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By :
Pierre Lapointe Strategy: Three possible outcomes Weeks after Katrina and
days after Rita hit the U.S. Gulf Coast, opinions diverge as to
their short- and longer-term social and economic consequences.
Depending on the reaction of U.S. consumers and housing prices to
the ongoing removal of monetary policy accommodation, several
scenarios could play out in coming months. In the current consensus view, the
impact on the economy will be V-shaped, like that of past
natural disasters - a brief blow followed quickly by a rebound
led by infrastructure and residential rebuilding. In this
optimistic scenario (to which we attach a probability of 25%),
the resource-heavy Canadian stock market comes out ahead. The second scenario (25% probability) is a
hard landing. Katrina and Rita turn out to be a tipping point for
a new deterioration of the record U.S. twin deficit (almost 10% of
GDP) and a decline of housing prices. The most likely outcome, in our view, is a
U-shaped aftermath. In this scenario, the damage to infrastructure
from storms and flooding and to consumer purchasing power from
gasoline prices is so great that the U.S. economy takes longer to
rebound than in the past. Since we think this scenario is the most
likely, our recommended asset mix remains cautious. We project
S&P/TSX earnings of 620 in 2005 and 600 in 2006 and on that
basis are maintaining our 12-month index target of 9600. In the
U.S., our S&P 500 target of 1250 is based on earnings of 73 in
2005 and 78 in 2006. Our sector rotation was already defensive
before Katrina and Rita hit the Gulf Coast. With their economic and
financial impacts still not fully known at this writing, we are very
comfortable with our defensive stance. This month we are upgrading
gold mines from neutral to overweight in view of a likely worsening
of the U.S. twin deficits and a likely trade-weighted decline of the
U.S. dollar. Investors should not feel guilty about taking profits
on energy stocks and energy trusts. A probable weakening of gasoline
demand in the U.S. (due to surging prices) and of oil demand in
emerging Asia (due to phasing out of oil subsidies) is likely to
have analysts revising down their 2006 oil price assumptions of $52.
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