Breakfast With Dave 2011-08-08 u

David A. Rosenberg August 8, 2011 Chief Economist & Strategist Economic Commenta ry [email protected] Please see important disclosures at the end of this document. Gluskin Sheff + Associates Inc. is one of Canada’s pre-eminent wealth management firms. Founded in 1984 and focused primarily on high net worth 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, visit www.gluskinsheff.com MARKET MUSINGS & DATA DECIPHERING Breakfast with Dave WHILE YOU WERE SLEEPING As we had suggested in recent weeks, a U.S. downgrade was going to likely be more negative for the equity market than Treasuries, and that is exactly how the week is starting off. The reason is that history shows that downgrades light a fire under policymakers and the belt-tightening budget cuts ensue, taking a big chunk out of demand growth and hence profits. It is not just the United States — the problem of excessive debt is global, from China to Brazil to many parts of Europe. And let’s not forget the Canadian consumer. If we are seeing any big rally today, it is in Italian and Spanish bonds following the ECB announcement that it will go into the secondary market and buy the debt of these countries en masse (en masse indeed because the estimates we have seen suggest that roughly 800 billion euros of Italian and Spanish bonds have to be absorbed to alleviate upward pressure on their bond yields — that is about double the entire 440 billion euro capacity for the European Financial Stability Facility (EFSF) and would imply a radical expansion of the ECB balance sheet, which is actually barely supported by 80 billion euros of Greek, Irish and Portuguese bonds since the spring of 2010). Today’s FT suggests that German Chancellor Angela Merkel is supportive of this expanded bond buying program by the ECB. We also had an emergency G7 conference call and press statement that policymakers will do all they can to mitigate gyrations in the marketplace. So for investors, our fate is very much tied up in the prospect that government bureaucrats and politicians manage to get ahead of this latest version of the global debt crisis. We had a nice two-year rally in risk assets and something close to an economic recovery, but as we had warned, it was built on sticks and straw, not bricks. This isn’t much different than the financial engineering in the 2002-07 cycle that gave off the appearance of prosperity. Gold is also rallying hard as it becomes oh-so-painfully evident, now with the ECB joining the fray, that debt monetization by the monetary authorities globally is going to be part and parcel of the solution to this leg of the crisis. Expect gold to go much, much higher as well — just to get back to prior highs in inflation- adjusted terms would mean a test of $2,300; and normalizing by world money supply points to $3,000 an ounce. IN THIS ISSUE While you were sleeping: As we had suggested in recent weeks, a U.S. downgrade was going to likely be more negative for the equity market than Treasuries and that is exactly how the week is starting off; gold is rallying hard Are we there yet? The market will find a bottom at some point, therefore it is worthwhile to identify and assess what could be trigger points. In my view, there are five basic factors Confidence surveys ratifies recession call The needle and the damage done Implications of the debt downgrade Who’s AAA? Last word on employment data Comment on profits Is 35 the new 50? What’s the Fed to do or say this week? Credit jumps — not good news at all

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Breakfast With Dave 2011-08-08 u