Economic SECOND QUARTER Outlook 2018 ECONOMIC & MARKET OUTLOOK (JULY 2018) It’s Like Déjà vu All Over Again Expectations for the global economy entered 2018 on a high, with anticipation being that the robust and synchronized growth that was established in the middle of last year would carry through the end of 2017 and into the New Year, picking up momentum along the way.

As is often the case, however, to borrow from Robbie Burns, the best laid plans of mice and men often go awry.

The early optimism gave way to a market correction which was compounded by a material softening in the global macro data flow, again raising concern over the health and durability of the expansion.

Economic growth slowed markedly among the major Advanced Market (AM) economies over the first three months of the year. The economies of Canada, France, Germany, the UK and the US all tapped the brakes, while Japan outright contracted for the first time in two years to bring an end to the best streak of consecutive increases in three decades.

It is always disheartening when the data appears to take a turn for the worse, however, there is good reason to temper the immediate need for concern.

If finishing a year strongly only to see momentum ebb in the early days of the next year sounds familiar, that is because this pattern that has played out throughout this entire economic expansion. Over the last 10 years, Q1 has been by far the weakest quarter for the major AM economies, with Q2 seeing a strong rebound and that upward trajectory being sustained through Q3 as well — and the more recent dataflow points to this pattern being repeated.

It’s Like Déjà vu All Over Again CHARTChart 1: 1 :A A repeating REPEATING pattern PATTERN GG-7-7 Economies’ Economies’ Real Real GDP GDP Growth Growth By Quarter By Quarter (annualized(annualized quarter quarter-over-quarter-over-quarter percent percent change change)) Expectations for the global economy entered 2018 3.0 Last 10 Years on a high, with anticipation being that the robust Last 5 Years 2.7 2.5 2018 and synchronized growth that was established in the 2.4 2.4 middle of last year would carry through the end of 2.0 2.2 1.9 1.9 2017 and into the New Year, picking up momentum 1.7 1.5 1.7 1.6 along the way. 1.4

1.0

As is often the case, however, to borrow from 0.9

0.5 Robbie Burns, the best laid plans of mice and 0.6 men often go awry. 0.0

Q1 Q2 Q3 Q4 The early optimism gave way to a market correction Q2, Q3 and Q4 2018 data are based on Bloomberg consensus forecasts Source:Q2, Q3 Bloomberg, and Q4 International2018 data Monetaryare based Fund, on BloombergGuardian Capital consensus forecasts which was compounded by a material softening in Source: Bloomberg, International Monetary Fund, Guardian Capital The existence of such a pattern is puzzling and causes issues in the global macro data flow, again raising concern getting a clean interpretation of what the actual underlying trends are over the health and durability of the expansion. The existence of such a pattern is puzzling and causes issues in getting a clean interpretation of what 1 Economic growth slowed markedly among the major the actual underlying trends in the data are saying Developed Market (DM) economies over the first three about the health of the economy. National statistics months of the year. The economies of Canada, France, organizations go through the process of seasonally- Germany, the UK and the US all tapped the brakes, adjusting the data so that each successive period while Japan outright contracted for the first time can be compared on an apples-to-apples basis — in two years to bring an end to the best streak these adjustments are designed so as to offset the of consecutive increases in three decades. normal seasonal patterns in spending (for example, spending typically rises in Q4 in response to the It is always disheartening when the data appears holiday season and falls in Q1) to allow for an to take a turn for the worse, however, there is good analysis of underlying trends. reason to temper the immediate need for concern. The fact that such a persistent pattern is in place points If finishing a year strongly only to see momentum to issues fully adjusting for the seasonal swings in ebb in the early days of the next year sounds familiar, the data — this is referred to as “residual seasonality”. that is because this pattern that has played out It is also in part a function of a series of idiosyncratic throughout this entire economic expansion. and transitory events that have occurred in Q1 in Over the last 10 years, Q1 has been by far the recent history. For example, there was abnormally weakest quarter for the major DM economies, severe winter weather in North America (which with Q2 seeing a strong rebound and that upward accounts for 56% of G7 output) in the first three trajectory being sustained through Q3 as well — months in both 2011 and 2014 that supressed Q1 and the more recent dataflow points to this pattern activity figures in those years (and this was also at being repeated. play this year); the start of 2014 also saw the rollout of the new government health care policies in the US under the Affordable Care Act that greatly distorted consumer spending on healthcare (which accounts for nearly 10% of US consumer spending); and a port strike in the early months of 2016 disrupted trade flows and general activity too.

Economic Outlook | 2 The point of this is to simply say that the indications Chart 3: Still manufacturing some momentum of a pullback in activity in Q1 should be taken with Markit Composit Purchasing Managers’ Index a grin of salt (that is a malapropism from the great (index; >50 denotes expansion) Yogi Berra, whose “Yogi-isms” are gratuitously peppered throughout this piece) — and that goes for the expected bounce-back in Q2 as well.

It Ain’t Over Until It’s Over

The slowdown to start the year is not a true sign of the underlying trend in the economy, nor is the acceleration over the last three months either. Instead, as is often the case with significant swings in the data one way or Source: Bloomberg, Guardian Capital the other, the truth is actually somewhere in between. For the here and now, that means that the global Looking at it this way, as surprising as it may seem economic expansion can cheerily celebrate its ninth given the general tone of the narrative in the birthday — the current run of growth now stands marketplace, the performance of the major DM as the second longest since the 1900s and is within economies over the first half of the year has actually a year of matching the all-time mark established remained fairly solid. While it is the case that outside in back in the halcyon days of the 1990s. of the US there has been a moderation year-to-date Chart 4: Another birthday in the books relative to the strength seen in 2017 (which was back- CHART 4: ANOTHER BIRTHDAY IN THE BOOKS DurationDuration of USof USEconomic Economic Expansions Expansions loaded in the year), the pace of growth still remains ((months)months) above what prevailed over the previous five years. 125

100 CHARTChart 2:2 :The THE song SONG remains REMAINS the same THE SAME G-7 Economies’ Real GDP Growth G-7 Economies’ Real GDP Growth 75 (annualized(annualized quarter quarter-over-quarter-over-quarter percent percent change change))

3.0 50 2012 to 2016 2017 H1/18 2.5 25

2.0 0

1.5 Jul-1908 Jul-1938 Jul-2009 Apr-1919 Apr-1933 Apr-1975 Apr-1991 Jan-1915 Jun-1954 Feb-1912 Mar-1961 Sep-1904 Aug-1921 Aug-1924 Dec-1927 Nov-1945 Nov-1949 Dec-1970 Aug-1980 Dec-1982 Dec-2001 May-1958 1.0 Expansion Start Source:Source: National National Bureau Bureau of Economic of Economic Research, Research, Guardian Capital Guardian Capital 0.5 It is only natural with any birthday, especially ones in already advanced years, to start thinking about mortality; wondering about 0.0 It is only natural with any birthday, especially ones bothin thealready quantity advanced and quality years, of life to. W starthile it thinkingis the case about that this cycle -0.5 has outlived almost all of its predecessors, it is not on life support yet US G7 Canada Germany France Italy UK Japan andmortality; importantly, wonderingit is worthwhile about to remember both the that quantity expansions and do not H1 2018 estimate includes Bloomberg consensus forecasts for Q2 Source:H1 2018Bloomberg, estimate International includes MonetaryBloomberg Fund, consensus Guardian Capital forecasts for Q2 diequality of old age of; life.there While needs toit is be the something case that— an this ailment cycle or has an Source: Bloomberg, International Monetary Fund, Guardian Capital aggressor — that knocks the economy off course. As well, though there are plenty of risks on the horizon that can have outlived almost all of its predecessors, it is not on a material impact on the outlook (which will be discussed shortly), Therelife aresupport an abundance yet and ofimportantly, risks on the horizon, it is worthwhile but should they not As well, though there are plenty of risks on the horizon the expectation remains that the global economy will continue to materializeto remember en masse that— expansionsand the base do case not remains die of that old these age; too that can have a material impact on the outlook shall pass — there is good reason to think that the expansion has expand through the second half of the year — and the still firm there needs to be something — an ailment or an trends(which in the will data be bear discussed this out, with shortly), leading the indicators expectation such as the enough vitality to live to its next birthday. aggressor — that knocks the economy off course. purchasingremains managers’ that the indexesglobal stilleconomy pointing will to solid continue growth beingto We Have Deep Depth sustained. expand through the second half of the year — and OneThere key supportare an underpinningabundance theof overallrisks on sustainability the horizon, of the economic expansion is the fact that the breadth of growth across the CHART 3: STILL MANUFACTURING SOME MOMENTUM the still firm trends in the data bear this out, with globebut remainsshould amongst they not not materialize only its best ofen this masse cycle ,— but and best ever. Markitleading Manufacturing indicators Purchasing suchManagers’ as the Index purchasing managers’ the base case remains that these too shall pass — (index; >50 denotes expansion) CHART 5: DEPTH & BREADTH indexes for both the goods-producing and services there is good reason to think that the expansion 60 Share of Global Economies with Real GDP Growth sectors still pointing to solid growth being sustained. (percent) 2016 2017 Q1 2018 Q2 2018 has enough vitality to live to its next birthday. 100 58 95 56 90 Economic Outlook | 3 85 54 80

52 75

70 50 65

48 60 Canada US Eurozone UK Japan Emerging Markets China 55 Source: Bloomberg, Guardian Capital 50 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 2020 For the here and now, that means that the global economic Source: International Monetary Fund, Guardian Capital expansion can cheerily celebrate its ninth birthday — the current run of growth now stands as the second longest since the 1900s and is within a year of matching the all-time mark established in back in the 4 halcyon days of the 1990s.

3 CHART 4: ANOTHER BIRTHDAY IN THE BOOKS Duration of US Economic Expansions (months)

125

100

75 The broader the foundation of the expansion, the more difficult it is to 50 be knocked off its track. It is not a case of just one economy driving global growth (which was the case earlier in this expansion) and 25 momentum would be lost if it were to falter. Instead, this type of environment with a deep pool of growing economies means that 0 strengthening in some can compensate for a moderation in momentum in others. Jul-1908 Jul-1938 Jul-2009 Apr-1919 Apr-1933 Apr-1975 Apr-1991 Jan-1915 Jun-1954 Feb-1912 Mar-1961 Sep-1904 Aug-1921 Aug-1924 Dec-1927 Nov-1945 Nov-1949 Dec-1970 Aug-1980 Dec-1982 Dec-2001 May-1958

Expansion Start This offsetting/balancing aspect is of increasing importance for the Source: National Bureau of Economic Research, Guardian Capital global growth trajectory since many AM economies find themselves It is only natural with any birthday, especially ones in already running up against capacity constraints after years of posting above- advanced years, to start thinking about mortality; wondering about trend growth rates — economies can run above their potential both the quantity and quality of life. While it is the case that this cycle growth rates for periods of time, particularly in the aftermath of a has outlived almost all of its predecessors, it is not on life support yet recession where there is ample resource slack, but eventually the and importantly, it is worthwhile to remember that expansions do not inputs to production required to maintain those above-trend rates of die of old age; there needs to be something — an ailment or an growth just are not available, and growth ultimately converges with aggressor — that knocks the economy off course. its underlying trend rate. We Have Deep Depth as their recoveries from their recent recessions There are an abundance of risks on the horizon, but should they not AM continue),economies are still seeing strong growth growth momentum in China, ebb fr andom the an robust materialize en masse — and the base case remains that these too pace recorded last year. That is, however, being offset by the shall pass — there is good reason to think that the expansion has Emergingexpected Markets pickup (EM), in where India the are unprecedented all factoring breadth into of enoughOne vitality key support to live to underpinningits next birthday. the overall expansionan acceleration (which counts among Brazil theand groupRussia asthat larger is keeping contributors as Wesustainability Have Deep Depth of the economic expansion is the fact theirtop-line recoveries global from their growth recent elevated recessions this continu year e—), still though strong that the breadth of growth across the globe remains growth in China, and an expected pickup in India are all factoring into One key support underpinning the overall sustainability of the an accelerationit is expected among to moderatethe group that next is keepingyear as topthe-line DM global economicamongst expansion not only is the its fact best that of the this breadth cycle, of but growth best across ever. the growthsee elevated a more thismarked year — moderation. though it is expected to moderate next globe remains amongst not only its best of this cycle, but best ever. year as the AM see a more marked moderation. Chart 5: Depth & breadth CHART 5: DEPTH & BREADTH Chart 6: EM taking the handoff Share of Global Economies with Real GDP Growth CHART 6: EM TAKING THE HANDOFF Share of Global Economies with Real GDP Growth World Real GDP Growth ((percent)percent) World Real GDP Growth (year(year-over-year-over-year percent percent change change)) 100 10 95 Forecast 8 90

85 6

80 4 75

70 2

65 0 60 Advanced Economies

55 -2 Emerging & Developing Economies

50 World -4

1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 2020 1980 1985 1990 1995 2000 2005 2010 2015 2020

Source: International Monetary Fund, Guardian Capital Source: International Monetary Fund, Guardian Capital Shaded regions represent periods of US recession Source:Shaded International regions Monetaryrepresent Fund, periods Guardian of US Capital recession Source: International Monetary Fund, Guardian Capital The broader the foundation of the expansion, the There is a notable outlier from the4 expected moderation among AM economiesThere isthis a year,notable and outlierthat is the from US. Whilethe expected it is undeniably the more difficult it is to be knocked off its track. It is case that the political backdrop in the US is volatile and highly not a case of just one economy driving global growth uncertain,moderation the truth among of the matter DM iseconomies that the sentiment this year, of most and (which was the case earlier in this expansion) and Americansthat is isthe largely US. swayedWhile itby is their undeniably own economic the situationcase that. It is not coincidentalthe political that backdrop US consumer in the confidence US is volatile sits at cycle and-highs highly momentum would be lost if it were to falter. Instead, while the unemployment rate is at a multi-generational low. uncertain, the truth of the matter is that the sentiment this type of environment with a deep pool of growing economies means that strengthening in some can of most Americans is largely swayed by their own 5 compensate for a moderation in momentum in others. economic situation. It is not coincidental that US consumer confidence sits at cycle-highs while the This offsetting/balancing aspect is of increasing unemployment rate is at a multi-generational low. importance for the global growth trajectory since many DM economies find themselves running up CHARTChart 7: 7 No: NO paycheque PAYCHEQUE worry WORRY means MEANShappy people HAPPY PEOPLE against capacity constraints after years of posting US Consumer Consumer Confidence Confidence & The & UnemploymentThe Unemployment Rate Rate ((index)index) (percent; (percent; inverted inverted scale) scale)

above-trend growth rates — economies can run 150 3 above their potential growth rates for periods of time, 4 particularly in the aftermath of a recession where there 130 5 is ample resource slack, but eventually the inputs to 110 6 production required to maintain those above-trend 90 rates of growth just are not available, and growth 7 70 ultimately converges with its underlying trend rate. 8 50 9 DM economies are seeing growth momentum ebb Consumer Confidence (LHS) 30 10 from the robust pace recorded last year. That is, Unemployment Rate (RHS) 10 11 however, being offset by the Emerging Markets (EM), 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

where the unprecedented breadth of expansion Source:Source: Bloomberg, Bloomberg, Guardian Guardian Capital Capital (which counts Brazil and Russia as larger contributors The old adage is that if the US consumer is okay, everything else will take care of itself. To the extent that that is true (and with consumption accounting for two-thirds of total GDP, there is reason to believe it), the upbeat sentiment of Americans — something that is being echoed in the recent flow of retail sales figures — is a bullish sign for the underlying health of American economy.

CHART 8: RETAIL RESURGENCE Economic Outlook | 4 US Retail Sales (year-over-year percent change)

12

9

6

3

0

-3

-6

-9

-12 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

Shaded regions represent periods of US recession Source: Bloomberg, Guardian Capital Tack on the expectation of increased investment from both the public (as part of the fiscal infrastructure plan) and the private sector (as a result of the combination of strong domestic growth and the changes to that tax plan that allow the full expensing of capital expenditures for the next five years) and the world’s largest economy is set to be among the best performers in AM for the remainder of year and put in its cycle-best growth rate for the year as a whole.

