breakfast with dave 121409

8/14/2019 Breakfast With Dave 121409

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David A. Rosenberg December 14, 2009Chief Economist & Strategist Economic [email protected]+ 1 416 681 8919

MARKET MUSINGS & DATA DECIPHERING

Breakfast with DaveWHILE YOU WERE SLEEPING

IN THIS ISSUE

While you were sleeping economic data overseasleft much to be desired

Frugality them far fromover, in fact, it has justbegun

The next wave ofinstability sovereigndebt

The blame game inPresident Obamas latestweekly address, heblames the banks forluring borrowers into themyriad of products during

the credit bubble

Why we see the Bank ofCanada not raising ratesfor a very long time

A second look at U.S.retail sales overall, the

level of retail sales is stillon a downward path

U.S. consumer sentimentimproves, but still very low

No capitulation! For everydollar the public invests inequities, it puts in twodollars into bonds

Major shift in attitudestowards housing too

The taxman! The U.S.government is becoming

increasingly creative in itsquest to raise money tofund its fiscalinterventions

Utility in utilities

Could Q4 U.S. real GDPgrowth come in at 5%?

Equities for the most part are bid, and so are government bond markets. The

U.S. dollar is a tad off this morning, and commodities, for the most part, are

firmer. Helping on the risk front was the news that Abu Dhabi will step in to save

Dubai Worlds debt problems.

However, the economic data from overseas left much to be desired. While the

Japanese Tankan business sentiment index improved in Q4 (up nine points, to

-24), it remains deeply in negative terrain and came in well below expected.

Japanese businesses said they still intend on slashing capex in the next threemonths. (Not only that, but consumer confidence dropped in November for the

first time in 11 months.) Japanese businesses also said they intend to slash

capital spending. This is still happening after the countrys credit bank asset

bubble burst nearly two decades ago.

Eurozone October industrial production fell 0.6% MoM, and in the U.K. we saw

home prices decline 2.2% sequentially in December (Rightmove survey).

This is a busy week ahead in the U.S. the FOMC meeting on Tuesday-

Wednesday (some other central banks meet as well, including the BoJ, and BoC

Governor speaks Wednesday afternoon at 1 pm) and tons of data 10 in total

south of the border.

FRUGALITY THEME FAR FROM OVER

The household sector is, in fact, telling you that. Floyd Norris ran with a

fascinating article in the Saturday NYT titledAmericans Owe Less. Thats Not All

Good. In fact, the deleveraging process is highly deflationary. The article cites a

survey conduced in November showing that households intend to boost their

savings rate to 15% (from 5% now) before the recovery begins. From our

estimation, such a boost in the savings rate would be equivalent to a two

percentage point drain in baseline GDP growth over the past five years. So, this

notion that the Fed is going to be pulling some sort of exit strategy actually

seems like a bit of a joke.

The low hanging fruit in coming months, quarters, and years will be buying the

front end of the yield curve and those Eurodollar strips or Fed futures contractsduring those periods (ie, when a piece of above-expected data comes out or

when a Fed bank president of little or no consequence comes out with hawkish

remarks) when the markets price in Fed (or Bank of Canada) tightening. The

history of post-bubble credit collapses is that when the central bank takes rates

to zero, they stay there for a very looooong period of time.

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


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December 14, 2009 BREAKFAST WITH DAVE

Also check out Shoppers Check Out Private Store Brands on page A10 of the

Investors Business Daily and Tis The Season to be Frugal on page A11. Also

have a look at the very sad front page article in todays WSJ (For Americas

Santas, Its Hard to Be Jolly With the Tales Theyre Hearing: In Hard Times, Kids

Ask for Bare Essentials; Shoes, Eyeglasses and a Job for Dad). All signs of these

point to deflationary times and when deflation hits the golden arches (except in

your waistline), you know that this is a secular, and not merely a cyclical shift in

behaviour.

We are seeing the early

stages of the debtdeleveraging process in

the U.S.

Indeed, McDonalds just said that its going to start offering breakfast for a

buck on its national menu starting in January. Even more on the deflation

theme can be found on page B1 of todays NYT As Prices Fall, Blu-Ray Players

are Invited Home.

HOW FAR INTO THE DELEVERAGING PROCESS ARE WE?

Early innings. From the peak, the level of nonfederal debt has deflated by $260

billion. Some of this has been either paid down, written off, modified, defaulted

on or some combination of the four. No matter.

As Chart 1 illustrates, and employing Bob Farrells first Market Rule on the time-

honored trend towards mean reversion, this develeraging process that began two

years ago is really in its infancy stage. The current level of U.S. outstanding

nonfederal debt is $27 trillion, which is astounding both in absolute terms and

even more so relative to nonfederal GDP a 206% ratio. It is down fractionally

from the 208% peak, but here is the rub. If mean-reversion means that we get

back to some norm of the 1990s, then we are talking about the need to extinguish

$8 trillion of nonfederal debt. The only question is how this happens, not if. If

were talking about mean reverting to the very stable trend of the 1960s and1970s, then the credit contraction is very likely to exceed $11 trillion.

