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David A. Rosenberg August 18, 2010Chief Economist & Strategist Economic [email protected]+ 1 416 681 8919

MARKET MUSINGS & DATA DECIPHERING

Breakfast with DaveANOTHER DAY OF DISMAL DATA

In terms of economic data out of the U.S., yesterday was definitely one for the

growth bears, as Claudia (filling in admirably for the data writeups during my

jaunt to Whistler) explains below. U.S. single-family housing starts were down

three months in a row to their lowest level since May 2009 and permits got

clobbered for the fourth straight month, indicating more weakness in starts

ahead (as if the National Association of Home Builders housing market index

hadnt already signalled that). And, the 33% bulge in multiple starts plays right

into our deflation view as the supply response to apartment demand helps keep

rents under wraps. The median core PPI (which excludes food and energy) wasbarely up in July and the core intermediate and crude measures deflated,

portending industrial price weakness ahead. Yes, industrial production bounced

1% MoM but netting out the downward revisions and the seasonal factor effects

as they pertain to the automotive sector (no idling this summer), the underlying

increase was closer to 0.2% and we expect a significant pullback for August.

The weakness in the incoming economic data in the U.S. will soon show through

in reduced corporate guidance and more downward earnings revisions (think of

Bernanke as CEO for USA Inc. and consider that he just cut the forecast for the

second time in six weeks). These pose near-term cyclical risks to the equity

market outlook.

Based on our GDP views and taking into account cycle-high margins, it seems tous that S&P 500 operating EPS will fall short of consensus forecasts for Q3

$17 as opposed to $20. As for Q4, our projections for costs, volumes and

pricing leave us at $18 compared with the $22 the market is de facto pricing in.

So, earnings, which recently trended up towards $80, are settling into a $70-75

range for the coming year. Slap a 12x multiple on that earnings profile and do the

math of what a really an attractively priced market would look like.

NO REAL EVIDENCE OF HOUSING BOTTOM

Yesterdays U.S. housing starts report was disappointing, especially in the wake

of the soft NAHB report on Monday. Total starts rose 1.7% MoM in July, slightly

missing the 2.0% increase expected by the consensus. That was probably the

best news of the report.

Downward revisions to the June data were harsh with the -5.0% initial estimate

being taken down to -8.7%. Another way of putting it, if it werent for the

downward revisions, the headline would have been negative.

Please see important disclosures at the end of this document.

Gluskin Sheff + Associates Inc. is one of Canadas pre-eminent wealth management firms. Founded in 1984 and focused primarily on high networth private clients, we are dedicated to meeting the needs of our clients by delivering strong, risk-adjusted returns together with the highest

level of personalized client service. For more information or to subscribe to Gluskin Sheff economic reports,

visitwww.gluskinsheff.com

IN THIS ISSUE

Yesterday was another dayof dismal economic data in

the U.S.

Housing starts in the U.S.managed to rise in July butdetails of the report werevery weak

U.S. industrial productionwas buoyed by autoproduction (and theaccompanying seasonalfactors)

We could see moreweakness in industrialprices in the U.S. in themonths ahead

Canadian manufacturingsector humming andpoints to decent GDPgrowth in July


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August 18, 2010 BREAKFAST WITH DAVE

The increase in total starts was driven by a huge jump in the very volatile multi-

family component up 33% after a 33% decline in June. A better gauge for

underlying demand is single-family housing starts, which dropped 4.2%, the third

monthly decline in a row, falling to the lowest since May 2009. The YoY rate fell to

-14%, the second month in negative territory and the weakest print since August

2009 it really doesnt seem like things are getting any better. To put it into

perspective, single-family starts has been essentially range-bound since the end of

2008, languishing near record lows even after all the government stimulus.

Single-family starts been

essentially range-boundsince the end of 2008,

languishing near record lows

even after all the

government stimulus

Forward-looking components of the report were weak as well, with building

permits falling 3.1%, the third decline in four months. Note that total permits go

into the index of leading economic indicators and our tally so far suggests a flat

July monthly print for LEI, at best.

Again, single-family permits were soft, down 1.2%, the fourth consecutive

monthly decline pointing to more weakness in starts in the coming months.

Multi-family permits fell 8% suggesting that the 33% increase in multi-starts will

be partially reversed in coming months.

INDUSTRIAL PRODUCTION: DEAD CAT BOUNCE?

A seemingly positive economic report was the July industrial production report,

which blew away consensus expectations, coming in at 1.0% MoM versus 0.5%

expected. Production in the manufacturing sector rose 1.1% on a spectacular

9.9% jump in motor vehicle production.

Heres why we called it a seemingly positive report. Remember that July has

been a strange month for seasonal factors, especially related to the auto

shutdowns (GM kept most of its plants open this year and the governmentsseasonal-adjustment models dont account for this). We saw wild swings in the

weekly initial jobless claims partly due to seasonal-factor adjustments (claims

dropped by 10% in the first two weeks only to increase by 10% in the third week

of July, to give you a sense of the volatility).

We think something similar was going on with the seasonally-adjusted motor

vehicle production numbers in other words, the seasonal factors may have

artificially boosted the data. In fact, when we adjust the seasonal factors, total

IP would have been 0.4%, according to our calculations, not the 1.0% reported.

We could see a significant pullback in August as part of the July increase is

reversed. On top of this, the back revisions to the actual data were negative

the +0.1% gain in June was turned into a -0.1%. So the underlying increase over

June and July would be in the 0.2% range, hardly inspiring.

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Industrial production

bounced in July but part of

this could have been due to

seasonal adjustment

problems


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U.S. PRODUCER PRICE INDEX: DETAILS STILL DEFLATIONARY

July PPI rose 0.2% MoM after three straight months of declines. The closely-

watched core measure (which strips out food and energy) rose by a higher than

expected 0.3%, after very subdued read in the prior five months. A jump in

prices of light trucks (up 1.5% MoM) was partly to blame for this. In fact, most

categories showed subdued increases or outright declines by our calculations,

the median increase was only 0.1%.

We could see moreweakness in industrial

prices in the months ahead

Pipeline inflation measures were quite deflationary, pointing to more weakness

in industrial prices in the months ahead. Core intermediate prices fell by 0.4%,

mirroring the decline in June. And further down the pipeline, core crude prices

fell by 1.4%, the third monthly decline and is running at -27% annualized on a

three month basis, the weakest since January 2009.

HOT SUMMER FOR CANADIAN MANUFACTURING SHIPMENTS

Some good news out of the Canadian manufacturing sector, with June

manufacturing shipments surprising economists, including ourselves.

Shipments rose 0.1% versus -0.5% expected very weak export data had

(falsely) pointed to a decline.

Its the inflation-adjusted data that matters for GDP and on this measure, real

shipments were even stronger, up 0.7%. June GDP could see a decent print of

0.2-0.3% MoM by our estimation, especially since we also know that auto sales

were up by more than 2% on the month. However, the quarter started off on

soft footing, so while it looks like second-quarter GDP could come in better than

our 2.5% estimate, we doubt it will meet the Bank of Canadas 3.0% forecast.

Other details of the report were also positive, in particular new orders, whichrose by 2.2% (real basis) suggesting another increase in shipments in July.

Inventories also rose by 0.6%, which left the inventory-shipments ratio near two-

year lows.

Canadian July GDP could

rise by 0.2-0.3% but overall

Q2 GDP growth could still

fall short of the Bank of

Canadas expectations


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