The Weekly Bottom Line

HIGHLIGHTS OF THE WEEK

After having improved for three consecutive months, consumer confidence took a major hit in February as the Conference Board index fell to 46.0, from 56.5 in January. Households soured on their expectations and on their current situation, the index for which has been at rock-bottom levels for over a year.
New home sales fell sharply (-11.2% M/M) in January to a record-low of 309K units. The inventory of unsold new homes shot up to 9.1 months, from 8.0 in December, which marked a third consecutive increase in inventories. The median price of a new home was down 2.4% on a year-ago basis.
Existing home sales fell by 7.2% M/M in January, and the inventory of unsold homes rose from 7.2 months to 7.8 months, the highest inventory level since September 2009. The median existing home price was flat on a year-ago basis, after having been in the red for 28 consecutive months.
The S&P/Case-Shiller index of existing home prices (monthly composite of 20 cities) rose by 0.3% M/M in December, a seventh consecutive increase. On a year-ago basis, price were down 3.1%, but were gradually inching toward the break-even level over the course of 2009.
Next week we expect to hear that Canadian real GDP grew 4% annualized in the fourth quarter of 2009, largely driven by household spending and investment.
The Bank of Canada is expected to keep the overnight rate at 0.25% at its next fixed rate announcement date, while the need to stay the course on the 2-year fiscal stimulus package announced last January will be a key theme in next Thursday's Canadian federal budget.

UNITED STATES - ALL ROADS LEAD TO HOME

No matter what we do or how long our day goes on for, we eventually retreat to our homes in the evening. In similar fashion, and because the housing market is at the epicenter of this Great Recession, economists find themselves constantly going back to scrutinizing housing markets. A sustainable recovery in housing remains a key ingredient to the overall economic recovery. It matters directly, because of the depressed residential construction and investment components of economic activity, and all the jobs related to construction and real estate. But it also matters a great deal indirectly - because of the generalized impact of housing wealth on household and financial institution balance sheets and their respective consumption and lending behaviors. By “sustainable” recovery, we mean one that has its own private-sector legs, unsupported by temporary or extraordinary measures of fiscal or monetary policy. Prices need not rebound ferociously, but only convincingly stabilize and eventually show modest gains. It took only a stabilization of year-over-year home price declines in Q1/2009, which were nearing 20% at the time, for equity markets to start rallying in earnest.

But that can only take you so far. After rallying through all of 2009, equity markets fizzled by mid-January. On the economic front, they now need more than “not so bad” data and “better than expected” data, especially when expectations are glum. The data certainly has broadly improved since the dog days of last summer, but markets now need doses of actually good data to fuel them forward. Aside from the strong fourth quarter real GDP data, which recorded growth of 5.9% (Q/Q annualized), mostly on the count of a large inventory swing, there really hasn't been much good hard data to cling to in recent weeks. Disappointing data shakes markets, whilst outright bad data roils them. This week was a crystal clear reminder that no matter how you slice it, you'd have to be detached from the data to believe that a sustainable recovery in housing markets is within reach in the near-term. Sales of new homes fell for third consecutive month to hit an all-time low - the data goes back to 1963 - of 309K units in January, falling 11.2% from December. This was lead by a massive 35.1% M/M drop in the Northeast, which was hit by particularly bad weather. But the weakness in sales was generalized enough across nearly all regions of the country that one can't sugar-coat it. Existing home sales didn't fare much better either. They fell by 7.2% M/M in January, and the inventory of unsold homes rose from 7.2 to 7.8 months. Sales and prices are expected to remain choppy this year as affordability improvements and temporary tax incentives lapse, and foreclosures continue to mount. While providing some near-term relief for some households, loan modification programs have so far had little success in preventing ultimate defaults.

Non-housing data didn't provide any relief either. After having improved for three consecutive months, consumer confidence took a major hit in February as the Conference Board index fell to 46.0, from 56.5 in January. Households soured on their expectations and on their current situation, the index for which has been at rock-bottom levels for over a year. From worries about the deteriorating fiscal situation in Europe and the U.S. to bad weather to a dysfunctional Washington to massive auto recalls - pick your culprit, but the bottom line is households are glum on their current and expected future conditions. The production side of the economy provided a mixed report in durable goods orders for January. Total orders jumped 3.0% M/M, but core orders dropped 2.9% M/M. The recent underlying trend in core orders has been favorable, however, and inventories may be stabilizing after having been drawn down for a year. This would be consistent with continued growth in Q1/2010, albeit at roughly half the near 6% pace recorded in Q4/2009. While expectations are that next week's February jobs report will show a net job loss of 40-60K, net job gains should start to accompany the improvement in aggregate output by the spring. Circling back to housing markets, this should finally provide some much needed armor against the multiple mine fields that housing must still traverse.