Total U.S. nonfederal debt

is down $260bln from the

peak, but, as a share ofGDP, it is still a

phenomenal 206%, whichis nowhere near the more

normal level of 140% we

saw in the 1990s

Either way, this process of debt elimination is ongoing and will likely last for years.

Along the way we will see the federal government test the limits of its balance

sheet to smooth the transition and it will be long-term Treasury yields that will

determine when enough is enough in terms of Washingtons fiscal largesse. Just

as the Canadian bond market delivered the same message to the Chrtien/Martin

government in the mid-1990s that ushered in a multi-year forced era of budgetary

restraint and anemic domestic demand. Until the U.S. gets its balance sheet

under control, and monetization of the debt is likely one key strategy, the trend in

the gold price will remain in one direction and that is up.

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CHART 1: DEBT DELEVERAGING HAS BEGAN

United States: Total Nonfederal Debt to Nonfederal GDP Ratio(percent)

60

80

100

120

140

160

180

200

220

52 55 58 61 64 67 70 73 76 79 82 85 88 91 94 97 00 03 06 09

Current = 206%

Level back in the late

'60s/Early 80s 120%

Level back in the early

1990s 142%

Source: Haver Analytics, Gluskin Sheff

THE NEXT WAVE OF INSTABILITY SOVEREIGN DEBT

The reason why gold is back to a four-week low is because the bull trade

became very overcrowded and the yellow metal was ripe for correction after a

parabolic move, but what a buying opportunity this is going to prove to be. Of

course, the U.S. dollar has recovered from the abyss, but only for now. While the

greenback has re-emerged as a safety-valve, what makes gold special is that it

is not responsive to global economic shifts or is it any governments liability.

The reason why gold isback to a four-week low is

because the bull tradebecame very overcrowded

and the yellow metal was

ripe for correction after aparabolic move, but what a

buying opportunity this is

going to prove to be

The situation in Europe is troubling fiscal concerns are mounting, not just in

Greece and Ireland (where deficit ratios are north of 9%) but also the U.K., Spain

and Portugal (though Ireland did come out with a very austere budget last week).

Greek two-year bond yields soared over 100bps in the wake of last weeks

downgrading to BBB+.

Banking sector risks are also higher in Europe than in the U.S.A., and this also

may explain the recovery in the U.S. dollar and selloff in the Euro. But lets not

forget that we finished last week with three very poor U.S. Treasury auctions and

credit default swaps on Uncle Sams debt are also beginning to rise discernibly.

Bond yields have broken out technically and it will be interesting to see how this

combination of higher market rates and a countertrend rally in the U.S. dollar

filters though into a more jittery equity market, notwithstanding the prospects

that we will soon see consensus upgrades to Q4 GDP forecasts.

While the major averages closed higher on Friday, volume was down across the

board (sliding 10% on the Nasdaq and 4% on the NYSE). Moreover, the Nasdaq

yet again failed at the 2,200 threshold a key technical non-confirmation over

this bear market rally.

Nobody put it better than the S&Ps Howard Silverblatt did in an interview with

the FT see page 18 of the weekend edition:

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The recovery is going to take years, and there is still huge downside

risk. The range of outcomes is the biggest Ive ever seen. There are

huge risks even in the dividend business, and thats not something

the business is used to.

When things go awry, it is

very easy to point thefinger at somebody else...

this is essentially what

Washington has done,blaming the big bad banks

as opposed to the

borrowers

Want to add something else to add to the worry list? How about the re-

emergence of inflation in China and what this means for: (i) the stimulus

program remember, China was the first out of the gates, and (ii) FX prospects

will this speed up Yuan appreciation and U.S. dollar depreciation? Have a look

at Inflation Complicates China Policyon page B10 of the weekend WSJ and

Chinese Stimulus Measures Spark Inflation Risk as Production Rises on page 2

of the weekend FT (the inflation rate turned positive in November +0.6% YoY

for the first time since the turn of the year).

THE BLAME GAME

Below we highlight President Obamas weekly address, in which he blames the

big bad banks for luring borrowers into the myriad of products during the credit

bubble, a bubble that in our view was promulgated by the nations policymakers.

When things go awry, however, it is very easy for those in Washington to point

the fingers at somebody else. What did Congress, the SEC, the Fed, and the

White House think in that 2002-07 bubble period except that excess credit was

creating jobs; in turn, those jobs were creating prosperity and that prosperity led

to votes. Now the borrowers, who signed contracts, and as adults should also

be held accountable, are being treated as victims by politicians and the media.