Canada, in contrast, is taking a step back this year after posting an AM-best performance in 2017 — it actually is likely to come as a

6

CHART 7: NO PAYCHEQUE WORRY MEANS HAPPY PEOPLE US Consumer Confidence & The Unemployment Rate (index) (percent; inverted scale)

150 3

130 4

5 110

6 90 7 70 surprise to many, but even with the slump in commodity prices since 8 2014, Canada has posted the best growth among G-7 economies 50 9 since the start of this expansion. Consumer Confidence (LHS)

30The old adage is that if the US consumer is okay, 10 Chart 9: Surprise atop the leaderboard Unemployment Rate (RHS) CHART 9: SURPRISE ATOP THE LEADERBOARD G-7 Economies’ Real GDP Growth Since Q2 2009 10everything else will take care of itself. To the extent 11 G-7 Economies’ Real GDP Growth Since Q2 2009 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 (annualized(annualized percent percent change change)) that that is true (and with consumption accounting 2.5 Source:for two-thirdsBloomberg, Guardian of Capital total GDP, there is reason to believe The old adage is that if the US consumer is okay, everything else will 2.4 it), the upbeat sentiment of Americans — something 2.2 take care of itself. To the extent that that is true (and with 2.0 2.1 consumptionthat is being accounting echoed for intwo the-thirds recent of total flow GDP, of thereretail is salesreason 1.9 1.9 to believefigures it), the— is upbeat a bullish sentiment sign offor Americans the underlying — something health that is 1.5 being echoed in the recent flow of retail sales figures — is a bullish of American economy. 1.4 1.4 sign for the underlying health of American economy. 1.0 CHARTChart 8: 8 :Retail RETAIL resurgence RESURGENCE US Retail Sales US Retail Sales 0.5 (year(year-over-year-over-year percent percent change change))

12 0.3 0.0 9 Canada US Germany UK G7 Japan France Italy

Source: Bloomberg, International Monetary Fund, Guardian Capital 6 Source: Bloomberg, International Monetary Fund, Guardian Capital Consumer spending has moderated in the Great White North since 3 the Consumerchild tax benefit spending-supported has bounce moderated a year agoin the and Great housing White has 0 slowed as well, with the less accommodative financial conditions that comeNorth with centralsince thebank child rate increases tax benefit-supported and tightening mortgage bounce a -3 regulationyear ago playing and a housing notable role. has slowed as well, with the less -6 Whileaccommodative policymakers may financial actually view conditions these developments that come positively with -9 givencentral the concern bank aboutrate increases elevated personal and tightening debt loads, mortgage less welcome are the continued signs that business investment is likely to continue -12 regulation playing a notable role. 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 to be constrained even with the improvement in commodity markets (particularly crude oil) until the uncertainties about the fate of the ShadedShaded regions regions represent represent periods periods of US recession of US recession While policymakers may actually view these Source:Source: Bloomberg Bloomberg,, Guardian Guardian Capital Capital North American Free Trade Agreement (NAFTA) are resolved. Tack on the expectation of increased investment from both the public developments positively given the concern about (as Tackpart of on the the fiscal expectation infrastructure of plan) increased and the investment private sector from (as a elevated personal debt loads, less welcome are result of the combination of strong domestic growth and the changes the continued signs that business investment is to thatboth tax the plan public that allow (as the part full of expensing the fiscal of capitalinfrastructure expenditures for theplan) next and five theyears) private and the sector world’s (as largest a result economy of the is set to be likely to continue to be constrained even with the amongcombination the best performers of strong in AMdomestic for the remainder growth and of year the and put improvement in commodity markets (particularly in itschanges cycle-best to growththat tax rate plan for the that year allow as a thewhole. full expensing crude oil) until the uncertainties about the fate of Canofada, capital in contrast, expenditures is taking a for step the back next this five year afteryears) posting and thean the North American Free Trade Agreement (NAFTA) AM-world’sbest performance largest economy in 2017 — is it actuallyset to be is likelyamong to come the best as a are resolved.

performers in DM for the remainder of year and put Chart 10: Not the best intentions6 in its cycle-best growth rate for the year as a whole. CHARTBusiness 10 Outlook: NOT THESurvey BEST Respondents’ INTENTIONS Investment Intentions Over the Next Year Business Outlook Survey Respondents' Investment Intentions Over the Next Year Canada, in contrast, is taking a step back this year after ((percent;percent; >0 >0 denotes denotes net balancenet balance of opinion of opinion to increase to increaseinvestment investment)) posting an AM-best performance in 2017 — it actually 40

is likely to come as a surprise to many, but even with 30

the slump in commodity prices since 2014, Canada 20 has posted the best growth among G-7 economies 10 since the start of this expansion. 7 0 -10

-20

-30

-40 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017

Source: Bank of Canada, Guardian Capital Source: Bank of Canada, Guardian Capital Across the pond, uncertainty is also playing a significant role in suppressing activity in the United Kingdom — in this case it is concerns over the end result of divorce proceedings between Britain and the European Union (EU). Sentiment is depressed and capital expenditure has been soft and is not expected to improve near-term.

CHART 11: UNCERTAINTY DOESN’T BUILD CONFIDENCE UK Business & Consumer Sentiment (net balance of opinion, percent) Economic Outlook | 5 40

20

0

-20

-40

-60 CBI Business Optimism GfK Consumer Confidence -80 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

Shaded regions represent periods of US recession Source: Bloomberg, Guardian Capital A lot of the bad, however, has been priced into the UK economy (and asset prices) and with the expectations bar lowered, there is scope for some upside surprises. The dataflow has been positive of late, particularly as it pertains to the consumer sector — an upbeat jobs backdrop has proven supportive of household spending in spite of weak consumer confidence — and there are indications that those in UK Parliament that want a hardline stance against the EU will have to settle for a more market-friendly “soft Brexit” outcome.

In continental Europe, politics continue to provide a cloud over the outlook there as well. There are ongoing disputes within the coalition

8

CHART 10: NOT THE BEST INTENTIONS Business Outlook Survey Respondents' Investment Intentions Over the Next Year (percent; >0 denotes net balance of opinion to increase investment) 40

30

20

10

0

-10

-20 government in Germany over immigration policy; scandal prompted a vote of no confidence that resulted in Mariano Rajoy being ousted as -30Across the pond, uncertainty is also playing a This latter development, which was the result of a significant role in suppressing activity in the United Primecoalition Minister formedof Spain lastbetween month Italy’s with a newFive minorityStar Movement centre-left -40 government taking over; populism is becoming a dominant driver of 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 Kingdom — in this case it is concerns over the end and the Lega Nord to avert a crisis, is of the most Source: Bank of Canada, Guardian Capital regional politics, particularly in the Eastern bloc, and Italy is now the result of divorce proceedings between Britain and the first concernmajor economy given tothe find prevalence itself under of populist euroskeptics rule. among Across the pond, uncertainty is also playing a significant role in European Union (EU). Sentiment is depressed and the two parties. While there is a non-zero risk that this suppressing activity in the United Kingdom — in this case it is This latter development, which was the result of a coalition formed concernscapital over expenditure the end result has of beendivorce soft proceedings and is not between expected Britain betweencould Italy’s be the Five first Star stepMovement toward and Italy the Legamaking Nord for to theavert exit a andto the improve European near-term. Union (EU). Sentiment is depressed and capital crisis,from is of the the singlemost concern currency, given the th eexpectations prevalence of of euroskeptics such a expenditure has been soft and is not expected to improve near-term. amongmove the aretwo minimalparties. While currently there is given a non -thezero general risk that support this could Chart 11: Uncertainty doesn’t build confidence be the first step toward Italy making for the exit from the single CHART 11: UNCERTAINTY DOESN’T BUILD CONFIDENCE currencyfor the, the Eurozone expectations from of such the publica move —are though, minimal currentlythe new UKUK Business Business & Consumer& Consumer Sentiment Sentiment government’s plans could cause confrontations with (net(net balance balance of opinionof opinion,, percent percent)) given the general support for the Eurozone from the public — though, the new government’s fiscal plans could cause 40 the governing body of the European Monetary Union confrontations(EMU) over with the the fiscalgoverning constraint body of theconditions European ofMonetary the 20 Union (EMU) over the fiscal constraint conditions of the group’s Stabilitygroup’s and GrowthStability Pact and. Growth Pact.

0 CHARTChart 12: 12 :Not NOT heading HEADING for a FORbreak A BREAK

-20 sentixsentix Euro Euro Break Break-Up-Up Index Index (percent(percent))

-40 80 European sovereign debt crisis 70 -60 CBI Business Optimism 60 GfK Consumer Confidence Greek bailout -80 referendum 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 50

ShadedShaded regions regions represent represent periods periods of US recession of US recession 40 Source:Source: Bloomberg, Bloomberg, Guardian Guardian Capital Capital Brexit vote French presidential 30 A lot of the bad, however, has been priced into the UK economy (and election assetA lotprice ofs) theand bad,with the however, expectations has beenbar lowered, priced there into is the scope 20 for some upside surprises. The dataflow has been positive of late, UK economy (and asset prices) and with the 10 particularly as it pertains to the consumer sector — an upbeat jobs Italy forms coalition government backdropexpectations has proven bar supportive lowered, of there household is scope spending for some in spite of 0 2012 2013 2014 2015 2016 2017 2018 weakupside consumer surprises. confidence The — dataflow and there arehas indicationsbeen positive that thoseof in UK Parliament that want a hardline stance against the EU will have IndexIndex measures measures the share the share of investors of investors that expect that at expect least one at countryleast one to exit country the EMU to inexit next the year EMU in late, particularly as it pertains to the consumer sector Source: Bloomberg, Guardian Capital to settle for a more market-friendly “soft Brexit” outcome. next year. Source: Bloomberg, Guardian Capital — an upbeat jobs backdrop has proven supportive More broadly, the general level of disenchantment with the EU In continentalof household Europe, spending politics continue in spite to of provide weak a consumer cloud over the among its constituents has declined materially since the Brexit vote outlook there as well. There are ongoing disputes within the coalition More broadly, the general level of disenchantment with confidence — and there are indications that those in the summer of 2016 — just Romania has a more negative view on the EUthe now EU versusamong two its years constituents ago and evenhas declinedthen, the countrymaterially is still in UK Parliament that want a hardline stance against amongsince the the least Brexit pessimistic vote in of thethe8 bloc.summer of 2016 — just the EU will have to settle for a more market-friendly Romania has a more negative view on the EU now “soft Brexit” outcome. versus two years ago and even then, the country is In continental Europe, politics continue to provide still among the least pessimistic of the bloc. a cloud over the outlook there as well. There are Chart 13: A more cohesive unit ongoing disputes within the coalition government CHART 13: A MORE COHESIVE UNIT NegativeNegative Image Image of the of Europeanthe European Union Union by Country by Country in Germany over immigration policy; scandal (percent(percent of survey of survey respondents respondents))

prompted a vote of no confidence that resulted in 55 Spring 2016 50 Mariano Rajoy being ousted as Prime Minister of Spring 2017 45 Spring 2018 Spain last month with a new minority centre-left 40 35 9 government taking over; populism is becoming 30 a dominant driver of regional politics, particularly 25 20

in the Eastern bloc, and Italy is now the first major 15 economy to find itself under populist rule. 10 5

0 Italy Malta Spain Latvia Ireland Austria France Poland Cyprus Croatia Greece Finland Estonia Belgium Sweden Bulgaria Portugal Slovakia Hungary Slovenia Romania Denmark Lithuania Germany Netherlands Luxembourg CzechRepublic UnitedKingdom European Union

Source:Source: European European Commission’s Commission’s Standard Standard Eurobarometer, Eurobarometer, Guardian Capital Guardian Capital Outside of politics, the macro fundamentals for the Eurozone remain positive. Growth is broad-based across the region and unemployment is at a cycle-low. While leadingEconomic indicators Outlook have | 6 moderated throughout the first half of the year, the pullback has come from unsustainable highs and the levels themselves are consistent with above trend growth rates that will continue to be supported by a central bank that is still adding stimulus through the end of the year.

CHART 14: GROWTH CALMS THE SOUL Eurozone Real GDP by Country, Q1 2018 (year-over-year percent change) 8

7

6

5

4

3

2

1

0 Italy Spain Latvia Ireland Austria France Finland Greece Estonia Slovak Belgium Portugal Slovenia Republic Lithuania Germany Eurozone Netherlands Luxembourg

Source: Organisation for Economic Co-operation and Development, Guardian Capital Japan’s real output contracted over the first three months of 2018, the first negative quarter since the end of 2015 which brought an end to the best stretch of growth for the long-languishing economy since 1986. The more recent dataflow, however, has shown that this weakness appears to be short-lived as the drum-tight labour market and attendant (albeit still quite modest) firming in wage growth is supporting strengthening consumer spending.

10

CHART 13: A MORE COHESIVE UNIT Negative Image of the European Union by Country (percent of survey respondents)

55 Spring 2016 50 Spring 2017 45 Spring 2018 40

35

30

25

20

15

10

5

0 Italy Malta Spain Latvia Ireland Austria France Poland Cyprus Croatia Greece Finland Estonia Belgium Sweden Bulgaria Portugal Slovakia Hungary Slovenia Romania Denmark Lithuania Outside of politics,Germany the macro fundamentals for the drum-tight labour market and attendant (albeit still Netherlands Luxembourg CzechRepublic UnitedKingdom Eurozone remain positive.European Union Growth is broad-based quite modest) firming in wage growth is supporting

Source:across European the Commission’s region Standard and Eurobarometer, unemployment Guardian Capital is at a cycle-low. strengthening consumer spending. OutsideWhile of politics,leading the indicators macro fundamentals have moderated for the Eurozone throughout remain positive.the first Growth half is broadof the-based year, acrossthe pullback the region has and come from The Japanese economy, however, still remains far unemploymentunsustainable is at ahighs cycle -andlow. Whilethe levels leading themselves indicators haveare from reaching its inflation target, which means that moderated throughout the first half of the year, the pullback has policymakers continue to aggressively adhere to comeconsistent from unsustainable with above highs trend and thegrowth levels rates themselves that will are consistentcontinue with to above be supported trend growth by rates a central that will bank continue that to is be the tenets of “Abenomics” (even if its namesake, supportedstill adding by a central stimulus bank throughthat is still the adding end stimulus of the year.through the Prime Minister Shinzo Abe, finds himself losing end of the year. popularity thanks to his involvement in a favouritism

CHARTChart 14: 14 Growth: GROWTH calms CALMS the soul THE SOUL scandal). The Bank of Japan is continuing to pump EurozoneEurozone Real Real GDP GDP by Country,by Country, Q1 2018 Q1 2018 liquidity into the system with no end in sight while (year(year-over-year-over-year percent percent change change)) the government is once again planning another 8 infusion of fiscal stimulus (this is in part to cushion 7 the expected blow from the planned increase in the 6 national consumption tax in 2019). 5 4 In the EM complex, the crises in Argentina and Turkey 3 have garnered a lot of attention and resulted in the 2 grouping as a whole falling out of favour as investors 1 look for history to again repeat itself with problems 0 spreading to other nations. Italy Spain Latvia Ireland Austria France Finland Greece Estonia Slovak Belgium Portugal Slovenia Republic Lithuania Germany Eurozone Netherlands Luxembourg Importantly, however, the situation this time around Source: Organisation for Economic Co-operation and Development, Guardian Capital Source: Organisation for Economic Co-operation and Development, Guardian Capital is distinctly different from what prevailed during the Japan’s real output contracted over the first three months of 2018, sweeping Asian and Russian financial crises 20 years the first negative quarter since the end of 2015 which brought an end to theJapan’s best stretch real output of growth contracted for the long over-languishing the first economy three since ago (or even around the “taper tantrum” in 2013). 1986.months The more of 2018,recent thedataflow, first however,negative has quarter shown since that this the The problems being experienced by Argentina and weaendkness of appears 2015 which to be short brought-lived anas theend drum to the-tight best labour stretch market Turkey are not indicative of broader systemic issues andof attendant growth (albeit for the still long-languishing quite modest) firming economy in wage growth since is supporting strengthening consumer spending. across the EM landscape; these countries are the 1986. The more recent dataflow, however, has shown exceptions not the rules. that this weakness appears to be short-lived as the First and foremost, outside10 of Argentina and Turkey, CHARTChart 15: 15 :Labour LABOUR in unprecedently IN UNPRECEDENTLY high demand HIGH DEMAND the economic position of EM economies is markedly Japan’sJapan’s Job Job Offers Offers-to-Applicants-to-Applicants Ratio Ratio better than it was in 1997 thanks to increased foreign (ratio(ratio)) exchange reserves and diminished current account 1.8 deficits — in the earlier period, 90% of the major EM 1.6 economies were running current account deficits and

1.4 half had them worth at least 3½% of GDP; now the

1.2 share is down to less than 60% with a current account deficit and just four (Argentina and Turkey, as well 1.0 as Egypt and Peru) have shortfalls at the extremes.

