulatory backlash against e-cigarettes and declining tobacco sales.

Landmark ruling

From The Associated Press: Facebook can be ordered to police and remove illegal content worldwide, Europe’s top court said in a landmark ruling that rights advocates say could allow authoritarian regimes to silence critics.

Fed open to further adjustments

From Reuters: Chicago Federal Reserve Bank President Charles Evans said the two recent rate cuts undertaken by the Federal Reserve were appropriate, but the bank would be ready to make further adjustments if needed.

Constellation Brands posts higher sales

From Reuters: Constellation Brands Inc. reported a 2-per-cent rise in second-quarter sales on Thursday, helped by higher demand for its beers Corona Premier and Modelo Especial. Net loss attributable to the company was US$525.2-million, or US$2.77 per Class A share, compared with a profit of US$1.15-billion, or US$5.87 a share, a year earlier.

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What analysts are saying today

“Markets in Asia followed on from a weak U.S. session after the U.S. announced a new raft of tariff measures on a range of European goods in response to the [World Trade Organization] findings yesterday that they were entitled to levy US$7.5-billion of tariffs in response to subsidies that were used to help Airbus. With markets already looking vulnerable over concerns about a manufacturing recession starting to bleed into a slowdown in the services sector, the timing of the WTO ruling could not have come at a worse time for already jittery investors, along with the U.S. response to apply tariffs to a wide range of goods including malt whisky, French wines, and a range of food items, from Oct. 18.”” Michael Hewson, chief analyst, CMC Markets

“The huge losses seen yesterday have eased somewhat in Europe, with traders taking stock after a huge slump in global markets. However, fears over U.S. growth prospects have been joined by the U.K., with the contraction in U.K. services pointing towards a growing fear for U.K. Q3 growth figures. Once again, we are seeing traders shift into haven assets, with bonds, gold and the yen coming into favour. With central banks already running highly accommodative monetary policy, there is a fear that they will have little ammunition if current recession fears prove correct.” Joshua Mahony, senior market analyst IG

“Wall Street is closely watching every U.S. data point and continued softness will push the Fed into committing to an easing cycle. Fed fund futures now see a 72.9-per-cent chance of a rate cut at the Oct. 30 Fed policy decision meeting. It will be hard for the Fed to maintain the stance that three consecutive rate cuts is only part of mid-cycle adjustment. The data-dependent Fed will be able to justify the switch to an easing cycle if we see tomorrow’s nonfarm payroll report post a sub-100,000 print. Current expectations for the September payroll number is 148,000.” Edward Moya, senior market analyst, Oanda

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Required Reading

RBC Capital Markets fined

A U.S. regulator has fined RBC Capital Markets LLC US$5-million for failing to prevent hundreds of “fictitious” offsetting trades even after the investment bank’s parent company, Royal Bank of Canada, was disciplined for similar infractions in 2014. James Bradshaw reports.

The auto consolidation game

Britain’s struggling Jaguar Land Rover may be the next pawn in the great auto consolidation game, our European bureau chief, Eric Reguly, writes.

Buying and selling

Meet a $925-million fund manager who has been beating the market. Brenda Bouw looks at what he’s buying and selling.

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