Over the past two years, more than seven million Americans have

lost their jobs, and factories and businesses across our countryhave been shuttered. In one way or another, weve all been touched

by the worst economic downturn since the Great Depression.

The difficult steps weve taken since January have helped to break

our fall, and begin to get us back on our feet. Our economy is

growing again. The flood of job loss we saw at the beginning of this

year slowed to a relative trickle last month. These are good signs for

the future, but little comfort to all of our neighbors who remain out

of a job. And my solemn commitment is to work every day, in every

way I can, to push this recovery forward and build a new foundation

for our lasting growth and prosperity.

Thats why I announced some additional steps this week to spurprivate sector hiring. Well give an added boost to small businesses

across our nation through additional tax cuts and access to lending

they desperately need to grow. Well rebuild more of our vital

infrastructure and promote advanced manufacturing in clean

energy to put Americans to work doing the work we need done.

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And I have called for the extension of unemployment insurance and

health benefits to help those who have lost their jobs weather these

storms until we reach that brighter day.

But even as we dig our way out of this deep hole, its important that

we address the irresponsibility and recklessness that got us into this

mess in the first place. Some of it was the result of an era of easy

credit, when millions of Americans borrowed beyond their means,

bought homes they couldnt afford, and assumed that housing

prices would always rise and the day of reckoning would never

come.

Butmuch of it was due to the irresponsibility of large financial

institutions on Wall Street that gambled on risky loans and

complex financial products, seeking short-term profits and big

bonuses with little regard for long-term consequences[emphasis

added]. It was, as some have put it, risk management without the

management. And their actions, in the absence of strong oversight,

intensified the cycle of bubble-and-bust and led to a financial crisis

that threatened to bring down the entire economy.

It was a disaster that could have been avoided if wed had clearer

rules of the road for Wall Street and actually enforced them.

We cant change that history. But we have an absolute

responsibility to learn from it, and take steps to prevent a repeat of

the crisis from which we are still recovering.

Thats why Ive proposed a series of financial reforms that would

target the abuses [emphasis added] we have seen and leave us

less exposed to the kind of breakdown we just experienced.

They would bring new transparency and accountability to the

financial markets, so that the kind of risky dealings that sparked

the crisis [emphasis added] would be fully disclosed and properly

regulated.

They would give us the tools to ensure that the failure of one large

bank or financial institution wont spread like a virus through the

entire financial system. Because we should never again find

ourselves in the position in which our only choices are bailing out

banks or letting our economy collapse.

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And they would consolidate the consumer protection functions

currently spread across half a dozen agencies and vest them in a

new Consumer Financial Protection Agency. This agency would

have the authority to put an end to misleading and dishonest

practices of banks and institutions that market financial products

like credit and debit cards; mortgage, auto and payday loans

[emphasis added].

These are commonsense reforms that respond to the obvious

problems exposed by the financial crisis. But, as weve learned so

many times before, common sense doesnt always prevail in

Washington. Just last week, Republican leaders in the House

summoned more than 100 key lobbyists for the financial industry to

a pep rally, and urged them to redouble their efforts to block

meaningful financial reform. Not that they needed the

encouragement. These industry lobbyists have already spent more

than $300 million on lobbying the debate this year.

The special interests and their agents in Congress claim that

reforms like the Consumer Financial Protection Agency will stifle

consumer choice and that updated rules and oversight will frustrate

innovation in the financial markets. But Americans dont choose to

be victimized by mysterious fees, changing terms, and pages and

pages of fine print. And while innovation should be encouraged,

risky schemes that threaten our entire economy should not

[emphasis added].

We cant afford to let the same phony arguments and bad habits of

Washington kill financial reform and leave American consumers and

our economy vulnerable to another meltdown.

Yesterday, the House passed comprehensive reform legislation that

incorporates some of the essential changes we need, and the

Senate Banking Committee is working on its own package of

reforms. I urge both houses to act as quickly as possible to pass

real reform that restores free and fair markets in which

recklessness and greed are thwarted[emphasis added]; and hard

work, responsibility, and competition are rewarded reform that

works for businesses, investors, and consumers alike. Thats how

well keep our economy and our institutions strong. Thats how

well restore a sense of responsibility and accountability to bothWall Street and Washington [emphasis added]. And thats how

well safeguard everything the American people are working so hard

to build a broad-based recovery; lasting prosperity; and a renewed

American Dream. Thank you.

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We now have U.S.

borrowers as victims

As a long-time reader of our research and valued friend told us over the

weekend, he [Obama] finally threw the banks under the bus. While not

suggesting the adjectives are undeserved, I am afraid that the U.S. President

has invited all consumer borrowers, creditworthy or not, to abdicate their

financial responsibility. We now have borrowers as victims. Aint it the truth.