0.8

0.6

0.4 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013 2016

ShadedShaded regions regions represent represent periods periods of US recession of US recession Source:Source: Bloomberg, Bloomberg, Guardian Guardian Capital Capital The Japanese economy, however, still remains far from reaching its inflation target, which means that policymakers continue to aggressively adhere to the tenets of “Abenomics” (even if its namesake, Prime Minister Shinzō Abe, finds himself losing popularity thanks to his involvement in a favouritism scandal). The Bank of Japan is continuing to pump liquidity into the system with no end in sight while the government is once again planning another infusion of fiscal stimulus (this is in part to cushion the expected blow from the planned increase in the national consumption tax in 2019). Economic Outlook | 7

In the EM complex, the crises in Argentina and Turkey have garnered a lot of attention and resulted in the grouping as a whole falling out of favour as investors look for history to again repeat itself with problems spreading to other nations.

Importantly, however, the situation this time around is distinctly different from what prevailed during the sweeping Asian and Russian financial crises 20 years ago (or even around the “taper tantrum” in 2013). The problems being experienced by Argentina and Turkey are not indicative of broader systematic issues across the EM landscape; these countries are the exceptions not the rules.

First and foremost, outside of Argentina and Turkey, the economic position of EM economies is markedly better than it was in 1997 thanks to increased foreign exchange reserves and diminished current account deficits — in the earlier period, 90% of the major EM economies were running current account deficits and half had them worth at least 3½% of GDP; now the share is down to less than 60% with a current account deficit and just four (Argentina and Turkey, as well as Egypt and Peru) have shortfalls at the extremes.

11

CHARTChart 16: 16 A: Adifferent DIFFERENT backdrop BACKDR fromOP the FROM last crisis THE LAST CRISIS Against this, a major EM crisis appears to be a low EmergingEmerging Market Market Current Current Account Account Balances Balances & FX Reserves& FX Reserves probability event, and with the exception of Argentina 6 and Turkey, there are still few red flags waving from Korea, 2017 a macro standpoint. Overall, EM growth momentum CHART4 16: A DIFFERENT BACKDRChina, 1997 OP FROM THE LAST CRISIS Emerging Market Current Account Balances & FX Reserves remains in place supported by the continued 2 Mexic o, 1997 6 China, 2017 expansion in DM and the broad firming in commodity Mexic o, 2017 Turkey, 1997 Korea, 2017 0 prices — while increases in prices for raw materials 4 Indonesia, 2017 Brazil, 2017 South Africa, 1997 China, 1997 (particularly crude oil) are negative for importers like -2 Korea, 1997 South Africa, 2017 2 Indonesia, 1997 AgainstChina this, and a ma India,jor EM they crisis are appears a boon to be for a lowthe probabilitymany net event, Mexic o, 1997 China, 2017 Brazil, 1997 Argentina, 1997 Mexic o, 2017 and with the exception of Argentina and Turkey, there are still few -4 Turkey, 1997 commodity exporters in EM with Brazil and Russia in Current Account Balance (% of GDP) red flags waving from a macro standpoint. Overall, EM growth 0 Argentina, 2017 Indonesia, 2017 Brazil, 2017 particular on the positive side of that ledger. South Africa, 1997 Turkey, 2017 momentum remains in place supported by the continued expansion -6 -2 0 5 10 15 20 25 30 in AM and the broad firming in commodity prices — while increases Korea, 1997 South Africa, 2017 Indonesia, 1997Foreign Exchange Reserves (% of GDP) in pricesChina for has raw largelymaterials defied (particularly expectations crude oil) areof anegative more for Source: International Monetary Fund, World Bank, Bloomberg, Guardian Capital Brazil, 1997 Argentina, 1997 Source:-4 International Monetary Fund, World Bank, Bloomberg, Guardian Capital importerssignificant like China slowdown and India, in they its arestill-rapidly a boon for thegrowing many net Moreover,Current Account Balance (% of GDP) the general dependence on foreign funds throughout EM Argentina, 2017 commodityeconomy, exporters maintaining in EM with its Brazil above-potential and Russia in paceparticular of on has declined markedly over the lastTurkey ,two 2017 decades, with estimates the positive side of that ledger. Moreover,-6 the general dependence on foreign funds showing0 that external5 debt for10 the aggregated15 Emerging20 & 25 30 expansion through the start of the year and leaving Developingthroughout economies EM has now declined Foreigntotals Exchange less markedly thanReserves 30% (% of GDP)compared over the tolast a peak China in particular has largely defied expectations of a more Source: International Monetary Fund, World Bank, Bloomberg, Guardian Capital it well positioned to meet its official annual growth of nearlytwo decades, 40% in 1998 with — estimatesand the worst showing offenders that in Emerging external Asia significant slowdown in its still-rapidly growing economy, maintaining haveMoreover, seen theirthe general ratios halved. dependence on foreign funds throughout EM target of 6.5% — though there are ample risks to the debt for the aggregated Emerging and Developing its above-potential pace of expansion through the start of the year has declined markedly over the last two decades, with estimates andoutlook, leaving it wellwith p ositionedthe most to pressing meet its official being annual the fraying growth target showingCHARTeconomies that 17: externalA DIFFERENTnow totalsdebt forBACKDR less the thanaggregatedOP FROM30% comparedTHEEmerging LAST CRI& toSIS a of 6.5%trade — relationship though there arewith ample the risksUS. to the outlook, with the most DevelopingExternalpeak ofDebt economiesnearly-to-GDP Ratio 40% now in total 1998s less — thanand 30%the worstcompared offenders to a peak pressing being the fraying trade relationship with the US. (percent) of nearlyin Emerging 40% in 1998 Asia —have and seen the worst their off ratiosenders halved. in Emerging Asia have60 seen their ratios halved. CHARTChart 18: 18 Maintaining: MAINTAINING the statusTHE ST quoATUS for nowQUO FOR NOW ChinaChina Real Real GDP GDP Growth Growth 50Chart 17: A different backdrop from the last crisis (year(year-over-year-over-year percent percent change change)) CHART 17: A DIFFERENT BACKDROP FROM THE LAST CRISIS External Debt Debt-to-GDP-to-GDP Ratio Ratio 16 (percent)40 14 60 30 12

50 20 10 Emerging & Developing

40 Latin America 8 10 Developing Asia 6 Turkey 30 0 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 4

Source:20 International Monetary Fund, World Bank, Guardian Capital Emerging & Developing 2 Latin America Even for the foreign debt that exists, both EM governments and 0 10 companiesDeveloping have Asialearned lessons from the late 1990s — when it was 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

bullet paymentsTurkey coming due rather than the cost of capital that ShadedShaded regions regions represent represent periods periods of US recession of US recession 0 Source: Bloomberg, Guardian Capital exacerbated1996 1998 the crises2000 2002— and2004 greatly2006 lengthened2008 2010 the2012 maturity2014 profile2016 Source: Bloomberg, Guardian Capital of their external financial obligations. Moreover, EM corporations The Future Ain’t What It Used to Be Source: International International Monetary Monetary Fund, WorldFund, Bank, World Guardian Bank, CapitalGuardian Capital have made concerted efforts to match the currency of their income The baseline remains broadly the same as it was three months ago, flowsEven withfor the debt foreign service debt payments, that exists, mitigating both EM the governments impact of currency and however, it must be acknowledged that the tails in the distribution of swingscompaniesEven on for their have the ability learnedforeign to meet lessons debt obligations. that from exists, the late both 1990s EM — when it was The Future Ain’t What It Used to Be forecast are getting fatter. bulletgovernments payments coming and companies due rather than have the learned cost of capital lessons that exacerbated the crises — and greatly lengthened the maturity profile from the late 1990s — when it was bullet payments As discussed, there are many regional political developments at of their external financial obligations. Moreover, EM corporations playThe, but baseline these are remainsfor the most broadly part country the same-specific as withit was minimal havecoming made concerteddue rather efforts than to the match cost the of currency capital ofthat their income directthree reach months outside ago,of their however, borders. itThe mustre are, be however, acknowledged much 12 flowsexacerbated with debt service the crises payments, — and mitigating greatly thelengthened impact of currency the bigger and more far-reaching geopolitical risks that have intensified that the tails in the distribution of forecast are swingsmaturity on their profile ability toof meet their obligations. external financial obligations. materially in recent months and as has generally been the case over the gettinglast 18 months, fatter. the source of these is the White House. Moreover, EM corporations have made concerted efforts to match the currency of their income flows

with debt service payments, mitigating the impact of 12 currency swings on their ability to meet obligations.

13

Economic Outlook | 8 As discussed, there are many regional political Chart 20: Trading up developments at play, but these are for the most part Global Merchandise Exports country-specific with minimal direct reach outside (trillions of US dollars) of their borders. There are, however, much bigger and more far-reaching geopolitical risks that have CHART 20: TRADING UP intensified materially in recent months and as has CPB World Trade Volumes Index (year-over-year percent change of the three-month moving average) generally been the case over the last 18 months, 20 the source of these is the White House. 15

CHARTChart 19: 19 Uncertain: UNCERTAIN policy POLICY 10

Global Policy Policy Uncertainty Uncertainty Index Index 5 ((index)index) 0 320 2016 US Election -5 280 Brexit Shaded-10 regions represent periods of US recession 240 Source: World Trade Organization, Guardian Capital Lehman Brothers S&P downgrades US -15 bankruptcy credit rating 200 Iraq War begins 9/11 European -20 Asian & Russian immigration The US’ decision to put up trade barriers in the name of 2001 2003 2005 2007 2009 2011 2013 2015 2017 financial crisis crisis 160 Shadedprotecting regions represent American periods of US recession interests has the potential impact Source: Bloomberg, Guardian Capital 120 of reversing nearly a century worth of progress on opening Theup US’ global decision trade to put — up while trade therebarriers is inno the expectation name of protecting of a 80 American interests has the potential impact of reversing nearly a centuryreversion worth ofto prog theress extremely on opening restrictive up global policies trade — whileof the the re European sovereign debt crisis 40 is nopast, expectation the moves of a reversionare in the to wrongthe extremely direction. restrictive policies of 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 the past, the moves are in the wrong direction. Shaded regions represent periods of US recession Source:Shaded Bloomberg, regions represent Guardian Capital periods of US recession Chart 21: Freeing trade Source: Bloomberg, Guardian Capital CHART 21: FREEING TRADE US foreign policy is keeping risks high, with the concerns stemming US Average Import Tariffs US Average Import Tariffs from the ongoing negotiations with North Korea over (duties collected as a percent of total imports) US foreign policy is keeping risks high, with the (duties collected as a percent of total imports) denuclearization and the sanctions against Iran being brought back 30 Dingley Act intoconcerns relevance stemming with the US fromwithdrawing the ongoing from the negotiationsJoint (1897) Comprehensive Plan of Action (the agreement governing Iran’s with North Korea over denuclearization and the 25 Smoot-Hawley nuclear program). Payne-Aldrich Tariff Act sanctions against Iran being brought back into Tariff Act (1930) 20 (1909) The largest risk to the outlook, though, relates to American trade relevance with the US withdrawing from the Joint Reciprocal Tariff Act policy. The world’s largest economy has made an aggressive shift (1934) Comprehensive Plan of Action (the agreement 15 Underwood toward protectionism that began almost immediately following Tariff Act (1913) General Agreement governing Iran’s nuclear program). Fordney- of Trade & Tariffs inauguration with the withdrawal from the Trans-Pacific Partnership McCumber (1948) 10 Tariff Act Kennedy Round of GATT and has become more adversarial this year. (1922) (1962-1967) The largest risk to the outlook, though, relates to North American Free International trade is an important part of the virtuous cycle of 5 Trade Agreement (1994) growth,American and it istrade not a policy. coincidence The thatworld’s the syncing largest up economy of global Tokyo Round of GATT (1973-1979) economies for the first time this cycle has come as trade flows have 0 has made an aggressive shift toward protectionism 1891 1901 1911 1921 1931 1941 1951 1961 1971 1981 1991 2001 2011 accelerated — it is arguably the first persistent improvement since that began almost immediately following inauguration Shaded regions represent periods of US recession Shaded regions represent periods of US recession China joined the World Trade Organization in December 2001. Source: US International Trade Commission, Guardian Capital (with the withdrawal from the Trans-Pacific Partnership) Source: US International Trade Commission, Guardian Capital To date, the US has implemented tariffs on Chinese-produced solar and has become more adversarial this year. panels and washing machines (ranging from 20% to 50%), and importedTo date, steel the and US aluminum has implemented (25% and 10%, tariffs respectively; on Chinese- International trade is an important part of the Argentina,produced Australia solar and panels Brazil and have washing been granted machines permanent (ranging virtuous cycle of growth, and it is not a coincidence exemptions)from 20%. As to well, 50%), duties and of 25% imported are now steel in place and on aluminum $34 billion that the syncing up of global economies for the worth of imports from China and another $16 billion worth are going to be(25% subject and as 10%, well in respectively; the coming mon Argentina,ths. Further, Australia there is a andthreat first time this cycle has come as trade flows have to imposeBrazil ahave further been 10% granted levy on apermanent total of $200 exemptions). billion imports from accelerated — it is arguably the first persistent ChiAsna andwell, a 20%duties tariff of on 25% cars are assembled now in in place the EU. on $34 billion improvement since China joined the World Trade worth of imports from China and another $16 billion Organization in December 2001. worth are going to be subject as well in the coming 15 months. Further, there is a threat to impose a further 10% levy on a total of $200 billion imports from China and a 20% tariff on cars assembled in the EU.

14

Economic Outlook | 9 Policymakers have stated that they will not be proactive in imposing duties on American-made products, however, China has already pledged retaliatory tariffs on $50 billion of goods imported from the US, while the EU (€2.8 billion worth) and Canada ($16.6 billion) have both lobbed their own volleys in the skirmish. Moreover, all have committed to further retaliatory moves if warranted.

In other words, the hopes a quick resolution that avoids escalation have diminished significantly over the last month.

It is, however, still important to note that the current slate of tariffs introduced is unlikely to have a material impact on growth prospects around the world — for instance, while not nothing, the tariffs in place on China are a drop in the bucket given that the US imported $500 billion from the Middle Kingdom in 2017 and the increasing heft of its domestic economy combined with a government with a long- term focus means it can manage the hit.

With that said, the real concern arises around the heightened uncertainty over the next steps — who and what will be focus on the ire of the Administration is not known with certainty or easy to gauge.

While there is arguably some justification in trying to address some trade practices with China — notably the handling of intellectual property and market access for foreign investors — the reasoning behind the moves against other nations is more confusing.

For instance, the tariffs introduced so far are being justified on national security grounds, which is highly bizarre since the likes of Canada, Mexico and the members of the EU are American allies. As well, it is not as though these countries themselves offer much in terms of barriers to trade — in fact, the US has the highest average applied tariff rate among the G-7.

Policymakers have stated that they will not be CHARTChart 22: 22 :American AMERICAN allies ALLIES lack barriers LACK BARRIERS to trade TO TRADE proactive in imposing duties on American-made WeightedWeighted Mean Mean Applied Applied Tariff Tariff Rate Rateon All on Goods, All Goods, 2016 2016 products, however, China has already pledged (percent(percent)) 1.7 retaliatory tariffs on $50 billion of goods imported 1.6 from the US, while the EU (€2.8 billion worth) and 1.61 1.60 1.60 1.60 1.60 1.5

Canada ($16.6 billion) have both lobbed their own 1.4 volleys in the skirmish. Moreover, all have committed 1.3 1.35 to further retaliatory moves if warranted. 1.2

1.1 In other words, the hopes a quick resolution that 1.0 avoids escalation have diminished significantly over 0.9 the last month. 0.8 0.85

0.7

It is, however, still important to note that the current US UK Germany France Italy Japan Canada The weighted mean applied tariff rate is the average of applied rates weighted by product import shares slate of tariffs introduced is unlikely to have a material Source:The weighted World Bank, mean Guardian applied Capital tariff rate is the average of applied rates weighted by product import shares. Source: World Bank, Guardian Capital impact on growth prospects around the world — for Furthermore, it is difficult to determine with high conviction what industries will come under scrutiny in the future. For example, instance, while not nothing, the tariffs in place on Furthermore, it is difficult to determine with high China are a drop in the bucket given that the US conviction what industries will come under scrutiny 16 imported $500 billion from the Middle Kingdom in in the future. For example, imposing a tariff on steel 2017 and the increasing heft of its domestic economy imports from Canada and Mexico was being used combined with a government with a long-term focus as leverage in the negotiations over the renewal of means it can manage the hit. the North American Free Trade Agreement (NAFTA), however, the US was a net exporter of steel to these With that said, the real concern arises around the countries in 2017. heightened uncertainty over the next steps — who and what will be focus on the ire of the Administration is Elevated uncertainty weighs on confidence and not known with certainty or easy to gauge. restricts activity since businesses are likely to hold back on spending decisions such as committing While there is arguably some justification in trying to to new capital investment or entering into long-term address some trade practices with China — notably supply contracts until there is some clarity on how the handling of intellectual property and market access the chips will ultimately fall. for foreign investors — the reasoning behind the moves against other nations is more confusing. As a result, the persistent threat of escalation of a trade war has the potential of syphoning off some For instance, the tariffs introduced so far are being of the fuel from the engine of growth, particularly justified on national security grounds, which is highly among EM economies (particularly those in Southeast bizarre since the likes of Canada, Mexico and the Asia and Latin America) that are more dependent members of the EU are American allies. As well, it is on exports to, and investment from, the US than not as though these countries themselves offer much their DM counterparts. in terms of barriers to trade — in fact, the US has the highest average applied tariff rate among the G-7.

