David Rosenberg is chief economist with Gluskin Sheff + Associates Inc. and author of the daily economic newsletter Breakfast with Dave.
What is the difference between “disaster” and “amazing” when it comes to the North American free-trade agreement? Let’s be charitable and say a few minor tweaks.
But at the end of negotiations, Canada comes back with a deal that averts a very bad economic outcome and lifts a cloud of uncertainty from this country’s business outlook.
The down-to-the-wire new trilateral trade agreement was met positively by the markets after weekend media reports were not exactly that optimistic. Canada will allow for greater access to its dairy industry, provide greater intellectual property provisions, tighten origin rules for automotive production (this hurts Mexico) and will not face the recessionary effect of auto tariffs while keeping the Chapter 19 dispute-resolution mechanism intact.
The proposed deal, with a new name – the United States-Mexico-Canada Agreement – is hardly a major rewrite that warranted so much wasted time over a 13-month-long period of negotiations. Wisconsin farmers rejoice and Canada doesn’t get spanked by auto tariffs and other threats out of the White House. And it is a relief that both Canada and Mexico get a six-month reprieve from any further negative U.S. trade action.
One key feature is that the three amigos have agreed on a 16-year term for the deal, which one could argue is a significant compromise from the United States, which had initially insisted on a sunset clause that could terminate NAFTA following five-year intervals. If anything, this removes a pervasive cloud over the business-investment outlook in Canada, although there are clearly other impediments on this side of the border, notably from excessive regulation, an incoherent energy policy and uncompetitive top marginal tax rates.
As for the winners here from an investment landscape, here are my initial thoughts. The deal is very good for the automotive industry since the tariff-free export limits for Canada are about double what we are now shipping south of the border. At the margin, it could be mildly positive for grocery chains and drug stores insofar as their margins on dairy products expand. Generic-drug producers may be hit slightly from the terms agreed to on patent extension. But the auto-parts sector is where you would see the biggest impact. For others, the effects will likely be fairly modest.
From a broad standpoint, this helps stabilize the macro climate and lead to lower uncertainty and we could see a capital expenditure pick-up that would be good for machinery, industrial construction and engineering. Transports would benefit as well. At the same time, it would help free the Bank of Canada’s hands to raise rates again, which would be a negative for housing/housing-related names and interest-sensitive spending. Perhaps there will be a margin-boost for the banks.
The Canadian dollar pierced the 200-day moving average Monday ($1.2860), although some will point out the loonie was trading closer to $1.22 prior to the onset of the trade tensions escalating earlier this year. There obviously are other impediments (pipeline frustrations, tax rate differentials) but we could get a moderate rally in the loonie, too, although much of the currency move is behind us. So screening for companies that may benefit from a near-term Canadian dollar relief rally will make sense as well (note that there are still almost 18,000 net speculative short contracts on the CME ripe for a squeeze).
The biggest impact from a resolution of NAFTA will be the lifting of uncertainty. This will positively affect the whole Canadian market. I think valuations have been under pressure as a result of the trade “noise.” In fact, the forward P/E multiple on the TSX is almost 14 times (the S&P 500 is at 17 times), and to revert back to where it was at the start of the year when U.S. President Donald Trump started the trade dispute, would mean a two-point multiple expansion or the equivalent of a 14-per-cent bounce just from the removal of these clouds.