And the consequences will be profound. Our friend reminded us that in regard

to our theme of frugality, the current reality is that frugal represents just the

first wave in a fundamental change in behaviour towards complete self-interest

and risks morphing into something a little more troubling, such as abdication of

individual responsibility.

Meanwhile, the adjective used to describe the banks and their actions, were, in

a word, scary (and if you want more on scary, read the WSJ assessment on

Obamas appearance on the television show 60 Minutes yesterday talk about

being completely out of control and inciting divisiveness see Obamas Slams

Fat Cat Bankers). This backlash against the banks, whose behaviour was

condoned by the government when the credit and housing bubble was in full

swing, is surreal.

As we said, the media has no problem in running articles that complain about

the lack of credit being extended by the evil banks, even though it was excess

debt taken on by a profligate consumer that got us into this mess to begin with.

The front page of the Sunday NYT runs with Rates Are Low, But Banks Balk at

Refinancing. Basically, 60% of mortgage borrowers carry interest rates that are

above the current market cost, but refinancings are still down 57% from year-

ago levels because the banks have battened down the hatches on their lending

guidelines; The plight of homeowners has become a volatile political issue,

according to the NYT. Well, thats probably not the case for the 30 millionAmericans who own a home with no debt or the countless others who have a

mortgage but also know how to live within their means. The article says the

banks that once handed out home loans freely are imposing such restrictions

that many homeowners who might want to refinance are effectively locked out.

So, because the banks lent freely in the recent past, and this excess was at the

root of todays problems, then the banks should go back to those days of

reckless lending behaviour.

The media has no problem

in running articles that

complain about the lack ofcredit being extended by

the evil banks

Come again? Nowhere in the article is there any reason provided as to why the

banks are stricter maybe it has something to do with the amount of equity

the borrower has in his/her house, or what his/her credit-rating has been cut to,

among others. The way the media and politicians are portraying the situation is

that it is every citizens god-given right to have credit. This is amazing. Wearent exactly recommending a return to Calvin or Kant puritanical behaviour,

but what we are seeing unfold right now is very disturbing.

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We continue to stress that everyone read that front page article from Thursdays

WSJ, which was absolutely disgusting titledAmerican Dream 2: Default on

Mortgage, Then Rent. The word and Spend should have been in the title too

consumers are no longer paying their mortgage and using the funds for other

things like trips to amusement parks. This is now seen as being a totally cool

and appropriate thing to do stop paying your mortgage and go have fun.

In its latest Financial

Review, it does seem likethe Bank of Canada sees

risks dissipating, but still

remains asymmetric

Its the lender who will end up being screwed, but nobody cares about that

faceless bank, right? The tone of the article, and this is the Wall Street Journal

were talking about, sent chills down my spine no concern at all about the

growing ability and willingness of consumers to walk away from their financial

obligations. And certainly no remorse by those quoted in the article who have

defaulted and left somebody else holding the bag. It may very well be this tacit

approval of such irresponsible behaviour that will end up crippling banks ability

and willingness to extend credit in the future, because we have news for the

President: being public companies, the lenders fiduciary responsibility first and

foremost is to their shareholders, not deadbeat debtors.

WHY THE BANK OF CANADA IS NOT RAISING RATES FOR A VERY LONG TIME

This is an excerpt from the BoCs financial review that was published late last

week. Risks have dissipated but remain asymmetric, nonetheless:

Financial institutions need to carefully consider the aggregate risk to

their entire portfolio of household exposures when evaluating even an

insured mortgage, since a household defaulting on an insured

mortgage would likely be unable to meet its other debt obligations.

This implies that the overall quality of a banks loan portfolio would

deteriorate, even if no loss is incurred on the insured mortgage itself. Inaddition, claims to recover losses on insured mortgages are not

themselves without cost.

The potential for system-wide stress arising from substantial credit

losses on Canadian household loan portfolios remains a relatively low-

probability risk at the moment, particularly given the near-term

prospects for growth. However, the likelihood of this risk materializing

in the medium term is judged to have risen as a result of increased

indebtedness.

While this suggests that positive momentum in the global economy is

stronger than envisioned at the time of the last FSR, economic growth

is nonetheless likely to remain subdued for some time as necessarystructural adjustments take place.

Deleveraging of the balance sheets of both financial institutions and

households, for example, remains incomplete.

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The 12-month trend on the

level of U.S. retail salesremains on a downward

path continue to focus

on the forest, not the trees

Although the uncertainty surrounding the global economic outlook has

diminished somewhat, it nevertheless remains elevated. As well, there

is a risk that self-sustaining growth in private demand, a prerequisite

for a solid recovery, may take longer than expected to materialize,

given that the recovery currently relies on an unprecedented level of

policy stimulus. Reflecting the high level of uncertainty worldwide, there

is a wide divergence in forecasts for global economic growth.