Economic Outlook | 10 imposing a tariff on steel imports from Canada and Mexico was being used as leverage in the negotiations over the renewal of the North American Free Trade Agreement (NAFTA), however, the US was a net exporter of steel to these countries in 2017.

Elevated uncertainty weighs on confidence and restricts activity since businesses are likely to hold back on spending decisions such as committing to new capital investment or entering into long-term supply contracts until there is some clarity on how the chips will Add to this the fact that the stronger US dollar that results from ultimately fall. imposing trade barriers offsets much of the domestic benefits of such As a result, the persistent threat of escalation of a trade war has the policy while also providing a headwind for earnings of US based potential of syphoning off some of the fuel from the engine of growth, companies — foreign sales accounted for 43% of revenues for S&P particularly among EM economies (particularly those in Southeast 500 companies — and there is scope for the upbeat earnings Asia and Latin America) that are more dependent on exports to and expectations to take a hit, which could weigh on financial markets investment from the US than their AM counterparts. and further compound the impact on confidence channels.

CHARTChart 23: 23 Caught: CAUGHT in the IN crossfireTHE CROSSFIRE CHARTChart 24: 24 :Revenues REVENUES without WITHOUT borders BORDERS Export to US as a Share of GDP, 2017 Foreign Sales as a Share of Total S&P 500 Sector Sales, 2016 Export to US as a Share of GDP, 2017 Foreign Sales as a Share of Total S&P 500 Sector Sales, 2016 (percent(percent)) (percent(percent))

30 60

25 50

20 40

15 30

10 20

5 10

0 0 Iraq Italy Tech Peru Chile Libya Israel China Korea Japan Energy Utilities Kuwait Ireland Jordan Staples Austria Mexico Taiwan Canada Telecom Belgium Vietnam Ecuador S&P 500 S&P Hungary Slovakia Thailand Materials Malaysia Lithuania Germany Colombia Sri Lanka Financials Honduras Industrials Nicaragua Cambodia Singapore Venezuela Philippines Costa Rica Guatemala Real Estate Real El Salvador Switzerland Health Care Health

Saudi Arabia Discretionary

Source: US Census Bureau, International Monetary Fund, Guardian Capital Source: S&P Global, Guardian Capital Source: US Census Bureau, International Monetary Fund, Guardian Capital Source: S&P Global, Guardian Capital The US economy itself may not be highly levered to trade as a driver A prolonged and escalating dispute is not in the best interests of of growth (exports account for only 10% of GDP), but that does not The US economy itself may not be highly levered AmericanSpeaking businesses of confidence and perhaps channels, less so for something politicians in that the USplays mean that it will not be negatively affected — particularly American ahead of the November mid-term elections. Neither is it something businesses.to trade as a driver of growth (exports account for desirablea large for role those in p olicymakersgeneral consumer in Beijing sentimentas they work is t oprices push only 10% of GDP), but that does not mean that throughand major this isstructural another reforms area wherein the economy. a trade war As a is result, a big there is Thanks to NAFTA being in place for the last quarter century, there is still hope that this conflict will not turn into a larger-scale war. considerableit will not supply be negatively chain integration affected throughout — particularly North America negative. Tariffs make everything within an economy whichAmerican is not easily businesses. replaced. Adding barriers here means that costs At themore same expensive point, the USand Administration the ultimate seems payer intent is domestic on pushing of production rise and put pressure on margins. forwardconsumers rather than – theusing costs these of tactics imported as a bargaining goods rises strategy with. This provides little reason to anticipate that Xi Jinping & Company will Similarly,Thanks China to NAFTA holds a significantbeing in positionplace for at thethe centre last quarter of the global the tax while domestically produced goods are higher century, there is considerable supply chain integration readily capitulate, which means the brinkmanship between the supply chain and thus is carries importance to American leaderscost of (since the world’s they two use largest foreign economies inputs whichcould continue. face tariffs or multinationalsthroughout. And North while Americait may be thewhich case isthat not China easily cannot match the dollar value of the tariff base that the US is threatening since it A Nickeluse relatively Ain’t Worth more a Dime expensive Anymore labour that if the goods onlyreplaced. imported $130Adding billion barriers from America here means last year that, there costs are were produced abroad). Paying more for the same These policy risks are being further complicated by the fact alternativeof production ways that rise the Chinandese put government pressure on can margins. make life difficult inflationarypretty muchpressures everywhere are showing is signnots a of winning rising on persistentstrategy and basis for American companies doing business in the their country, such as acrossis something the globe for that the first negatively time this impactscycle, which the can quality hand- cuffof the customsSimilarly, delays, China tax audits holds and a increased significant regulatory position scrutiny. at the abilityeveryday of central life. bankers to counter the negative implications for centre of the global supply chain and thus is carries growth. importance to American multinationals. And while it SuchA aprolonged development and with escalating respect17 to inflationdispute should is not not in comethe as a may be the case that China cannot match the dollar surprisebest. Tinterestshanks to ofthe American underlying strengthbusinesses, in growth, consumers, measures of value of the tariff base that the US is threatening since excessand capacity perhaps have even diminished less so forto the politicians point where in the the aggregate US it only imported $130 billion from America last year, AM economy is estimated to be operating at full potential — the outputahead gap forof thesethe November 39 nations ismid-term projected toelections. close this Neither year for the there are alternative ways that the Chinese government first istime it somethingin a decade. desirableIt is it is when for the those economy policymakers hits capacity in can make life difficult for American companies doing Beijing as they work to push through major structural business in the country, such as customs delays, tax reforms in the economy. As a result, there is still hope audits and increased regulatory scrutiny. that this conflict will not turn into a larger-scale war. 18

Add to this the fact that the stronger US dollar that At the same point, the US Administration seems intent results from imposing trade barriers offsets much on pushing forward rather than using these tactics of the domestic benefits of such policy while also as a bargaining strategy. This provides little reason providing a headwind for earnings of US-based to anticipate that Xi Jinping & Company will readily companies — foreign sales accounted for 43% of capitulate, which means the brinkmanship between revenues for S&P 500 companies — and there is scope the leaders of the world’s two largest economies for the upbeat earnings expectations to take a hit, could continue. which could weigh on financial markets and further compound the impact on confidence channels.

Economic Outlook | 11 A Nickel Ain’t Worth a Dime Anymore the lingering impacts of the sharp depreciations of the respective currencies, which had the impact of raising import costs and pushing inflation above target. These policy risks are being further complicated by the fact inflationary pressures are showing signs of rising Chart 26: Eye on the target CHART 26: EYE ON THE TARGET on a persistent basis across the globe for the first time Domestic Inflation Rate Versus Target* Inflation Rate Domestic Inflation Rate Versus Target* Inflation Rate this cycle, which can handcuff the ability of central ((percent;percent; >0 >0 denotes denotes above above target target inflation inflation)) bankers to counter the negative implications for growth. 10 8

Such a development with respect to inflation should not 6

come as a surprise. Thanks to the underlying strength in 4

growth, measures of excess capacity have diminished to 2 the point where the aggregate DM economy is estimated CHART0 26: EYE ON THE TARGET to be operating at full potential — the output gap for Domestic-2 Inflation Rate Versus Target* Inflation Rate these 39 nations is projected to close this year for the (percent; >0 denotes above target inflation) -4 10

first time in a decade. It is when the economy hits UK US India Brazil China Korea Japan Turkey Russia Mexico

8 Norway Canada Sweden Australia

capacity constraints, not before, that price pressures Argentina Eurozone Switzerland South Africa

constraints, not before, that price pressures become more prominent Zealand New become more prominent and inflation accelerates. 6 and inflation accelerates. If target is a range, comparison is to the top of the range Source:*If4 target Bloomberg, is a range, Guardian comparison Capital is to the top of the range Source: Bloomberg, Guardian Capital CHARTChart 25:25: MindMIND the THE gap GAP An 2environment in which economies are running against capacity Advanced Economies’ Aggregate Output Gap constraints and price pressures are firming is one in which a Advanced Economies’ Aggregate Output Gap 0 (percent(percent of potential of potential GDP) GDP) reductionAn environment in monetary policyin which support ec onomiesis justified, areif not running encouraged, in 3 order-2against to keep capacity risks to theconstraints, inflation outlook and pricebalanced. pressures are

-4firming, is one in which a reduction in monetary 2 That said, the risks to the growth outlook suggest that some caution UK US India Brazil China Korea is warrantedpolicy support and the isstill justified,-moderate ifinflation not encouraged, with well-anchoredJapan in Turkey Russia Mexico Norway Canada Sweden Australia 1 expectationsArgentina gives centralEurozone banks the scope to continue to unwind the Switzerland

order to keep risks to the inflation outlook balanced.South Africa crisis-era monetary stimulus at a gradual pace. Zealand New If target is a range, comparison is to the top of the range 0 Source: Bloomberg, Guardian Capital Indeed,That despite said, the the risksfact that to therethe growth has been outlook a move suggestamong AM that An environment in which economies are running against capacity -1 centralsome banks caution to start is towarranted normalize policy,and the rate still-moderates remain low globally constraints and price pressures are firming is one in which a andinflation financial conditions with well-anchored are still highly accommodativeexpectations gives and likelycentral to -2 reductionremain that in waymonetary for the policy foreseeab supportle future. is justified, if not encouraged, in orderbanks to keep the risks scope to the to incontinueflation outlook to unwind balanced. the crisis-era -3 CHARTmonetary 27: FINANCIAL stimulus atCONDITIO a gradualNS EASYpace. That said, the risks to the growth outlook suggest that some caution Aggregate Financial Conditions Index for Major Developed Markets -4 is warranted(index) and the still-moderate inflation with well-anchored 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 expectationsIndeed, despitegives central the factbanks that the therescope hasto continue been a to move unwind the Source: International Monetary Fund, Guardian Capital 105 Source: International Monetary Fund, Guardian Capital crisisamong-era monetary DM central stimulu bankss at a gradualto start pace. to normalize policy, Importantly, though, these upward cyclical pressures are being Indeed,rates104 despite remain the low fact globallythat there andhas beenfinancial a move conditions among AM are temperedImportantly, by structural though, factors these that are upward helping cyclical to keep pressuresinflation at benign rates — these include the disinflationary impacts of centralstill banks highly to accommodativestart to normalize policy, and likelyrates remain to remain low globally that are being tempered by structural factors that are 103 technological innovation, the inflation-suppressing effect of aging andway financial for the conditions foreseeable are still future. highly accommodative and likely to remain that way for the foreseeable future. demographicshelping keep, the continued inflation downward at benign prices rates pressures — these associated 102 with globalization, and the increased credibility of central banks in include the disinflationary impacts of technological CHARTChart 27: 27 Financial: FINANCIAL conditions CONDITIO easyNS EASY combatting inflation and keeping expectations anchored. 101 innovation, the inflation-suppressing effect of aging AggregateAggregate Financial Financial Conditions Conditions Index Index for Major for Major Developed Developed Markets Markets (index(index)) The demographics,net result is that while the continuedthere has been downward a firming inprices inflation so far 100 105 this year,pressures it remains associated moderate with and globalization, below target for andthe vast the majority 99 of economies that have a specific inflation-fighting mandate — the 104 increased credibility of central banks in combatting 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 clear exceptions here are Argentina and Turkey, where policymakers inflation and keeping expectations anchored. Index is GDP-weighted average of individual indexes for the US, UK, Canada, Japan and Eurozone faced a crisis of confidence that resulted in inflation expectations Shaded103 regions represent periods of US recession becoming unanchored and resulting in crisis; Mexico and the UK are Source: Bloomberg, International Monetary Fund, Guardian Capital The net result is that while there has been a firming experiencing the lingering impacts of the sharp depreciations of the 102 respectivein inflation currencies, so farwhich this had year, the itimpact remains of raising moderate import costsand and belowpushing target inflation for above the vasttarget. majority of economies that 101 20 have a specific inflation-fighting mandate — the clear 100 exceptions here are Argentina and Turkey, where policymakers faced a crisis of confidence that resulted 99 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 in inflation expectations becoming unanchored and IndexIndex is GDPis GDP-weighted-weighted average average of individual of individual indexes for indexes the US, UK,for Canada,the US, Japan UK, Canada, and Eurozone Shaded regions represent periods of US recession resulting in crisis; Mexico and the UK are experiencing Source:Japan Bloomberg,and Eurozone. International Shaded Monetary regions Fund, represent Guardian periods Capital of US recession Source: Bloomberg, International Monetary Fund, Guardian Capital

20 Economic Outlook | 12

19

The US Federal Reserve (the Fed) has been the CHARTChart 29: 29 :A A welcome WELCOME reprieve REPRIVE for the FO BOCR THE BOC pace-setter among monetary policymaking bodies, CanadianCanadian Core Core Inflation Inflation Measures Measures (year-over-year percent change) but it has been taking a fairly gradual path having (year-over-year percent change) 5.0 now raised its policy rate seven times since it started Common Component 4.5 tightening in December 2015. Policymakers at the Trimmed-Mean 4.0 Fed are projecting a pickup in the pace with another Weighted-Median The US Federal Reserve (the Fed) has been the pace-setter among CHART 29: A WELCOME REPRIVE FOR THE BOC monetary policymaking bodies, but it has been taking a fairly gradual 3.5 five hikes before the end of next year (bringing Canadian Core Inflation Measures pathforward having now another raised hikeits policy into rate 2018 seven and times three since more it started (year3.0 -over-year percent change) tightening in December 2015. Policymakers at the Fed are projecting pencilled in for next) when it will move to the 2.55.0 a pickup in the pace with another five hikes before the end of next Common Component year“tight” (bringing side forward of policy another dial. hike into 2018 and three more 2.04.5 Trimmed-Mean pencilled in for next) when it will move to the “tight” side of policy dial. 1.54.0 Weighted-Median Chart 28: Climbing to a lower peak 1.03.5 CHART 28: CLIMBING TO A LOWER PEAK Mid-Point of Fed Funds Rate Target Range Mid-Point of Fed Funds Rate Target Range 0.53.0 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 (percent(percent)) Black2.5 lines represent the BOC’s Inflation Target Range, dashed line is midpoint of range 7 ShadedBlack regionslines represent represent periodsthe BOC’s of US Inflation recession Target Range, dashed line is midpoint of range Source:Shaded2.0 Bloomberg, regions Guardianrepresent Capital periods of US recession 6 Source: Bloomberg, Guardian Capital The 1.5Bank of England (BOE) moved off the floor in November, but