CANADA - STAYING ON TRACK

With little economic news out this week, Canadian financial markets took their cue from international developments. In particular, ongoing concerns about sovereign debt in Europe continued to send many investors fleeing to the safety of U.S. dollars and North American government securities. During the week, the Canadian dollar fell against the greenback to 94.8 US cents, the S&P TSX ended down slightly and the 10-year government bond fell 10 basis points, to 3.40%.

Next week, the Canadian economic calendar heats up with Q4 GDP, a Bank of Canada rate announcement, and the Federal Budget. It is widely expected that real GDP grew 4% annualized in the fourth quarter, largely driven by household spending and investment. While, economic growth is expected to be stronger than the Bank of Canada's January 2010 estimate of 3.3% - and core inflation reached 2.0% in January - we are not expecting the Bank of Canada to sway from its conditional commitment to keep rates at 0.25% until July of 2010. For one, a significant amount of slack still exists in the Canadian economy. The growth of 4% is still slower than what you would typically expect postrecession, and has done little to help close the substantial output gap which was -3.7% in the quarter (up modestly from 4% in the third quarter). What's more, there are good reasons to believe that the stronger-than-anticipated momentum at year end won't lead the central bank to revise up its projection for a moderate 3% real GDP gain in 2010. Over the course of the last three months the resale housing market has shown signs of cooling, and by mid-2010 support from the housing market will fade. By extension the household sector will not be the same driving force it has been over the first three quarters of the economic recovery. Moreover, the explosion of growth in the U.S. in the last three months was largely driven by temporary factors such as an inventory restocking and fiscal stimulus spending programs. Lastly, the spike in core inflation to 2.0% in January was largely the result of a base year effect - prices fell significantly in January of 2009 -and will prove to be short-lived. Looking forward, a persistent output gap will keep inflation under wraps for 2010, and the Bank of Canada will be able to meet its commitment.

Next Thursday's Federal Budget will reinforce the need to stay the course on the 2-year fiscal stimulus package announced last January. Still, with the economic recovery beginning to gain some traction, Finance Minister Flaherty is unlikely to unveil any significant new stimulus measures - nor major surprises - as he begins to prepare the country for an era of restraint beginning in earnest in FY 11-12. In order to move towards a balanced budget from the likely projected level of about $45 billion (3% of GDP) in FY 10-11 over the next 4-5 years the government will focus on getting the path of spending growth down and - at least for now - tax hikes and reductions in transfers to individuals and provinces/territories are not on the table. With the government still in the planning stages on how most effectively to lower the profile of spending growth, it is unlikely to provide too many specifics in the March 4th budget. At about 35% of GDP on a Public Accounts basis, the Canada's federal debt level pales in comparison to those recorded in other G-7 countries.

U.S.: UPCOMING KEY ECONOMIC RELEASES

U.S. ISM Manufacturing Report - February

Release Date: March 1/10
January Result: 58.4
TD Forecast: 59.0
Consensus: 57.9

Manufacturing sector activity has been one of the few bright spots for the U.S. economy, as the combination of a weakened domestic currency, and recovering global and domestic demand has reinvigorated U.S. manufacturing sector activity. This positive momentum on the manufacturing sector is expected to remain intact in February, when we expect the ISM manufacturing sector index to rise to 59.0, which will be the highest monthly print on this indicator since mid-2004. Given the strong January durable goods orders report, the risks to this call may be to the upside. The new orders, production, employment and new export orders sub-indices are all expected to remain well above 50.0, underscoring the breadth of the strength in the report and the sector more generally. Moreover, with the new orders to inventory spread, a useful proxy for the future direction of manufacturing sector activity, at a high level of 19.0, plus strong showing from regional indicators, there appears to be further upside momentum for U.S. manufacturing sector activity. In the coming months, we expect the ISM headline index to sustain its above-50 momentum as the global economic recovery gathers further steam.