With the slow pace of the recovery, the global economy is vulnerable to

additional negative shocks. While the probability of a renewed,

synchronous decline in world output is fairly low, even a slower-than-

expected recovery may have important implications for the

international financial system. If the global recovery does not live up to

market expectations, a market correction could ensue. A modest

market correction can normally be considered a useful purging of

excess risk taking and a re-evaluation of fundamental factors. In the

current environment, however, an economic downturn or a significant

market correction arising from renewed pessimism could, in a worst-

case scenario, reactivate the adverse feedback loop between the real

economy and financial markets (by which declines in overall economic

growth and in markets reinforce each other).

SECOND LOOK AT THE U.S. RETAIL SALES

We looked at the non-seasonally adjusted (NSA) retail sales data and we are

scratching our heads. The data were flat sequentially stagnant in November

a month that is up 80% of the time, and normally by between 1% and 2%. And

so a flat NSA number this year yields a 1.3% MoM increase? Hard to fathom,

but it shows how the seasonal factor can play a role in these data releases.Dont be surprised if we see a downward revision in the retail sales data and a

disappointing December (where the seasonal adjustment factor looks a tad

more challenging).

Chart 2 below shows the monthly noise in the retail sales data and the

smoothed trend line. This is called volatility around a downward path. Focus on

the forest, not the trees.

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CHART 2: VOLATILITY AROUND A DOWNWARD PATH

United States: Retail Sales($ billion)

270

290

310

330

350

370

390

01 02 03 04 05 06 07 08 09

(12-month

moving average)

(level)


SENTIMENT BETTER BUT STILL LOW

The University of Michigan consumer sentiment report for December came in

better than expected, at 73.4 from 67.4 in November but it is basically no higher

than it was in September. This is far below the 90 level that is typical of economic

expansion. In fact, it is still below the average of 76 for recessions in the past.

Every region (except for the West), age and income category posted an increase in

consumer sentiment.

Interestingly, homebuying plans didnt budge, despite all the stimulus. As afurther exclamation mark on this point, the data point dealing with confidence

over government policy dropped in December, to a 10-month low! Meanwhile,

the 5-10 year median inflation expectation number fell to 2.6% from 3.0% in

November, a nine-month low but this did little to help the bond market out at

least for now. The Fed must be comforted with that figure, though it hasnt been

lower than that since September 2002 and the Fed didnt start to tighten for

nearly two years after that. Keep in mind that back then, oil prices were

$30/bbl, not $70/bbl; and wheat was $5 per bushel, not $7 so this inflation

expectation number is a really big deal as it probably means that people have

deflation expectations for the core CPI!

NO CAPITULATION!

From the comprehensive Q3 Fed Flow-of-Funds report, we were able to see thatinflows into mutual funds, closed-end funds and ETFs in terms of equity

investments came to $62 billion during the quarter, compared with $130 billion

for fixed-income inflows. So for every dollar that the general public put into

equities, they invested two dollars into bonds. Considering that households still

have 30% of their assets in real estate, 25% in equities and 7% in fixed-income

strategies, we would have to believe that there is an asset allocation shift going on.

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Basically, the household sector cant believe how fortunate it is to have had the

opportunity so soon to rebalance the portfolio with the equity component at a 60%

premium to the March lows.

A secular shift in attitudes

towards the equity marketis underway for every

dollar that the generalpublic put into equities,

they invested two dollars

into bonds

Of course, the challenge for 2010 is the earnings landscape will the near-$80 in

operating EPS priced in be achieved? To get that sort of growth, call it 60% over

2009, would imply at least a 10-15% growth rate in nominal GDP, which would be

unprecedented.

The other challenge is who the marginal buyer of equities is going to be driving the

next leg of the rally. After all:

The hedge funds, having had their margin lines re-established, have alreadymade up for the 2008 disaster.

Mutual fund PMs have already taken their cash ratios down from 6% to below4% where they were in late 2007.

The buying power related to dramatic short-covering now seems to havesubsided. Remember, this has really been a do-nothing S&P 500 for the past

two months.

The mutual fund data actually show that retail investors have been net sellers of

equities (at least in mutual funds) over the past two months. There is no doubt

that there is always the risk of the general public saying enough is enough and

jump in with both feet into the equity market, but then again, after a record bear

market rally that has taken the S&P 500 up 65% over an eight month span, it is

legitimate to ask why this capitulation has not already occurred.

Our contention is that a secular shift in attitudes towards the equity market isunderway. First, the household sector realizes that it got burned badly by two

bubbles being promulgated by Wall Street seven-years apart dotcoms turned

into a tech wreck and then a housing bubble morphed into a credit crunch.