5 bypassed1.0 hiking rates in May and again in June against weaker- thanThe-antic Bankipated of growth England to start (BOE) the year moved, ongoing off the concerns floor relatedin to 0.5 4 BrexitNovember,1990, and indications1993 but1996 bypassed of1999 inflation2002 hiking moderating2005 rates2008 faster in 2011May than and2014 was again 2017

expectedBlackin linesJune. represent The against Monetary the BOC’s weaker-than-anticipated Inflation Policy Target Range,Committee dashed line actuallyis midpoint growthof downgradedrange to their 3 inflationShaded regionsoutlook, represent with periods the of USgauge recession of change in consumer prices now Source:start Bloomberg, the year, Guardian ongoing Capital concerns related to Brexit, and expected to hit target a year earlier than assumed in February. 2 Theindications Bank of England of inflation (BOE) moved moderating off the floor faster in November than was, but bypassed hiking rates in May and again in June against weaker- 1 CHARTexpected. 30: HITTING The Monetary THE TARGET Policy Committee actually than-anticipated growth to start the year, ongoing concerns related to Bankdowngraded of England Inflation their Projection inflation outlook, with the gauge 0 Brexit(percent, and) indications of inflation moderating faster than was 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 expectedof5 change. The Monetaryin consumer Policy prices Committee now actually expected downgraded to hit their Forecasts are the median “dots” from the FOMC’s June 2018 Summary of Economic Projections ShadedForecasts regions are represent the median periods “dots” of US from recession the FOMC’s June 2018 Summary inflationtarget outlook, a year with earlier the gauge than assumedof change in consumer February.May Inflation prices Report now Source:of Economic Federal ReserveProjections Board, Guardian Capital expected to hit target a year earlier than assumed in February. Shaded regions represent periods of US recession 4 EvenSource: still, Federal there Reserve remains Board, a Guardian long way Capital to go before the Fed’s $4½ February Inflation Report CHARTChart 30: 30 Hitting: HITTING the targetTHE TARGET trillion balance sheet returns to anything close to resembling its pre- 3 BOE Inflation Bank of England TargetInflation Projection crisis size (and it is the stock of holdings that influences market Bank of England Inflation Projection Even still, there remains a long way to go before the (percent(percent)) rates, not the flows and the Fed estimates that its bond purchases 2 pushedFed’s 10 $4½-year trillionTreasury balance rates down sheet in excess returns of 100to anything basis points). 5 May Inflation Report close to resembling its pre-crisis size (and it is the 1 The Bank of Canada (BOC) has raised rates three times now over 4 stock of holdings that influences market rates, not the February Inflation Report the past year and a fourth hike looks like it will come this month. 0 flows and the Fed estimates that its bond purchases 3 BOE Inflation While it is the case that the domestic economy warrants higher Target interestpushed rates 10-year to help mitigate Treasury the rates risks downrelated into priceexcess stability of and -1 2 temper debt growth, the uncertainties related to US trade policy 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 100 basis points). (upon which Canada is highly dependent) and concerns about Source: Bank of England, Guardian Capital households’ response to tighter borrowing regulations and higher 1 interestThe ratesBank in of conjunction Canada (BOC)with the hasstep nowback inraised the inflation rates data Against this, expectations for a rate hike from the bankers on Threadneedle Street have been kicked out, though a move is still suggestfours timesthat a moveover theto the past sidelines year (mostthis summer recently is in inthe July). cards . 0 being penciled in by markets before the year is through. While it is the case that the domestic economy -1 warrants higher interest rates to help mitigate the risks The European1999 2001 Central2003 2005 Bank2007 (ECB)2009 made2011 its2013 intentions2015 2017known2019 in

June that it will finally cease adding stimulus to the financial system related to price stability and temper debt growth, the Source:Source: Bank Bank of England, of England, Guardian Guardian Capital Capital in the Eurozone, announcing that it will fully tapering its purchases by uncertainties related to US trade policy (upon which Against this, expectations for a rate hike from the bankers on Canada is highly dependent) and concerns about Threadneedle Street have been kicked out, though a move is still being penciled in by markets before the year is through. Against this, expectations for a rate hike from the households’ response to tighter borrowing regulations 22 and higher interest rates in conjunction with the step Thebankers European on Central Threadneedle Bank (ECB) Street made have its intentions been kicked known out,in back in the inflation data, suggests that a move to the Junethough that it will a move finally iscease still adding being stimuluspencilled to thein byfinancial markets system in the Eurozone, announcing that it will fully tapering its purchases by sidelines this summer is in the cards. before the year is through.

The European Central Bank21 (ECB) made its intentions 22 known in June that it will finally cease adding stimulus

Economic Outlook | 13 to the financial system in the Eurozone, announcing Further, while discussion from virtually every other that it will fully tapering its purchases by the end of major central bank tilts toward the risks of keeping the year (monthly purchases are going to be halved policy too easy for too long, the dissenter among from €30 billion to €15 for the final three months the BOJ policymakers is to the other direction. BOJ theof end this of theyear). year (monthly purchases are going to be halved from Board member Goushi Kataoka again voted in favour €30 billion to €15 for the final three months of this year). of expanding asset purchases (he has been a dovish CHARTChart 31: 31 The: THE pile PILE continues CONTINUES to grow T forO GROW now FOR NOW dissenting vote in each meeting since joining the AverageTarget Average Monthly Monthly Net Asset Net Purchases Asset Purchases by the European by the Central European Bank Central Bank Board last September). ((billionsbillions of ofeuro euro))

90 The likelihood remains that the pace of policy 80 dissenternormalization among the BOJin the policymakers DM will continueis to the other to bedirection very . BOJ 70 Board member Goushi Kataoka again voted in favour of expanding the end of the year (monthly purchases are going to be halved from assetgradual purchases suggesting (he has been that a interest dovish dissenting rates should vote innot each rise to €3060 billion to €15 for the final three months of this year). meetingan extent since joining that it the would Board threaten last September). the growth trajectory 50 CHART 31: THE PILE CONTINUES TO GROW FOR NOW in the EM. With respect to rates in the EM themselves, 40 The likelihood remains that the pace of policy normalization in the Average Monthly Net Asset Purchases by the European Central Bank AM willexcluding continue a to few be veryoutliers gradual (again suggests including that interest Argentina rates (30billions of euro) shouldand not Turkey rise to anand extent to a thatlesser it would extent, threaten Mexico), the growth inflation 90 20 trajectoryin general in the EM.remains With respectbenign to with rates expectations in the EM themsel anchoredves, 80 excluding a few outliers (again including Argentina and Turkey and to 10 and financial conditions are still easy, which provides 70 a lesser extent, Mexico), inflation in general remains benign with 0 Mar-15 Aug-15 Jan-16 Jun-16 Nov-16 Apr-17 Sep-17 Feb-18 Jul-18 Dec-18 policymakers with some room to maneuver should expectations anchored and financial conditions are still easy, which 60 Source:Source: European European Central Central Bank, Bank, Guardian Guardian Capital Capital providesit be policymakers warranted. with some room to maneuver should it be 50 warranted. Any thoughts that this would be followed by a quick move to start 40 unwindingAny thoughts the stimulus that in this place, would however, be followed were eschewed by a quick by the CHARTChart 33: 33: Inflation INFLATION not emergingNOT EMER inGING EM IN EM ECB’s30 commitment that no changes will be made to policy rates “at move to start unwinding the stimulus in place, WorldWorld Consumer Consumer Price Price Inflation Inflation least20 through the summer of 2019” — and the balance sheet that (year(year-over-year-over-year percent percent change change)) holdshowever, in excess were of $5 eschewed trillion in assets by the will ECB’s likely commitmentremain well after that. 10 14 that no changes will be made to policy rates “at least Advanced Economies Forecast For 0its part, the Bank of Japan (BOJ) remains committed going full 12 Mar-15 Aug-15 Jan-16 Jun-16 Nov-16 Apr-17 Sep-17 Feb-18 Jul-18 Dec-18 through the summer of 2019” — and the balance steam ahead with its quantitative easing campaign, reupping its Emerging & Developing Economies pledgSource:sheete toEuropean thatincrease Central holds Bank,its netinGuardian excessholdings Capital of of $5 long trillion-term Japanese in assets will 10 Anygovernmentlikely thoughts remain bongs that this wellby wouldabout after be¥80 that. followed trillion a by year a quick and continuingmove to start buying World unwindingexchange- tradedthe stimulus funds inunder place, its however, risk asset were program. eschewed by the 8 ECB’s commitment that no changes will be made to policy rates “at For its part, the Bank of Japan (BOJ) remains 6 leastCHART through 32 :the A GROWING summer of MOUNTAIN 2019” — and OF the ASSETS balance sheet that holdsBankcommitted in of excess Japan Balance ofgoing $5 Sheet trillion full insteam assets ahead will likely with remain its quantitative well after that. 4 (easingtrillions of yencampaign,) reupping its pledge to increase its For600 its part, the Bank of Japan (BOJ) remains committed going full 2 steamnet aheadholdings with itsof quantitativelong-term easing Japanese campaign, government reupping bonds its 0 pledg500bye about to increase ¥80 itstrillion net holdings a year of and long continuing-term Japanese buying 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 2021 2023 government bongs by about ¥80 trillion a year and continuing buying exchange-traded funds under its risk asset program. Source:Forecasts International are IMF Monetary forecasts Fund, Guardian Capital exchange400 -traded funds under its risk asset program. Shaded regions represent periods of US recession Pair Up in Threes Chart 32: A growing mountain of assets Source: International Monetary Fund, Guardian Capital CHART300 32: A GROWING MOUNTAIN OF ASSETS If central banks are trudging forward with unwinding crisis-era Bank of Japan Balance Sheet Bank of Japan Balance Sheet stimulus, that should mean that market interest rates should be ((trillionstrillions of yenof yen)) 200 movingPair higher Up in tandem Threes — and they are, but only to a point. 600

100 Early in the year, on anticipation that US monetary policymakers 500 wouldIf becentral pushed banks to tak aree a moretrudging aggressive forward approach with unwinding to rate-setting, 0 global bond yields jumped sharply, with the benchmark 10-year US 4002007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 crisis-era stimulus, that should mean that market Treasury note yield breaching 3% for the first time since the end of Shaded region represents period of US recession 2013.interest rates should be moving higher in tandem — Source: Bank of Japan, Guardian Capital 300 and they are, but only to a point. Further, while discussion from virtually every other major central bank200 tilts toward the risks of keeping policy too easy for too long, the Early in the year, on anticipation that US monetary

100 policymakers would be 23pushed to take a more aggressive approach to rate-setting, global bond yields 0 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 jumped sharply, with the benchmark 10-year US Shaded region represents period of US recession Source:Shaded Bank region of Japan, represents Guardian period Capital of US recession Treasury note yield breaching 3% for the first time Source: Bank of Japan, Guardian Capital Further, while discussion from virtually every other major central since the end of 2013. bank tilts toward the risks of keeping policy too easy for too long, the 24 23 Economic Outlook | 14

CHART 34: GRABBING THE THREE-HANDLE 10-Year Sovereign Bond Yields (percent) 3.5 U.S. Germany 3.0 U.K. Canada 2.5

2.0

1.5

1.0

0.5

0.0

-0.5 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18

Source: Bloomberg, Guardian Capital The move higher in rates was, however, met with concern that the tighter financial conditions would constrain growth. The resultant spike in volatility and the accompanying turn down in equity markets drove the risk off mood that gave sovereign bonds a bid, leaving yields treading water. The intensification of concerns over US trade policy and the negative impact such measures would have on the global growth backdrop further supported the flight to safety which has seen market rates drift lower over the last month as investors place a premium on safety — more focus on “return of capital” than “return on capital.” This is a key factor that has kept longer-term market yields largely treading water over the last three months despite the policy-driven increase at the front-end of the yield curve — there is still a negative term premium of government bonds, which has actually moved lower in recent months and served to offset the rise in rate expectations.

CHARTChart 34: 34 Grabbing: GRABBING the three-handle THE THREE-HANDLE CHARTChart 35: 35 A: Apremium PREMIUM on safetyON SAFETY

1010-Year-Year Sovereign Sovereign Bond Bond Yields Yields DecompositionDecomposition of 10of- Year10-Year US TreasuryUS Treasury Note Note Yield Yield ((percent)percent) ((percent)percent) 3.5 12

U.S.US Germany Expected Short-Term Rate 3.0 10 U.K.UK Canada Term Premium 2.5 8

2.0 6

1.5 4 1.0 2 0.5 0 0.0

-2 -0.5 1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 2017 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18 Shaded regions represent periods of US recession Source: Bloomberg, Guardian Capital Source:Shaded Bloomberg, regions represent International periods Monetary of Fund, US recession Guardian Capital Source: Bloomberg, Guardian Capital Source: Bloomberg, International Monetary Fund, Guardian Capital The move higher in rates was, however, met with concern that the tighter financial conditions would constrain growth. The resultant The move higher in rates was, however, met with 25 spike in volatility and the accompanying turn down in equity markets Heightened risk and associated premium on safety is droveconcern the risk that off mood the tighter that gave financial sovereign conditions bonds a bid, wouldleaving a reason why it is hard to be full-on bond bear at the yieldsconstrain treading growth.water. The resultant spike in volatility and moment. At the same point, however, there is a need Thethe intensification accompanying of concerns turn downover US in trade equity policy markets and the drove negative to be fully aware of the risks that exist in what has impactthe suchrisk offmeasures mood would that gavehave sovereignon the global bonds growth a babid,ckdrop traditionally been viewed as a risk-free market. furtherleaving supported yields the treading flight to safetywater. which has seen market rates drift lower over the last month as investors place a premium on Government bond yields are still low, which means safety — more focus on “return of capital” than “return on capital.” The intensification of concerns over US trade policy that it does not take much in terms of rate increases Thisand is a the key negative factor that impact has kept such longer measures-term ma rketwould yields have largely to turn performance negative. For example, with the treading water over the last three months despite the policy-driven increaseon the at globalthe front growth-end of thebackdrop yield curve further — there supported is still a negative the 10-year US Treasury note yield stuck below 3%, it takes termflight premium to safety of government which hasbonds, seen which market has actuallyrates drift moved lower lower less than a 30 basis point rise in the yield to wipe out in recentover themonths last andmonth served as toinvestors offset the place rise in a rate premium expectations. the 12-month total return from holding the bond — CHARTon safety 35: A— PREMIUM more focus ON SAFET on “returnY of capital” than and as was seen at the start of the year, it does not take Decomposition of 10-Year US Treasury Note Yield (“returnpercent) on capital.” long for a move of that magnitude to materialize. 12This is a key factor that has kept longer-term market Expected Short-Term Rate Further to this point, the flatness of the yield curve 10yields largely flat over the last three months despite Term Premium means that the bond market offers effectively no

the8 policy-driven increase at the front-end of the premium for holding long duration debt which is by yield curve — there is still a negative term premium definition more sensitive to yield changes and more 6 of government bonds, which has actually moved negatively impacted by rate hikes. Given that interest lower4 in recent months and served to offset the rise rates are expected to rise, that supports the idea that

in2 rate expectations. there are benefits to having exposure to the shorter duration bonds. 0

-2 1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 2017

Shaded regions represent periods of US recession Source: Bloomberg, International Monetary Fund, Guardian Capital

25

Economic Outlook | 15 Heightened risk and associated premium on safety is a reason why it is hard to be full-on bond bear at the moment. At the same point, however, there is a need to be fully aware of the risks that exist in what has traditionally been viewed as a risk-free market.

Government bond yields are still low, which means that it does not take much in terms of rate increases to turn performance negative. For example, with the 10-year US Treasury note yield stuck below 3%, it takes less than a 30 basis point rise in the yield to wipe out the 12-month total return from holding the bond — and as was seen at the start of the year, it does not take long for a move of that magnitude to materialize.

Further to this point, the flatness of the yield curve means that the bond market offers effectively no premium for holding long duration debt which is by definition more sensitive to yield changes and more negatively impacted by rate hikes. Given that interest rates are expected to rise, that supports the idea that there are benefits to having exposure to the shorter duration bonds.