U.S. Personal Income and Spending - January

Release Date: March 1/10
December Result: income 0.4% M/M, spending 0.2% M/M; core PCE deflator 0.1% M/M, 1.5% Y/Y
TD Forecast: income 0.5% M/M; spending 0.5% M/M; core PCE deflator 0.0% M/M, 1.3% Y/Y
Consensus: income 0.4% M/M; spending 0.4% M/M; core PCE deflator 0.1% M/M, 1.4% Y/Y

Despite the continued dismal labour market performance, the U.S. economy appears to be on track for a fairly strong recovery from the deep economic recession of 2007/2009. And while much of the support for this initial economic rebound has undoubtedly come from the massive fiscal and monetary stimulus administered to the U.S. economy, consumer spending has also lent a helping hand. We expect this positive momentum in spending to remain largely intact in January, with personal expenditures expected to rise by a respectable 0.5% M/M, following the 0.2% M/M advance in December. This much was evident in the retail sales report for the period, which showed reasonably strong retail sales during the same period. Personal income is also expected to be quite robust, rising for the 7th straight month with a fairly robust 0.5% M/M gain in January, on account of the gains in aggregate hours worked and weekly earnings. On the inflation front, the core PCE deflator is expected remain unchanged, with the annual pace of core PCE inflation easing to 1.3% Y/Y, from 1.5% Y/Y in December. In the coming months, we expect the core PCE deflator to ease further, as the growing economic slack in the U.S. economy dampens core consumer price pressures.

U.S. Nonfarm Payrolls - February

Release Date: March 5/10
January Result: -20.0K; unemployment rate 9.7%
TD Forecast: -25.0K; unemployment rate 9.8%
Consensus: -40.0K; unemployment rate 9.8%

Despite the ongoing U.S. economic recovery, labour market conditions have remained quite weak, as businesses continue to be loathe to add to their shrunken payrolls. Instead, with weekly jobless claims rising in 6 of the last 8 weeks, employers appear to have in fact accelerated the pace of layoffs in recent weeks. Recent winter storms in the Northeast have also been unfriendly to new hiring. We expect this pattern of slow-bleed in payrolls to continue in February with the level of payroll actually declining by 25.0K, following a similar pace of decline the month before. As has been the case in the past few months, all of the job losses are expected to come from the goods-producing sector, with employment in the construction industry accounting for almost all of these losses. Employment in the service-producing sector should rise for the second straight month, though it will be insufficient to offset the loss of jobs in the goods sector. The unemployment rate is expected to rise modestly to 9.8%. In the coming months, we expect the pace of job creation to gather steam, particularly on account of the 2010 Census hiring.

CANADA: UPCOMING KEY ECONOMIC RELEASES

Canadian Real GDP - Q4/09

Release Date: March 1/10
Q3 Result: 0.4% Q/Q ann.
TD Forecast: 4.0% Q/Q
Consensus: 4.5% Q/Q

The start to the Canadian recovery was slower than many were expecting, with a meager 0.4% growth in real GDP in the third quarter of 2009. There are many reasons to believe that the economic engines were moving full-steam ahead in the fourth quarter, and we think the recovery will become much more apparent when real GDP growth of 4% Q/Q ann. is likely recorded. Canadian household spending and investment have continued to offer significant support to the expansion. The pace of retail spending over the final three months of 2009 suggests growth in consumer spending was over 3%. Moreover, residential investment is expected to grow 15%, bolstered by the Federal home renovation tax credit, in combination with a hot real estate market. Canadian exports are also on the mend, and preliminary data suggests that exports grew by a whopping 14%, a second consecutive quarter of double digit gains. The only glitch in the report may be continued weakness in business investment, as leading indicators suggest both investment in machinery and equipment and non-residential construction contracted in the quarter. Nonetheless, this is not surprising given the amount of slack accumulated over the downturn, and the slack will have to be eaten up before businesses begin to ramp up investment. A recovery in Canada's two largest economic components (exports and consumer spending) is certainly a step in the right direction.

Bank of Canada Interest Rate Decision

Release Date: March 2/10
Current Rate: 0.25%
TD Forecast: 0.25%
Consensus: 0.25%

The Bank of Canada's coming decision should feature few substantive changes to the statement, and no rate change. The risks to the economic outlook should continue to be characterized as balanced, and the conditional commitment to leave rates unchanged through to mid-2010 should remain. TD continues to anticipate a first rate hike around Q4 2010. Recent Canadian housing strength has been dealt with through regulatory change -- housing can be set aside in assessing the outlook for monetary policy. Recent core inflation numbers have been surprisingly strong for Canada, but the Bank of Canada cares more about the outlook for inflation than the latest reading. Overall, there is little that will shock in the coming decision.

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TD Bank Financial Group

The information contained in this report has been prepared for the information of our customers by TD Bank Financial Group. The information has been drawn from sources believed to be reliable, but the accuracy or completeness of the information is not guaranteed, nor in providing it does TD Bank Financial Group assume any responsibility or liability.