Second, we have to take the demographics into account because most of the

wealth is concentrated on baby boomer balance sheets and the median age of this

cohort, for the first time coming out of recession, is 52 going on 53. They are

heading into a part of their life where income strategies and capital preservation

themes dominate coming out of the early 1990s recession, this 78 million pig in

a python that has driven everything in the past six decades from the Space Age to

Woodstock to Disco to Gordon Grekko Greed to the Internet Age and now to

Consumer Frugality, was 35 going on 36, and in the early 1980s, 25 going on 26.

Back then, this critical mass had time to wait to play the Stocks For the Long Rungame. No longer.

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MAJOR SHIFT IN ATTITUDES TOWARDS HOUSING TOO

As Chart 3 illustrates, homeowners equity as a percent of household real estate

was revised in Q1 to a new record and shocking low of 33.5%. It has since

rebounded in the subsequent two quarters to a merely hideously pathetic 38%. As

a societal matter, this calls into question the appeal of homeownership

notwithstanding the various (mostly tax) advantages of owning (e.g. having

mortgage interest deductions) over renting not to mention all of the efforts by

the White House and Congress to incentivize people to buy more homes!

As last weeks front-page WSJ article posited, are we destined to become a nation

of renters, particularly in light of the pain thats been inflicted by the bursting of the

housing bubble? What are the longer-term implications of such a shift is, in fact,

taking place? Our demographics aging boomer population selling to a smaller

group of move up buyers are going to further slow the housing markets

recovery, but thats a story for another day. But was we saw in Fridays University

of Michigan consumer sentiment data, a mere 2% of the population see a house

as a good investment today and that is after an epic 35% slide in prices.

CHART 3: HOMEOWNERS EQUITY AS A SHARE

OF HOUSEHOLD REAL ESTATE

United States: Fed Flow of Funds: Households(percent)

050505050505

90

80

70

60

50

40

30


TAXMAN!

If you drive a car, Ill tax the street,

If you try to sit, Ill tax your seat,

If you get too cold, Ill tax the heat,If you take a walk, Ill tax your feet.

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The U.S. government is becoming increasingly creative in its quest to raise money

to fund all of its fiscal interventions a new Botax is coming (taxing elective

surgeries). There is also a move afoot in Congress to tax financial transactions

(under the guise of speculation that evil activity). A repeal of the estate tax is

off the table. A 5.4% tax on millionaire couples is coming if Nancy Pelosi has her

way; ditto for medicare payroll taxes.

The U.K.s move to tax bank bonuses seems to be gaining some appeal elsewhere

as well (such as France). And you can forget about the punitive Alternative

Minimum Tax ever being touched as well talk about a backdoor revenue grab.

And now the NYT (Fridays edition) suggests that a European-style national

consumption (sales) tax will ultimately be on its way.

In any event, it looks like the top marginal tax rate in many U.S. states are going to

breach 55% pre-Reagan levels which inevitably will require pre-Reagan P/E

multiples.

UTILITY IN UTILITIES

Several weeks ago, we highlighted that utilities may be a sector worth looking at in

the looming environment of where boring is sexy. Financials have stopped leading

this bear market rally months ago peaking back on October 14 and down 9%

since then. Tech stocks are now having problems breaking out. But the utilities

have, with very little fanfare, just broken out to new post-October 2008 highs:

1. Since the S&P 500 first crossed the 1,100 mark back on November 16,the utilities sector has advanced 6.6%.

2. During the rally from the March lows, the utilities group hasunderperformed the broad market by 2,200 basis points so there is still

room for outperformance.

3. If the market pulls back, this is the one sector that will tend to outperformthe most since it is a defensive and low beta sector (it, along withtelecom services, has among the lowest correlations with the S&P 500).

4. The charts/technicals look very compelling right now.5. As Bill Gross, has said, if youre looking for income, this sector provides a

4.1% dividend yield no maturity across the Treasury curve to the 10-year segment is as high as this; only the telecom sector provides a betteryield in the equity market (financials offer just 1.5%); and the overallmarket is just 1.9% so utilities give investors a huge 210 basis pointpremium.

6. Barrons recently ran a cover story on preferred shares yield focusedcover story: once investors realize they can get 4-5% safe yield a yield

well above norms versus Treasurys they will be more attracted to thissector.

7. Utilities are starting to get some pricing power in the CPI, the group hasseen prices rise at over a 7% annual rate in the past three months, wellabove the 3.6% rate for the overall economy. Not since August 2008 has

the sector seen price performance like these both on a relative andabsolute basis.

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8. It pays to note that the utility sector is NOT homogenous and that thepricing power in both the CPI and PPI are running at much faster rates in

the electrical power segment than is the case with gas utilities and thisdichotomy has also been evident in relative equity price performance

between these two segments of the same sector. Investors have been

discriminating in favor of electricity producers because that is where both

the pricing and volumes have been rising materially. In terms of volume

demand from the consumer sector, over the three months to October,

real spending on electric power surged at a 40% annual rate, ten times

the growth rate in demand for gas utilities.