CHARTChart 36: 36 Shorter: SHORTER duration, DURATION, bigger cushion BIGGER CUSHION there is an argument to be made for being a little more USUS Bond Bond Index Index Ratio Ratio of Yieldof Yield to Duration to Duration conservative in terms of risk management at current. ((basisbasis points points)) 120 Again, while the baseline expectations for the 1-to-5 Years 5-to-10 Years 10+ Years 100 macroeconomic outlook remain fairly sanguine, there are (growing) risks that would likely have 80 a disproportionate impact on the lower-quality end of the credit spectrum. Against this, however, 60 there has not been a material shift in the pricing of

40 risk in the High-Yield space — the yield cushion above government bonds and their higher-quality 20 Investment-Grade peers remain at historically low and

0 suggest limited relative upside, especially for the added 2012 2013 2014 2015 2016 2017 2018 risk being taken from holding these lower quality Measures the rate increase required to wipe out one-year carry on bond Source:Measures Bloomberg, the rate Guardian increase Capital required to wipe out one-year carry on bond Source: Bloomberg, Guardian Capital credits over more high quality names. As well, if interest rates are rising (especially rising only gradually), thatAs typically well, ifmeans interest that rates the economy are rising is doing (especially well which rising is a CHARTChart 38: 29 :Limited A WELCOME premium REPRIVE on high riskFOR THE BOC positive for corporate earnings and solvency, and speaks to the only gradually), that typically means that the economy CanadianUS High-Yield Core Inflation Bond IndexMeasures Yield Spread Over Investment-Grade Bond Yields benefits of moving down the quality curve into corporate credit. (year(basis-over points)-year percent change) Corporateis doing credit well has which historically is a positive outperformed for corporate government bonds in 5.0 risingearnings interest andrate solvency,environments and thanks speaks to theto thecombination benefits of a Common Component larger yield on offer and typically shorter duration. 4.5 of moving down the quality curve into corporate Trimmed-Mean 4.0 credit. Corporate credit has historically outperformed Weighted-Median 3.5 government bonds in rising interest rate environments thanks to the combination of a larger yield on offer 3.0 and typically shorter duration. 2.5 2.0

1.5 CHARTChart 37: 37 :Rising RISING rates RATES better BETTE downR quality DOWN curve QUALITY CURVE US Bond Index 12-Month Performance by Change in 10-Year Treasury Yields 1.0 US Bond Index 12-Month Performance by Change in 10-Year Treasury Yields (percent(percent)) 0.5 26 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 14 Treasuries Investment-Grade High-Yield Black lines represent the BOC’s Inflation Target Range, dashed line is midpoint of range 12 ShadedDashed regions line representrepresents periods historical of US recessionaverage; solid lines are +/-1 standard Source:deviation Bloomberg, from thatGuardian average Capital Shaded regions represent periods of US recession 10 TheSource: Bank Bloomberg, of England Guardian (BOE) Capital moved off the floor in November, but

8 bypassed hiking rates in May and again in June against weaker- than-anticipated growth to start the year, ongoing concerns related to 6 BrexitNo, and One indications Goes There of inflation Anymore, moderating It’s faster Too thanCrowded was 4 expected. The Monetary Policy Committee actually downgraded their inflation outlook, with the gauge of change in consumer prices now 2 expectedTurning to hit to target equities, a year the earlier baseline than assumed outlook in and February. the 0 CHARTstill-low 30: levelHITTING of yieldsTHE TARGET offered on fixed income -2 Less than -100 -100 to -50 -50 to 0 0 to 50 50 to 100 More than 100 Banksecurities of England continues Inflation Projection to make stocks look attractive (percent) Based on monthly data back to 1987 on a relative basis. Source:Based Bloomberg, on monthly Guardian data Capitalback to 1987 5 Source: Bloomberg, Guardian Capital These features, as well as the general equity-like characteristics, May Inflation Report may appear to make High-Yield corporate debt an attractive 4 These features, as well as the general equity-like February Inflation Report proposition, however, there is an argument to be made for being a characteristics, may appear to make High-Yield 3 BOE Inflation little more conservative in terms of risk management at current. Target corporate debt an attractive proposition, however, Again, while the baseline expectations for the macroeconomic 2 outlook remain fairly sanguine, there are (growing) risks that would likely have a disproportionate impact on the lower-quality end of the 1 credit spectrum. Against this, however, there has not been a material shift in the pricing of risk in the High-Yield space — the yield cushion 0 above government bonds and their higher-quality Investment-Grade peers remain at historically low and suggest limited relative upside, -1 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 especially for the added risk being taken from holding these lower quality credits over more high quality names. Source: Bank of England, Guardian Capital Against this, expectations for a rate hike from the bankers on CHART 38: LIMITED PREMIUM ON HIGH RISK Threadneedle Street have been kicked out, though a move is still US High-Yield Bond Index Yield Spread Over Investment-Grade Bond Yields being penciled in by markets before the yearEconomic is through. Outlook | 16 (basis points) 1400 The European Central Bank (ECB) made its intentions known in June that it will finally cease adding stimulus to the financial system 1200 in the Eurozone, announcing that it will fully tapering its purchases by

1000

800 22 600

400

200

0 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017

Dashed line represents historical average; solid lines are +/-1 standard deviation from that average Shaded regions represent periods of US recession Source: Bloomberg, Guardian Capital

27

No One Goes There Anymore, It’s Too Crowded Turning to equities, the baseline outlook and the still-low level of yields offered on fixed income securities continues to make stocks look attractive on a relative basis.

CHARTChart 39: 39 :Stocks STOCKS relatively RELATIVELY cheaper CHEAPER than bonds THAN BONDS CHARTChart 41:41: SentimentSENTIMENT swings SWINGS No One Goes There Anymore, It’s Too Crowded RatioRatio of ofS&P S&P 500 500 Forward Forward Earnings Earnings Yield Yield to US to Treasury US Treasury Index YieldIndex Yield InvestorsInvestors Intelligence Intelligence Bull -Bull-BearBear Ratio Ratio (ratio(ratio)) (ratio(ratio)) Turning to equities, the baseline outlook and the still-low level of yields10 offered on fixed income securities continues to make stocks 6

look9 attractive on a relative basis. 5 8 CHART 39: STOCKS RELATIVELY CHEAPER THAN BONDS 7 Ratio of S&P 500 Forward Earnings Yield to US Treasury Index Yield 4 (ratio6 ) Extreme Optimism 10 3 5 CHART 41: SENTIMENT SWINGS 9 Investors Intelligence Bull-Bear Ratio 4 2 8 Bonds relatively expensive (ratio) 3 6 7 1 2 6 Extreme Pessimism 5 1 0 5 Stocks relatively expensive 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 0 4 4 Bear Market Corrections II Bull-Bear 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 Bonds relatively expensive Source: Investors Intelligence, Wall Street Journal, Guardian Capital Shaded3 regions represent periods of US recession Source: Investors Intelligence, Wall StreetExtrem Journal,e Optimism Guardian Capital Source:Shaded Bloomberg, regions Guardianrepresent Capital periods of US recession Source: Bloomberg, Guardian Capital 3 2 It has now been five months since the US stock market set a new That said, this continues to be one of the most unloved bull markets high — something that was accomplished on almost a daily basis in memory.1 Despite the US stock market rising 300% from its cycle- It2 has now been five months since the US stock market That said, this continuesStocks relatively to expensive be one of the most last year. Against that, the relevant question is whether or not there lows 0at the depths of the last recession (an annualized price return of set a new high — something that was accomplished 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 is actually any fundamental justification for equities to reach those 16%),unloved there has bull not markets really been in anymemory. of the euphoriaDespite that the typicallyUS stock 1 Shaded regions represent periods of US recession levelson again. almost a daily basis last year.Extrem Againste Pessimism that, the accompaniesSource:market Bloomberg, rising such Guardian bullish300% Capital periods. from its cycle-lows at the depths relevant0 question is whether or not there is actually Thatof said, the tlasthis continues recession to (anbe one annualized of the most priceunloved return bull markets of From 2007a valuations2008 2009 perspective,2010 2011 the2012 combination2013 2014 of2015 the decline2016 2017 in 2018 any fundamentalBear Market justificationCorrections for equities IIto Bull-Bear reach in CHARTmemory. 40 Despite: RUNNING the US OF stockTHE BULmarketLS rising 300% from its cycle- 16%), there has not really been any of the euphoria stock prices and strengthening earnings pushed the forward price-to- lowsS&P at 500 the Bull depths Market Performanceof the last recession (an annualized price return of earningsSource:those Investors ratio levels Intelligence,back again. in Wallline Street with Journal, its historical Guardian Capital average after pressing 16%),(percent;that there typically >0 denotes has not above accompanies really target been inflation any) such of the bullish euphoria periods. that typically against upside boundaries earlier in the year. That would suggest 600 It has now been five months since the US stock market set a new accompanies such bullish periods. thathigh Fromthe — broadsomething a valuations equity that market was perspective, accomplishedis appropriately the on valuedcombination almost and a daily barring ofbasis a 500Chart 40: Running of the bulls multiplelast year.-driven Against rally, that, the the upside relevant is capped question by earningsis whether expectations. or not there CHART 40: RUNNING OF THE BULLS the decline in stock prices and strengthening earnings S&P 500 Bull Market Performance is actually any fundamental justification for equities to reach those 400S&P(percent; 500 Bull >0 Market denotes Performance above target inflation) CHARTpushed 42: theBACK forward TO THE price-to-earnings MIDDLE ratio back in line (percent; >0 denotes above target inflation) levels again. 600 S&Pwith 500 Forward its historical Price-to-Earnings average Ratio after pressing against upside 300 (ratio) Fromboundaries a valuations earlier perspective, in the the year. combination That would of the suggest decline thatin 500 stock27 prices and strengthening earnings pushed the forward price-to- 200 earningsthe broad ratio back equity in line market with its is historical appropriately average valued after pressing and 400 against24 upside boundaries earlier in the year. That would suggest 100 barring a multiple-driven rally, the upside is capped by that the broad equity market is appropriately valued and barring a 300 earnings expectations. 21 0 multiple-driven rally, the upside is capped by earnings expectations. 200 Chart 42: Back to the middle CHART18 42: BACK TO THE MIDDLE 05-Oct-31 19-Oct-33 11-Apr-39 28-Apr-42 22-Oct-57 07-Oct-66 03-Oct-74 09-Oct-02 12-Jun-28 02-Jun-31 01-Jun-32 10-Jun-40 13-Jun-49 26-Jun-62 14-Mar-35 31-Mar-38 09-Mar-09 27-Feb-33 13-Nov-29 16-Dec-30 12-Aug-82 04-Dec-87 21-Sep-01 20-Nov-08 19-May-47 26-May-70 100 S&P 500 Forward Price-to-Earnings Ratio Bull Market Start Date S&P 500 Forward Price-to-Earnings Ratio If target is a range, comparison is to the top of the range (ratio(ratio)) Source: Bloomberg, Guardian Capital 15 0 27 Indeed, when investors finally did start getting behind the market at 12 05-Oct-31 19-Oct-33 11-Apr-39 28-Apr-42 22-Oct-57 07-Oct-66 03-Oct-74 09-Oct-02 the outset12-Jun-28 of the02-Jun-31 year,01-Jun-32 they were met10-Jun-40 with13-Jun-49 a sharp26-Jun-62 and sudden selloff 14-Mar-35 31-Mar-38 09-Mar-09 27-Feb-33 13-Nov-29 16-Dec-30 12-Aug-82 04-Dec-87 21-Sep-01 20-Nov-08 19-May-47 26-May-70 24 that left many feeling once bittenBull Market, twice Start Dateshy. If target is a range, comparison is to the top of the range 9 Source:If target Bloomberg, is a range, Guardian comparison Capital is to the top of the range 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 Source: Bloomberg, Guardian Capital 21 Dashed line represents series’ average; solid black lines represent +/-1 standard deviation from that average Indeed, when investors finally did start getting behind the market at Shaded regions represent periods of US recession Source: Bloomberg, Guardian Capital the outset of the year, they were met with a sharp and sudden selloff 18 Indeed, when investors finally did start getting behind that left many feeling once bitten, twice shy. Importantly, though, everything in28 financial markets should be viewed the market at the outset of the year, they were met on a15 relative basis. Equity market valuations need to be looked at in with a sharp and sudden selloff that left many feeling the context of the still extremely low interest rate environment. 12 once bitten, twice shy. 28 29 9 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

Dashed line represents series’ average; solid black lines represent +/-1 standard deviation from that average ShadedDashed regions line representrepresents periods series’ of USaverage; recession solid black lines represent +/-1 standard Source:deviation Bloomberg, from thatGuardian average Capital Shaded regions represent periods of US recession Importantly,Source: Bloomberg, though, Guardian everything Capital in financial markets should be viewed on a relative basis. Equity market valuations need to be looked at in the context of the still extremely low interest rate environment.

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Economic Outlook | 17 Importantly, though, everything in financial markets remain elevated, especially in comparison to previous should be viewed on a relative basis. Equity market market expansion. Specifically, the ERP is currently valuations need to be looked at in the context of the more than 100 basis points above its 20-year average, still extremely low interest rate environment. which is indicative of the heightened degree of uncertainty in the marketplace. At their most basic level, assets price should equal the present values of their future cash flows — these future In other words, these estimates suggest that market is payments are discounted into a present value using actually undervaluing stocks currently given the level their expected rate of return, which is the market’s of interest rates and the current outlook for growth. risk-free rate and a premium to compensate investors for taking on some risk by holding that asset. CHARTChart 44: 44 Robust: ROBUST revisions REVISIONS US EquityEquity Analyst Analyst Earnings Earnings Per Per Share Share Revision Revision Ratio Ratio In the case of the stock market, the expected return ((ratioratio of of upgrades upgrades-to-downgrades)-to-downgrades) At their most basic level, assets price should equal the present 3.5 valueson ofthe their S&P future 500 cash should flows be — thethese risk-free future payments rate (the are 10- 1-Month Revision Ratio discountedyear US into Treasury a present note value yield using is their typically expected used) rate plus of return , 3.0 12-Month Moving Average whicha requiredis the market’s return risk in-free excess rate andof that a premium referred to tocompensate as the investors for taking on some risk by holding that asset. 2.5 equity risk premium (ERP). 2.0 In the case of the stock market, the expected return on the S&P 500 shouldThe be ERP the riskcan- freebe viewedrate (the as 10 encompassing-year US Treasury market note yield is 1.5 typicallysentiment used) plus and a riskrequired tolerance return in— excess it declines of that whenreferred to as the equity risk premium (ERP). 1.0 investors are bullish and view risks to the outlook as The diminishing,ERP can be viewed while as it e willncompassing rise in times market of sentiment stress since and risk 0.5 tolerance — it declines when investors are bullish and view risks to investors require a greater return to compensate for 0.0 the outlook as diminishing, while it will rise in times of stress since 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 the perceived higher degree of risk in the marketplace. investors require a greater return to compensate for the perceived Shaded regions regions represent represent periods periods of US recessionof US recession higher degree of risk in the marketplace. Source: Bank Bank of ofAmerica America Merrill Merrill Lynch, Lynch,Guardian Guardian Capital Capital The estimates of the ERP — which are based on a multi- On the surface, this is inherently bullish for stocks in the longer-run The stageestimates dividend of the ERPdiscount — which model are based that factors on multi in-stage the level sinceOn any the mean surface,-reversion this isin inherentlythe ERP implies bullish that stock for stocks prices willin dividend discount model that factors in the level of interest rates, of interest rates, near-term growth expectations from risethe — longer-runfor example, asince half percentageany mean-reversion point drop in inthe the ERP ERP near-term growth expectations from market analysts, longer-term translates to 10% of upside in the S&P 500, all else the same. growthmarket expectations analysts, based longer-term on underlying growth macro expectations fundamentals, and implies that stock prices will rise — for example, a half the cashbased flows on associatedunderlying with macro holding fundamentals, stocks (dividends and and the share Thatpercentage said, there pointis still ampledrop reasonin the forERP investors translates to be to requiring 10% of a repurchases) — have been generally trending lower since the post- high risk premium in the equity market right now which may not Brexitcash peak, flows but still associated remain elevated, with holding especially stocks in comparison (dividends to suggupsideest that in a thedecline S&P in 500,the ERP all elseis immediately the same. forthcoming; as has previousand sharemarket repurchases) expansion. Specifically, — have beenthe ERP generally is currently more been mentioned, there is a heightened degree of uncertainty right thantrending 100 basis lower points sinceabove theits 20 post-Brexit-year average peak,, which but is still indicative now.That said, there is still ample reason for investors to of the heightened degree of uncertainty in the marketplace. be requiring a high risk premium in the equity market In particular, the views with respect to the outlook are highly right now which may not suggest that a decline in CHARTChart 43: 43 :A A premium PREMIUM on ONequity EQUITY market MARKET risk RISK uncertain and these factor into the estimates of the ERP — lower future underlying/trend growth than assumed would necessarily S&PS&P 500 500 Implied Implied Equity Equity Risk RiskPremium Premium the ERP is immediately forthcoming; as has been (percent(percent)) meanmentioned, a lower ERP; there the isdispersion a heightened of growth degree forecasts of uncertainty by market 12 participants is wide and this is something that is being taken into Great Financial crisis considerationright now. in the current market pricing. 11 European sovereign Brexit debt crisis Moreover, bringing it back to the importance of looking at things on a 10 In particular, the views with respect to the outlook are Tech Bubble relative basis, the rising trend in the ERP through this cycle (indeed, burst highly uncertain and these factor into the estimates of 9 since it hit a trough at the height of the Tech boom) has come in conjunctionthe ERP with— lowerthe declining future trend underlying/trend in interest rates —growth there isthan a very 8 Asian/Russian financial crisis strongassumed inverse would relationship necessarily here and mean the elevated a lower ERP ERP; can the be 7 partiallydispersion attributed of togrowth the low forecasts interest rate by environment market participants. 6 CHARTis wide 45 and: ALL this ABOUT is something THAT BAS Ethat RATE is being taken into

5 S&Pconsideration 500 Implied Equity in Risk the Premium current & 10 -marketYear US Treasury pricing. Yield (percent) (percent; inverted scale)

4 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018

Dashed line represents series’ average ShadedDashed regions line represent represents periods series’ of US average recession Source:Shaded Bloomberg, regions S&Prepresent Global, periods Guardian of Capital US recession Source: Bloomberg, S&P Global, Guardian Capital In other words, these estimates suggest that market is actually undervaluing stocks currently given the level of interest rates and the current outlook for growth.