COULD Q4 U.S. REAL GDP GROWTH COME IN AT 5%?

The answer is yes it can, but not before Q3 gets revised down again to around

2.5%. But make no mistake, the combination of government support, net exports,

the consumer (moderately) and now inventories, we could well see something

close to 5% for current quarter growth. We kid you not.

The latest bump-up to Street forecasts came from Fridays data on business

inventories for October. Led by autos and food, business inventories nudge up

0.2% MoM to end a 13-string of monthly declines. This could be a very powerful

force in Q4 remember, it was just the reduced pace of destocking that

accounted for nearly one-third of the headline growth we saw in Q3 (that

contribution is going to be much higher this time around).

The inventory-to-sales ratio dipped from 1.31 in September to 1.30 in October

the lowest level since August 2008 with business sales improving across the

board and by a respectable 1.1%.

Yes, yes, 5% growth would be a big deal if we end up seeing it, but still totallyconsistent with an ongoing deleveraging depression. Go back to the 1930s we

had 10.8% real GDP growth in 1934, for crying out loud, and the Great Depression

still didnt end for another eight years.


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Gluskin Sheffat a Glance

Gluskin Sheff+ Associates Inc. is one of Canadas pre-eminent wealth management firms.Founded in 1984 and focused primarily on high net worth private clients, we are dedicated to theprudent stewardship of our clients wealth through the delivery of strong, risk-adjustedinvestment returns together with the highest level of personalized client service.OVERVIEW

As of September30, 2009, the Firmmanaged assets of$5.0 billion.

Gluskin Sheff became a publicly tradedcorporation on the Toronto StockExchange (symbol: GS) in May2006 andremains 65% owned by its senior

management and employees. We havepublic company accountability andgovernance with a private companycommitment to innovation and service.

Our investment interests are directlyaligned with those of our clients, asGluskin Sheffs management andemployees are collectively the largestclient of the Firms investment portfolios.

We offer a diverse platform of investmentstrategies (Canadian and U.S. equities,Alternative and Fixed Income) andinvestment styles (Value, Growth and

Income).1

The minimum investment required toestablish a client relationship with theFirm is $3 million for Canadian investorsand $5 million for U.S. & Internationalinvestors.

PERFORMANCE

$1 million invested in our Canadian ValuePortfolio in 1991 (its inception date)

would have grown to $15.5 million2

onSeptember 30, 2009 versus $9.7millionfor the S&P/TSX Total Return Index

over the same period.$1 million usd invested in our U.S.Equity Portfolio in 1986 (its inceptiondate) would have grown to $11.2 millionusd

2on September 30, 2009 versus $8.7

million usd for the S&P500TotalReturn Index over the same period.

INVESTMENT STRATEGY & TEAM

We have strong and stable portfoliomanagement, research and client serviceteams. Aside from recent additions, ourPortfolio Managers have been with theFirm for a minimum of ten years and wehave attracted best in class talent at all

levels. Our performance results are thoseof the team in place.

Our investmentinterests are directlyaligned with those ofour clients, as Gluskin

Sheffs management andemployees arecollectively the largestclient of the Firmsinvestment portfolios.

$1 million invested in our

Canadian Value Portfolio

in 1991 (its inception

date) would have grown to

$15.5 million2 on

September 30, 2009

versus $9.7 million for the

S&P/TSX Total Return

Index over the same

period.

We have a strong history of insightfulbottom-up security selection based onfundamental analysis. For long equities, welook for companies with a history of long-term growth and stability, a proven trackrecord, shareholder-minded managementand a share price below our estimate ofintrinsic value. We look for the opposite inequities that we sell short. For corporatebonds, we look for issuers with a margin ofsafety for the payment of interest andprincipal, and yields which are attractive

relative to the assessed credit risks involved.

We assemble concentrated portfolios our top ten holdings typicallyrepresent between 25% to 45% of aportfolio. In this way, clients benefitfrom the ideas in which we have thehighest conviction.

Our success has often been linked to ourlong history of investing in under-followed and under-appreciated smalland mid cap companies both in Canadaand the U.S.

PORTFOLIO CONSTRUCTION

For further information,

please contact

[email protected]

In terms of asset mix and portfolioconstruction, we offer a unique marriagebetween our bottom-up security-specificfundamental analysis and our top-downmacroeconomic view, with the notedaddition of David Rosenberg as ChiefEconomist & Strategist.

Page 15 of 16

Notes:Unless otherwise noted, all values are in Canadian dollars.1. Not all investment strategies are available to non-Canadian investors. Please contact Gluskin Sheff for information specific to your situation.2. Returns are based on the composite of segregated Value and U.S. Equity portfolios, as applicable, and are presented net of fees and expenses.