31 Economic Outlook | 18

30

Moreover, bringing it back to the importance of Markets have shown that they ultimately rise over time looking at things on a relative basis, the rising trend and while it is desirable to avoid the few bad days, it is in the ERP through this cycle (indeed, since it hit a even more important to maintain exposure for the many trough at the height of the Tech boom) has come in good days — missing out on just the 10 best of the nearly conjunction with the declining trend in interest rates 8,000 trading days spanning the last three decades — there is a very strong inverse relationship here and reduces annualized returns by more than 2 percentage the elevated ERP can be partially attributed to the low points, which translates into the value of an investment interest rate environment. made at the beginning of 1988 being worth nearly 50% less now due to the power of compounding. Chart 45: All about that base rate S&P 500 Implied Equity Risk Premium & 10-Year US Treasury Yield Chart 46: Fear of missing out CHART 46: FEAR OF MISSING OUT (percent) (percent; inverted scale) Equity Market Performance Equity Market Performance 12 -1 ((annualizedannualized total total return return in US in dollars US dollars))

12 11 0 MSCI World S&P 500 TSX 10 1 10 10.5

9 2 8 8.2 7.3 7.3 8 3 CHART6 46: FEAR OF MISSING OUT Equity Market Performance 5.5 5.7 7 4 4.9 (annualized4 total return in US dollars)

6 5 12 3.5 2 2.6 Implied Equity Risk Premium (LHS) MSCI World 2.2S&P 500 TSX 5 6 10 10.5 1.0 US Treasury Index Yield (RHS) 0 4 7 8 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 8.2 -1.0 -2 7.3 7.3 Shaded regions represent periods of US recession All Days Excluding 10 Best Days Excluding 25 Best Days Excluding 50 Best Days Shaded regions represent periods of US recession 6 Source: Bloomberg, S&P Global, Guardian Capital Based on daily data from January 4, 1988 to June 29, 2018 5.7 Source: Bloomberg, S&P Global, Guardian Capital Source:Based onBloomberg, daily data Guardian from Capital January5.5 4, 1988 to June 29, 2018 4.9 The updraft in yields in the second half of last year and into this 2018 Source:4 Bloomberg, Guardian Capital was a big factor in driving the decline in the ERP which in turn At the same time, though, the increase3.5 in volatility in the market and The updraft in yields in the second half of last year the 2ample risks to the outlook speak to taking a more defensive2.6 tilt in helped to propel markets higher. More recently, however, rates have 2.2 equityAt the market same positioning time, though, and adding the exposure increase to in income/dividend volatility generallyand into trend 2018ed sideways, was a big which factor combined in driving with the the sentiment decline 1.0 swing,in the has ERPtaken which the ERP in back turn up helped again and to coincidedpropel markets with selling strategies.in0 the market These strategies and the typically ample outperformrisks to the in outlookperiods of flat and down markets — periods with greater uncertainty in the marketplace in the stock market. -1.0 higher. More recently, however, rates have generally speak-2 to taking a more defensive tilt in equity market which are generallyAll Days accompaniedExcluding 10 Best Days by heightenedExcluding 25 Best Days volatilityExcluding — 50 Best as Days the

Wheretrended we go sideways, from here iswhich a bit muddle combinedd at the with moment, the butsentiment these dividendBasedpositioning on daily cushion data from andsoftensJanuary adding4, 1988 the to Junedownside exposure 29, 2018 risks to and income/dividend can create positive Source: Bloomberg, Guardian Capital dataswing, suggest has that taken there theis limited ERP indicationback up thatagain equity and markets coincided are totalstrategies. returns as These investors strategies are paid typicallyto wait in otherwise outperform directionless in Atmarkets the same. time, though, the increase in volatility in the market and particularlywith selling overvalued in the. In stock fact, there market. appears to be scope for further periods of flat and down markets — periods with increases should we see the embedded market risk premium start to the ample risks to the outlook speak to taking a more defensive tilt in equityCHARTgreater market 47 uncertainty: positioningDIVIDEND STOCKS andin theadding marketplace PA exposureY IN DOWN to whichMARKETSincome/dividend are declineWhere from we its gocurrent from elevated here is levels a bit — muddled though for atthis the to play out in earnest will reasonably require some more clarity on the outlook. strategies.Performancegenerally These Relative accompanied strategies to S&P 500 typically During by Correctionsheightened outperform in volatility periods of — flat as and moment, but these data suggest that there is limited down(basis markets points; >0 — denotes periods outperformance with greater relative uncertainty to S&P 500) in the marketplace You Can Observe A Lot by Watching whichthe1250 are dividend generally cushion accompanied softens by heightened the downside volatility risks — as and the indication that equity markets are particularly S&P 500 High Dividend Index dividendcan1000 create cushion positive softens thetotal downside returns risks as investorsand can create are paidpositive to Thatovervalued. speaks to a needIn fact, to be there patient appears in the current to be marketscope for S&P 500 Dividend Aristocrats Index total 750returns as investors are paid to wait in otherwise directionless environment.further increases Patience isshould a virtue we but seeit can the be embedded very difficult tomarket sit tight wait in otherwise directionless markets. against heightened uncertainty and market volatility. An important markets500 . truismrisk in premium financial markets start to is thatdecline it is “time from in” its the current market, elevatednot 250 CHARTChart 47: 47 Dividend: DIVIDEND stocks STOCKS pay in PA downY IN marketsDOWN MARKETS “timing”levels the — market though that foris the this key to to play building out wealth in earnest in the longwill-term . 0 PerformancePerformance Relative Relative to S&Pto S&P 500 500During During Corrections Corrections reasonably require some more clarity on the outlook. ((basisbasis-250 points; points; >0 >0denotes denotes outperformance outperformance relative relativeto S&P 500 to) S&P 500) Markets have shown that they ultimately rise over time and while it is 1250 desirable to avoid the few bad days, it is even more important to -500 S&P 500 High Dividend Index 1000 -750 maintain exposure for the many good days — missing out on just the S&P 500 Dividend Aristocrats Index 750 10 best of the nearly 8,000 trading days spanning the last three -1000 decadesYou Canreduces Observe annualized A Lotreturns by by Watching more than 2 percentage 500 13-Jul-90 17-Jul-98 16-Jul-99 19-Jul-07 17-Apr-91 07-Oct-97 12-Apr-99 19-Oct-09 23-Apr-10 29-Apr-11 02-Apr-12 02-Jan-90 15-Jan-92 05-Jun-96 12-Jun-09 19-Jan-10 08-Jun-16 26-Jan-18 02-Feb-94 18-Feb-97 11-Feb-04 07-Mar-05 15-Feb-07 26-Mar-09 18-Feb-11 28-Aug-91 13-Nov-91 14-Sep-92 06-Aug-97 05-Dec-97 31-Dec-99 06-Nov-02 27-Nov-02 03-Aug-05 14-Sep-12 18-Sep-14 03-Nov-15 points, which translates into the value of an investment made at the 250 13-May-99 09-May-06 21-May-15 Correction Start Date beginning of 1988 being worth nearly 50% less now due to the power Corrections0 are defined as peak-to-trough declines in S&P 500 between 5% and 20% of compounding. Source: Bloomberg, Guardian Capital That speaks to a need to be patient in the current market -250 As well, a side benefit to income investing is that the areas of the environment. Patience is a virtue but it can be very -500 market that typically offer larger dividend yields also happen to be difficult to sit tight against heightened uncertainty and those-750 that are more domestic in focus (Telecom, Utilities and Real market volatility. An important truism in financial markets Estate-1000 in particular) which provides an added buffer against the is that it is “time in” the market, not “timing” the market threat of a global trade war. 13-Jul-90 17-Jul-98 16-Jul-99 19-Jul-07 17-Apr-91 07-Oct-97 12-Apr-99 19-Oct-09 23-Apr-10 29-Apr-11 02-Apr-12 02-Jan-90 15-Jan-92 05-Jun-96 12-Jun-09 19-Jan-10 08-Jun-16 26-Jan-18 02-Feb-94 18-Feb-97 11-Feb-04 07-Mar-05 15-Feb-07 26-Mar-09 18-Feb-11 28-Aug-91 13-Nov-91 14-Sep-92 06-Aug-97 05-Dec-97 31-Dec-99 06-Nov-02 27-Nov-02 03-Aug-05 14-Sep-12 18-Sep-14 03-Nov-15 13-May-99 09-May-06 21-May-15 Correction Start Date that is the key to building wealth in the long-term. Corrections are defined as peak-to-trough declines in S&P 500 between 5% and 20% Source:Corrections Bloomberg, are definedGuardian Capitalas peak-to-trough declines in S&P 500 between 5% and 20% Source: Bloomberg, Guardian Capital 33 As well, a side benefit to income investing is that the areas of the market that typically offer larger dividend yields also happen to be those that are more domestic32 in focus (Telecom, Utilities and Real Estate in particular) which provides an added Economicbuffer against Outlook the | 19 threat of a global trade war.

33

As well, a side benefit to income investing is that We Were Overwhelming Underdogs the areas of the market that typically offer larger dividend yields also happen to be those that are more domestic in focus (Telecom, Utilities and Real Estate Canadian stocks have been a significant laggard in particular) which provides an added buffer against relative to their international peers for most of this the threat of a global trade war. cycle, with that underperformance being exacerbated in recent years by the weakness in commodities space,

CHARTChart 4848:: INCOMEIncome carries CARRIES a home A H OMEbias BIAS which happen to be the most heavily-weighted area of S&PS&P500 500 Sector Sector Dividend Dividend Yields Yields the benchmark S&P/TSX Composite Index. (percent(percent)) 6 As much as a hindrance on domestic equity

5 performance the natural resources sectors have been as commodities slumped (Canada has had among 4CHART 48: INCOME CARRIES A HOME BIAS S&P 500 Sector Dividend Yields the worst performing stock markets since 2014), (percent) 3 however, having fortunes tied to grouping can have 6 2 benefits when prices hit an inflection point and 5 1 move higher. 4 0 After trending sideways for much of 2016 and 2017, oil 3 Tech Energy Utilities Staples prices began to move higher in the fall of last year on Telecom S&P 500 S&P Materials Financials 2 Industrials Real Estate Real Health Care Health Discretionary hadthe among announcement the worst performing of the stockextension markets of in the since production 2014), Source: Bloomberg, Guardian Capital Source:1 Bloomberg, Guardian Capital however,curbs havingfrom OPEC fortunes & tied OPEC-adjacent to grouping can producers have benefits and when A willingness to look across borders also permits even better income prices hit an inflection point and move higher. 0 indications that inventories were starting to diminish. opportunities — not to mention the fact that the recent relative

A willingness to look across borders also permits Tech After trending sideways for much of 2016 and 2017, oil prices began Energy Utilities underperformance of internationalStaples markets despite strong earnings Telecom S&P 500 Materials to move higher in the fall of last year on the announcement of the Financials even better income opportunitiesIndustrials — not to mention The rebalancing of supply and demand fundamentals Real Estate has made for a more compelling entry point with respectto Care Health Discretionary extensionhave continued of the production through curbs the from first OPEC half& OPEC-of theadjacent year to the valuationstheSource: fact Bloomberg, or thatthat Guardian the the geographic Capital recent relative diversification underperformance from adding of producers and indications that inventories were starting to diminish. international exposure is beneficial from a risk management A willingnessinternational to look markets, across borders despite also strong permits earnings, even better has income point that US crude oil inventories have been brought standpoint as well. The rebalancing of supply and demand fundamentals have opportunitiesmade for —a morenot to mentioncompelling the fact entry that thepoint recent with relative respect continuedback in through line with the first their half five-year of the year averages to the point (though that US crudethey underperformance of international markets despite strong earnings CHARTto valuations49: GO ABROAD or that TO the SEEK geographicOPPORTUNITIES diversification, oilstill inventories remain have elevated been brought on an back absolute in line withbasis). their five-year has made for a more compelling entry point with respect to averages (though they still remain elevated on an absolute basis). valuationsMSCIfrom Country adding or Dividend that theinternational Yields geographic diversification exposure, is from beneficial adding (percent) international exposure is beneficial from a risk management CHARTChart 50:50 Back: BACK to normal...TO NORMAL… sort of SORT OF 4.5 from a risk management standpoint as well. standpoint as well. Excess US Crude Oil Inventories US Crude Oil Inventories 4.0 Excess US Crude Oil Inventories US Crude Oil Inventories (millions (millionsof barrels) of barrels) (millions (millionsof barrels) of barrels) 3.5 ChartCHART 49:49 Go: GO abroad ABROAD to seek TO opportunities SEEK OPPORTUNITIES 150 550 3.0 MSCI Country Dividend Yields MSCI Country Dividend Yields 125 2.5 (percent)(percent) 500 2.0 4.5 100

1.5 4.0 450 75 1.0 3.5

0.5 3.0 50 400

0.0 2.5 25 UK US

Italy 350

2.0 India Brazil Spain World China Korea Japan France Europe Canada 0 Australia

1.5 Germany Hong Kong Hong 1.0 300

Asia Ex. Japan -25

0.5 Emerging Markets

Source:0.0 Bloomberg, Guardian Capital -50 250 1988 1992 1996 2000 2004 2008 2012 2016 1988 1992 1996 2000 2004 2008 2012 2016 UK US

Italy Excess inventories are inventory levels relative to the five-year average for a given month India Brazil Spain World We Were Overwhelming Underdogs China Korea Japan

France Shaded regions represent periods of U.S. recession Europe Excess inventories are inventory levels relative to the five-year average for a given month Canada Australia Germany Source:Shaded Bloomberg, regions represent Guardian Capital periods of U.S. recession Canadian stocks have been Kong Hong a significant laggard relative to their Source: Bloomberg, Guardian Capital international peers for most of this cycle, with thatAsia Japan Ex. underperformance Against this, benchmark crude oil prices have moved notably higher Emerging Markets Emerging beingSource: exacerbated Bloomberg, Guardian in recent Capital years by the weakness in commodities and currently sit at three-year highs, having rallied 20% year-to-date, space,Source: which Bloomberg, happen Guardian to be Capital the most heavily-weighted area of the includingAgainst an this, increase benchmark of more than crude 10% oilin Q2. prices have moved We Were Overwhelming Underdogs benchmark S&P/TSX Composite Index. CHARTnotably51 higher: ONWARDS and & currently UPWARDS sit at three-year highs, Canadian stocks have been a significant laggard relative to their having rallied 20% year-to-date, including an increase Asinternational much as a hindrance peers for most on domestic of this cycle, equity with performance that underperformance the natural Benchmark Crude Oil Prices (ofUS dollarsmore per than barrel) 10% in Q2. resourcesbeing exacerbated sectors have in recent been as years commodities by the weakness slumped in (Canada commodities has 120 WTI space, which happen to be the most heavily-weighted area of the 110 benchmark S&P/TSX Composite Index. WCS 100 34 Brent As much as a hindrance on domestic equity performance the natural 90 resources sectors have been as commodities slumped (Canada has 80 70 Economic Outlook | 20 60 34 50

40

30

20

10 2013 2014 2015 2016 2017 2018 Source: Bloomberg, Guardian Capital

35 had among the worst performing stock markets in since 2014), however, having fortunes tied to grouping can have benefits when prices hit an inflection point and move higher. After trending sideways for much of 2016 and 2017, oil prices began to move higher in the fall of last year on the announcement of the extension of the production curbs from OPEC & OPEC-adjacent producers and indications that inventories were starting to diminish. The rebalancing of supply and demand fundamentals have continued through the first half of the year to the point that US crude oil inventories have been brought back in line with their five-year averages (though they still remain elevated on an absolute basis). CHART 50: BACK TO NORMAL… SORT OF

Excess US Crude Oil Inventories US Crude Oil Inventories (millions of barrels) (millions of barrels) 150 550

125 500

100

450 75

50 400

25 350

0

300 -25

-50 250 1988 1992 1996 2000 2004 2008 2012 2016 1988 1992 1996 2000 2004 2008 2012 2016