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IMPORTANT DISCLOSURES

Copyright 2009 Gluskin Sheff + Associates Inc. (Gluskin Sheff). All rights

reserved. This report is prepared for the use of Gluskin Sheff clients andsubscribers to this report and may not be redistributed, retransmitted ordisclosed, in whole or in part, or in any form or manner, without the expresswritten consent of Gluskin Sheff. Gluskin Sheff reports are distributedsimultaneously to internal and client websites and other portals by GluskinSheff and are not publicly available materials. Any unauthorized use ordisclosure is prohibited.

Gluskin Sheff may own, buy, or sell, on behalf of its clients, securities ofissuers that may be discussed in or impacted by this report. As a result,readers should be aware that Gluskin Sheff may have a conflict of interest

that could affect the objectivity of this report. This report should not beregarded by recipients as a substitute for the exercise of their own judgmentand readers are encouraged to seek independent, third-party research onany companies covered in or impacted by this report.

Individuals identified as economists do not function as research analystsunder U.S. law and reports prepared by them are not research reports underapplicable U.S. rules and regulations. Macroeconomic analysis isconsidered investment research for purposes of distribution in the U.K.

under the rules of the Financial Services Authority.

Neither the information nor any opinion expressed constitutes an offer or aninvitation to make an offer, to buy or sell any securities or other financialinstrument or any derivative related to such securities or instruments (e.g.,options, futures, warrants, and contracts for differences). This report is notintended to provide personal investment advice and it does not take intoaccount the specific investment objectives, financial situation and theparticular needs of any specific person. Investors should seek financialadvice regarding the appropriateness of investing in financial instrumentsand implementing investment strategies discussed or recommended in thisreport and should understand that statements regarding future prospectsmay not be realized. Any decision to purchase or subscribe for securities inany offering must be based solely on existing public information on suchsecurity or the information in the prospectus or other offering documentissued in connection with such offering, and not on this report.

Securities and other financial instruments discussed in this report, orrecommended by Gluskin Sheff, are not insured by the Federal DepositInsurance Corporation and are not deposits or other obligations of anyinsured depository institution. Investments in general and, derivatives, inparticular, involve numerous risks, including, among others, market risk,counterparty default risk and liquidity risk. No security, financial instrumentor derivative is suitable for all investors. In some cases, securities andother financial instruments may be difficult to value or sell and reliableinformation about the value or r isks related to the security or financialinstrument may be difficult to obtain. Investors should note that incomefrom such securities and other financial instruments, if any, may fluctuateand that price or value of such securities and instruments may rise or fall

and, in some cases, investors may lose their entire principal investment.

Past performance is not necessarily a guide to future performance. Levelsand basis for taxation may change.

Foreign currency rates of exchange may adversely affect the value, price orincome of any security or financial instrument mentioned in this report.Investors in such securities and instruments effectively assume currencyrisk.

Materials prepared by Gluskin Sheff research personnel are based on publicinformation. Facts and views presented in this material have not beenreviewed by, and may not reflect information known to, professionals inother business areas of Gluskin Sheff. To the extent this report discussesany legal proceeding or issues, it has not been prepared as nor is itintended to express any legal conclusion, opinion or advice. Investorsshould consult their own legal advisers as to issues of law relating to thesubject matter of this report. Gluskin Sheff research personnels knowledgeof legal proceedings in which any Gluskin Sheff entity and/or its directors,officers and employees may be plaintiffs, defendants, co-defendants or co-plaintiffs with or involving companies mentioned in this report is based onpublic information. Facts and views presented in this material that relate to

any such proceedings have not been reviewed by, discussed with, and maynot reflect information known to, professionals in other business areas ofGluskin Sheff in connection with the legal proceedings or matters relevant

to such proceedings.

Any information relating to the tax status of financial instruments discussedherein is not intended to provide tax advice or to be used by anyone toprovide tax advice. Investors are urged to seek tax advice based on theirparticular circumstances from an independent tax professional.

The information herein (other than disclosure information relating to GluskinSheff and its affiliates) was obtained from various sources and GluskinSheff does not guarantee its accuracy. This report may contain links to

third-party websites. Gluskin Sheff is not responsible for the content of anythird-party website or any linked content contained in a third-party website.Content contained on such third-party websites is not part of this report andis not incorporated by reference into this report. The inclusion of a link in

this report does not imply any endorsement by or any affiliation with GluskinSheff.

All opinions, projections and estimates constitute the judgment of theauthor as of the date of the report and are subject to change without notice.Prices also are subject to change without notice. Gluskin Sheff is under noobligation to update this report and readers should therefore assume thatGluskin Sheff will not update any fact, circumstance or opinion contained in

this report.

Neither Gluskin Sheff nor any director, officer or employee of Gluskin Sheffaccepts any liability whatsoever for any direct, indirect or consequentialdamages or losses arising from any use of this report or its contents.

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