Excess inventories are inventory levels relative to the five-year average for a given month Shaded regions represent periods of U.S. recession Source: Bloomberg, Guardian Capital Against this, benchmark crude oil prices have moved notably higher and currently sit at three-year highs, having rallied 20% year-to-date, including an increase of more than 10% in Q2. CHARTChart 51: 51 Onward: ONWARDS & upwards & UPWARDS In response to the improvement in oil market BenchmarkBenchmark Crude Crude Oil Oil Prices Prices fundamentals, the crude oil forward curve shifted into ((USUS dollars dollars per per barrel barrel)) backwardation in the Fall for the first time since 2014 120 WTI (meaning that futures prices are below those in the 110 WCS 100 spot market). Brent 90 80 CHARTChart 53: 53 :Forward FORWARD & back(wardation) & BACK(WARDATION) WTI Crude Oil Price Forward Curve 70 WTI Crude Oil Price Forward Curve (US dollars per barrel) 60 (U.S. dollars per barrel) 75 50 Current

40 Three Months Ago 70 30 Six Months Ago

20 One Year Ago 65 10 2013 2014 2015 2016 2017 2018

60 Source:Source: Bloomberg, Bloomberg, Guardian Guardian Capital Capital

55 One of the more interesting developments in the final 35 three months of last year and the early days of this 50 one was that the strengthening in crude prices was not 45 Spot Dec-18 Dec-19 Dec-20 Dec-21 Dec-22 Dec-23 Dec-24 Dec-25 being echoed by an improvement in Energy stocks — the S&P/TSX Energy sector was down 10% over the Source:Source: Bloomberg, Bloomberg, Guardian Guardian Capital Capital Onesix of months the more endedinteresting March, developments a sharp in contrast the final threeto the months While this term structure is typically bullish for energy prices in the near-term, it is less so for the longer-term outlook since it suggests of laststeep year 25% and oilthe earlyprice days benchmarks of this one wasover that that the period. strengthening While this term structure is typically bullish for energy in crude prices was not being echoed by an improvement in Energy thatprices market in is thecomfortable near-term, with theit is ability less soof current for the production longer-term capacity to meet demand growth, limiting the need for new stocks — the S&P/TSX Energy sector was down 10% over the six outlook since it suggests that market is comfortable monthWhat ended resulted March, was a sharp the contrastbiggest to disparity the steep between25% oil price investment in longer-term projects. benchmarkscommodity over andthat period.equity prices in four years which acted with the ability of current production capacity to meet Since the market is forward looking, reduced expectations for as a drag on the broad Canadian stock market given demand growth, limiting the need for new investment What resulted was the biggest disparity between commodity and company expansion mean slower growth prospects for the sector, equityits 20%prices weight in four years in the which sector. acted That as a gap,drag onhowever, the broad has whilein lower longer-term terms prices projects. mean that projected future output is going to Canadianstarted stock to narrow market givenover itthes 20% last weight three in months. the sector. That gap, generate relatively smaller cash flows — and valuations for stocks however, has started to narrow over the last three months. are Sincea function the ofmarket expected is forwardfuture cash looking, flows and reduced growth. Chart 52: Closing the gap expectations for company expansion mean slower CHART 52: CLOSING THE GAP Declining term prices for oil even as spot prices were rising was a TSX Energy Sector & the WTI Crude Oil Price primarygrowth cause prospects for the historically for the sector,tight correlation while lower between terms TSX Energy Sector & the WTI Crude Oil Price ((index)index) (US (US dollars dollars per barrelbarrel)) benchmarkprices mean prices thatand Energy projected stocks future breaking output down. is going to 3600 110 TSX Energy (LHS) In recentgenerate months relatively signs of smallerrebound cashin economic flows growth— and have valuations firmed 3350 100 expectations for oil demand, while the picture on the supply-side has WTI (RHS) for stocks are a function of expected future cash flows 90 become more obscured against the US Administration’s sanctions on 3100 and growth. 80 Iran oil exports (the White House is aiming to block all outgoing oil 2850 shipments by November) and the continued deterioration of 70 Declining term prices for oil even as spot prices were 2600 Venezuelan production in amidst that country’s economic crisis. 60 rising was a primary cause for the historically tight 2350 The result has been that term prices have been keeping pace with 50 correlation between benchmark prices and Energy movements in spot prices, driving the ancillary rally in Energy stocks. 2100 40 stocks breaking down.

1850 30 The announced increase in production by OPEC (an additional one million barrels per day starting in July) is not expected to be enough 1600 20 In recent months signs of rebound in economic 2014 2015 2016 2017 2018 to keep the market balanced — the International Energy Agency growth have firmed expectations for oil demand, Source: Bloomberg, Guardian Capital estimates lost output from Iran and Venezuela being around 1½ Source: Bloomberg, Guardian Capital millionwhile barrels the perpicture day. on the supply-side has become more One of the main reasons for the change is the shift in the term obscured against the US Administration’s sanctions on structureOne of of oilthe prices main in reasonsthe second for quarter. the change is the shift in This suggests that there is more potential scope for a rise across the oil priceIran curveoil exports which would (the helpWhite to seeHouse a further is aiming narrowing to blockin the gap In responsethe term to structure the improvement of oil pricesin oil market in the fundamentals, second quarter. the crude oil forward curve shifted into backwardation in the Fall for the betweenall outgoing crude prices oil andshipments Energy stock by November) performance, and something the that first time since 2014 (meaning that futures prices are below those in will continuedbenefit the Canadian deterioration market ofin theVenezuelan coming months. production in the spot market). amidst that country’s economic crisis. 37

Economic Outlook | 21

36

The result has been that term prices have been keeping be moderate and their terminal levels will be pace with movements in spot prices, driving the considerably lower than previous cycles. ancillary rally in Energy stocks. Rising market yields will put downward pressure The announced increase in production by OPEC (an on bond performance and speak to a continued additional one million barrels per day starting in preference to be tactically underweight fixed income. July) is not expected to be enough to keep the market That said, the heightened degree of uncertainty in the balanced — the International Energy Agency estimates marketplace will likely mean that safe haven flows will lost output from Iran and Venezuela being around 1½ somewhat limit the downside for the asset class over million barrels per day. the coming months.

This suggests that there is more potential scope for a The combination of continued economic growth rise across the oil price curve which would help to see and still low interest rates should be supportive a further narrowing in the gap between crude prices of corporate earnings remaining robust, which in and Energy stock performance, something that will turn should underpin equity market performance. benefit the Canadian market in the coming months. Risks lingering over the forecast horizon are likely to continue to weigh on sentiment, keeping equity risk premiums elevated and suggest limited scope for If the World Were Perfect, It Wouldn’t Be stocks to get an added tailwind from broad-based multiple expansion. While remaining bullish on stock markets, there is an increased preference to take a The bottom line is that while this economic expansion more defensive tilt to allocations, with added focus on and concurrent equity bull market are at an advanced income strategies. age, neither is truly on life support yet and there is no immediately compelling reason to expect that their Balance Fund Summary Views health will deteriorate in the near-term. EQUITIES + FIXED INCOME – Still solid growth momentum and indications of firming inflationary pressures mean that central banks Canadian Equity + Government Bonds – are justified in continuing the process of getting US Equity + Investment-Grade Credit + monetary policy back to a more normal setting after years of extreme accommodation. EAFE Equity + High-Yield Credit – Emerging Markets Equity Neutral Against this, interest rates should continue their gradual ascent, though the pace of increase will

Economic Outlook | 22 Market Returns at June 30, 2018 All Returns in Cdn $

CANADIAN EQUITIES US EQUITIES INDEX RETURNS (%) 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs INDEX RETURNS (%) 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs S&P / TSX Composite 1.7 6.8 1.9 10.4 9.2 4.2 S&P 500 1.9 5.4 7.8 15.8 18.6 13.0 S&P / TSX 60 1.9 7.1 2.1 11.5 10.0 4.1 Dow Jones 0.8 3.2 4.2 17.7 18.1 13.6 S&P / TSX Completion 1.0 5.8 1.3 7.2 7.0 4.8 NASDAQ 2.3 8.3 14.2 23.8 22.5 15.5 S&P / TSX Small Cap -0.3 6.6 -1.7 5.4 6.5 2.3 Russell 1000 2.0 5.5 8.0 16.0 18.6 13.0 BMO Nesbitt Burns SC (wtd.) -0.3 5.9 -2.3 5.1 6.9 4.3 Russell 2000 2.1 9.8 13.1 19.0 17.6 13.5 S&P/TSX Composite High Dividend Index 2.2 4.7 -2.0 4.0 6.3 N/A Russell 3000 2.0 5.8 8.4 16.2 18.5 13.1 S&P / TSX Composite Dividend 1.7 6.3 1.3 9.8 9.9 N/A Russell 1000 Growth 2.3 7.7 12.6 24.0 21.7 14.7 Russell 1000 Value 1.6 3.1 3.2 8.1 15.4 11.3 S&P/TSX SECTOR RETURNS (%) S&P 500 SECTOR RETURNS (%) Energy 5.4 15.8 4.8 12.5 1.8 -1.9 Energy 2.4 15.9 12.1 22.8 6.9 3.6 Materials 1.8 7.9 3.3 12.0 4.4 -3.8 Materials 2.0 4.8 1.7 11.5 16.0 8.5 Industrials -0.4 9.4 6.6 14.2 15.3 11.9 Industrials -1.7 -1.1 0.0 6.9 17.8 12.6 Consumer Discretionary 0.7 6.6 3.5 13.3 15.9 12.4 Consumer Discretionary 5.4 10.5 17.1 25.4 21.3 19.4 Consumer Staples 3.2 3.5 -2.6 0.6 15.2 13.6 Consumer Staples 6.3 0.6 -4.0 -2.5 13.2 12.8 Health Care 6.0 14.3 -1.1 30.1 -16.9 5.6 Health Care 3.4 5.3 6.9 8.7 19.0 15.7 Financials 0.1 2.1 -1.5 8.9 12.9 9.7 Financials -0.3 -1.1 0.7 11.3 18.3 9.8 Information Technology 0.5 10.9 22.2 30.5 21.8 -1.5 Information Technology 1.3 9.4 16.4 33.2 27.5 17.6 Telecommunication Services 1.7 1.9 -5.0 1.4 11.1 9.9 Telecommunication Services 4.1 1.2 -3.8 2.9 8.5 8.9 Utilities 2.5 -0.4 -6.2 -5.7 6.5 4.9 Utilities 4.5 6.0 5.3 4.9 15.7 9.4 Real Estate 1.7 4.7 5.3 10.5 12.1 9.9 Real Estate 6.2 8.4 5.8 6.6 14.0 10.6

INTERNATIONAL EQUITIES INTERNATIONAL EQUITIES INDEX RETURNS (%) 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs MSCI EAFE SECTOR RETURNS (%) 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs MSCI World Index (Net, C$) 1.3 3.6 5.5 12.5 15.0 9.0 Energy 2.5 13.2 14.4 37.5 10.3 2.5 MSCI EAFE Index (Net, C$) 0.1 0.6 2.1 8.2 11.3 5.5 Materials -1.3 2.6 1.7 18.1 12.1 2.1 MSCI ACWI (C$) 0.8 2.4 4.6 12.1 14.4 8.5 Industrials -0.8 -0.4 1.2 8.6 13.2 6.8 MSCI France 0.3 1.4 4.9 11.2 13.2 5.0 Consumer Discretionary -1.8 -0.8 2.9 12.3 11.8 9.0 MSCI Germany -1.1 -2.2 -2.8 3.8 11.3 5.2 Consumer Staples 2.3 2.3 2.3 4.3 11.5 10.3 MSCI Japan -1.2 -1.0 2.9 11.9 12.3 6.2 Health Care 2.1 3.8 6.1 2.9 11.0 9.4 MSCI UK 0.3 4.9 3.9 11.4 9.7 5.3 Financials -0.5 -4.5 -3.7 0.7 9.6 3.1 IFC Investable (EM) -3.1 -5.8 -1.6 10.1 11.0 5.8 Information Technology -0.5 1.7 6.0 16.4 17.6 6.9 MSCI EAFE Growth 0.2 2.2 4.4 11.2 12.8 6.5 Telecommunication Services 0.1 -3.0 -4.0 -5.1 9.2 5.5 MSCI EAFE Value 0.1 -0.5 0.6 6.2 10.8 5.4 Utilities 2.5 2.4 6.9 6.5 9.4 0.5 Real Estate -0.9 1.5 3.1 9.1 2.0 1.0 Sources: TD Newcrest, PC Bond, Bloomberg, Thomson Reuters

Economic Outlook | 23 Market Returns at June 30, 2018 All Returns in Cdn $

CANADIAN FIXED INCOME COMMODITY INDEX RETURNS (%) 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs FTSE/TMX 91 Day TBill 0.1 0.3 0.6 1.0 0.7 0.9 WTI Cushing Spot Px 12.1 16.3 28.9 63.1 -0.8 -3.7 FTSE/TMX Canada Short Term Bond Index 0.2 0.3 0.5 0.4 1.7 2.9 Bloomberg European Dated Brent BFOE Price 3.3 15.8 23.5 65.0 -0.8 -3.1 FTSE/TMX Canada Mid Term Bond Index 0.7 0.2 0.3 -0.1 3.5 5.0 Bloomberg Syncrude Sweet 13.4 10.3 31.7 56.0 -2.2 -4.4 FTSE/TMX Canada Long Term Bond Index 1.0 0.9 0.9 1.8 5.9 6.7 Blend fob Edmonton Spot Px FTSE/TMX Canada Universe Bond Index 0.6 0.5 0.6 0.8 3.5 4.5 S&P GSCI Nat Gas Index Spot 0.4 9.0 4.0 -2.5 0.5 -11.9 FTSE/TMX High Yield Overall 0.2 1.3 2.8 7.7 6.2 7.4 S&P GSCI Copper Index Spot -1.9 0.8 -3.8 13.2 4.2 0.0 FTSE/TMX Real Return Bond 1.1 2.0 3.4 4.0 4.0 4.3 S&P GSCI Gold Index Spot -2.6 -3.7 0.6 2.2 5.1 5.7 SECTOR RETURNS (%) FTSE/TMX Federal Domestic Bond 0.5 0.3 0.7 0.0 2.3 3.3 CURRENCY FTSE/TMX Provincial Domestic Bond 0.8 0.8 0.5 1.3 4.5 5.3 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs FTSE/TMX Corporate Domestic Bond 0.4 0.4 0.7 1.2 3.9 5.5 Canadian $/US $ (% chg) 1.3 1.9 5.0 1.2 4.6 2.6

Canadian $/Yen (% chg) 0.5 -1.4 7.5 2.9 2.4 2.2 GLOBAL FIXED INCOME INDEX RETURNS (%) 1 Mo 3 Mos YTD 1 Yr 5 Yrs 10 Yrs Canadian $/GBP (% chg) 0.6 -4.1 3.2 3.5 1.8 -1.5 Citigroup World Gov't Bond 1.0 -1.5 4.0 3.2 5.7 4.7 Canadian $/Euro (% chg) 1.4 -3.2 2.6 4.2 2.5 -0.4

GOVERNMENT OF CANADA YIELD CURVE US TREASURY YIELD CURVE

Sources: TD Newcrest, PC Bond, Bloomberg, Thomson Reuters

Economic Outlook | 24 This document includes information concerning financial markets that was developed at a particular point in time. This information is subject to change at any time, without notice, and without update. This commentary may also include forward looking statements concerning anticipated results, circumstances, and expectations regarding future events. Forward-looking statements require assumptions to be made and are, therefore, subject to inherent risks and uncertainties. There is significant risk that predictions and other forward looking statements will not prove to be accurate. Investing involves risk. Equity markets are volatile and willincrease and decrease in response to economic, political, regulatory and other developments. The risks and potential rewards are usually greater for small companies and companies located in emerging markets. Bond markets and fixed-income securities are sensitive tointerest rate movements. Inflation, credit and default risks are all associated with fixed income securities. Diversificationmay not protect against market risk and loss of principal may result. Index returns are for information purposes only and do not represent actual strategy or fund performance. Index performance returns do not reflect the impact of management fees, transaction costs or expenses. This presentation is for educational purposes only and does not constitute investment, legal, accounting, tax advice or a recommendation to buy, sell or hold a security. It is only intended for the audience to whom it has been distributed and may not be reproduced or redistributed without the consent of Guardian Capital LP. Certain information contained in this document has been obtained from external parties which we believe to be reliable, however we cannot guarantee its accuracy. Guardian Capital LP manages portfolios for defined benefit and defined contribution pension plans, insurance companies, foundations, endowments and third-party mutual funds. Guardian Capital LP is wholly owned subsidiary of Guardian Capital Group Limited, a publicly traded firm listed on the Toronto Stock Exchange. For further information on Guardian Capital LP, please visit www.guardiancapitallp.com

Economic Outlook | 25