Rebound

July 2015

Presented by:Eric Lascelles, Chief Economist

2

Report card

Negative Developments: Grexit risks still loom

Higher yields highlight “taper tantrum” risks

China slows / EM growth challenges persist

Positive Developments: Tailwind of low oil, low rates, low FX diminishes somewhat

Evidence of reviving economic growth in U.S.

Japanese reforms finally underway

TPP trade deal prospects improve

Inflation bottoming off of very low levels

Canadian employment surprisingly robust

Interesting Developments: China’s growth/equity disconnect

Fed tightening still on track for autumn

Productivity problem debate

U.K. wage growth accelerates

3

Equities undisturbed by material downside risks

600

800

1000

1200

1400

1600

1800

2000

2200

1999 2001 2003 2005 2007 2009 2011 2013 2015

S&

P 5

00 In

dex

U.S. equities into 7th year of bull market

Source: WSJ, Haver Analytics, RBC GAM

Near all-time high despite Greek worries

4

Global growth bottoming?

47

48

49

50

51

52

53

54

55

Jan-12 Nov-12 Sep-13 Jul-14 May-15

Man

ufa

ctu

ring

PM

ISome weakness in manufacturing sector globally

JP Morgan Global PMI Developed markets PMIEmerging markets PMI

Note: PMI refers to Purchasing Managers Index for manufacturing sector, a measure for economic activity. Source: Haver Analytics, RBC GAM

Contraction

Expansion

5

U.S. data disappointments starting to fade

-120

-80

-40

0

40

80

120

Oct-10 Jun-11 Feb-12 Oct-12 Jun-13 Feb-14 Oct-14 Jun-15

Eco

nom

ic S

urp

rise

Inde

x (1

std

dev

=1

00)

U.S. hit by negative surprises

Source: Citigroup Economic Surprise Index, RBC GAM

Positive Surprises

Negative Surprises

6

U.S. housing market picks up

-20

-15

-10

-5

0

5

10

15

20

2001 2003 2005 2007 2009 2011 2013 2015

Hom

e pr

ice

ind

ex (

YoY

% c

han

ge)

U.S. home prices rising at faster clip

S&P/Case-Shiller HPI CoreLogic National HPISource: CoreLogic, S&P, Haver Analytics, RBC GAM

7

Is oil shock’s back-loaded benefit finally materializing?

Lower oil sector profits

Diminished oil sector cap-ex

Lower profits in related industries

More consumer spending

More (non-oil) business investment

Immediate Medium termNear termTIME

Source: Bank of Canada, IMF, RBC GAM

8

U.S. productivity growth deceleration mostly just normalization

0.8

1.2

1.6

2.0

2.4

2.8

3.2

1980 1985 1990 1995 2000 2005 2010 2015

U.S

. bus

ines

s-se

ctor

rea

l out

put p

er h

our

(10

-yea

r %

cha

nge

annu

aliz

ed)

U.S. productivity reverts to more normal growth rate

Note: Real output per hour of all persons of business sector.Source: BLS, Haver Analytics, RBC GAM

Unusual productivity

spike

Reversionto more normal growth

9

Bond yields rise on inflation / Fed / valuations

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

Apr-14 Jun-14 Aug-14 Oct-14 Dec-14 Feb-15 Apr-15 Jun-15

10-y

r G

erm

an g

over

nmen

t bon

d y

ield

(%

)German yields took off from rock bottom

Bond selloff

Source: Reuters, Haver Analytics, RBC GAM

10

Cautious rate hikes are coming

0

1

2

3

4

5

6

7

2000 2002 2004 2006 2008 2010 2012 2014 2016

U.S

. Fed

fund

s ta

rget

rat

e (

%)

Fed anticipates first rate hike in 2015

Fed forecast

Note: Fed fund target rates at year end. Fed forecast from projections released on 6/17/2015. Source: Federal Reserve Board, RBC GAM

11

Japan reforms

Source: RBC GAM

▪ Efforts underway to reduce two-tier nature of labour market

▪ Underutilized pools of potential workers being tapped

Governance ▪ Tokyo Stock Exchange mandates independent directors on boards

Trade ▪ Trans-Pacific Partnership implementation now likely

Labour

12

Evaluating debt hot spots

Near-term risk Medium-term risk Long-term risk(0-2 years) (3-10 years) (11+ years)

Developed-world public debt Normal Elevated High High

Greek public debt High High Elevated Low

Japanese public debt Normal High High Medium

Emerging-market external debt Elevated Normal Normal High

Corporate debt Elevated Elevated Normal Medium

Chinese credit High High Elevated High

Oil-oriented debt Elevated Normal Normal Low

Housing exuberance High Elevated Normal Low

Source: RBC GAM

Global significance

13

China’s perplexing performance

0

1000

2000

3000

4000

5000

6000

7000

0

2

4

6

8

10

12

14

16

18

20

2000 2005 2010 2015

Sha

ngha

i Sto

ck E

xcha

ng

e C

om

po

site

In

dex

(De

c 19

, 199

0 =

10

0)

Chi

na's

re

al G

DP

gro

wth

(Qo

Q %

an

nual

ize

d)Chinese stocks surged on reforms and stimulus

Source: CNBS, Bloomberg, Haver Analytics, RBC GAM

GDP growth(LHS)

Shanghai Stock Exchange Composite Index (RHS)

14

Canadian employment surprisingly robust

-5

0

5

10

15

20

25

30

35

40

2011 2012 2013 2014 2015

Can

adi

an

em

plo

ymen

t(6

mm

a o

f Mo

M %

ch

ange

)Canada's curious employment strength

Note: 6-month moving average (6mma) of month-over-month % change of Canadian employment. Source: Statistics Canada, Haver Analytics, RBC GAM

Normal hiring

Surprising resilience despite oil

shock

15

Greek deposit outflows could lead to capital controls

-22

-18

-14

-10

-6

-2

2

6

10

14

18

2005 2007 2009 2011 2013 2015

Gre

ek

ban

k d

epos

its (

YoY

% c

han

ge)

Greek banks bleeding deposits

Note: Bank deposits of households and nonfinancial corporations.Source: ECB, Haver Analytics, RBC GAM

16

Greek debt composition good news / bad news

IMFCentralbanks

EFSFEU

bilateralloans

Marketdebt

Other

Very little Greek debt is privately held

Note: Share of total outstanding Greek debt (%) held by various stakeholders.Source: Financial Times Jan 2015, RBC GAM

17%

17

Greek contagion risks

Channel Impact Rationale

Economic Very small ▪ Greece is just 2% of Eurozone GDP

Banking Small ▪ Most foreign banks have drastically cut their exposure to Greece

Private investors

Small▪ Private investors now hold less than 20% of Greek sovereign bond▪ Those that cannot afford Greek risks have long since fled

Official lenders

Medium▪ Official lenders now hold the bulk of Greek debt▪ A default or Grexit would impose significant though manageable losses on other European sovereigns

Confidence Medium

▪ It is difficult to gauge the effect of an uncoordinated Greek default or Grexit on market confidence▪ Markets have so far taken a casual attitude to the risk, but there remains the possibility of a more negative response should Grexit actually transpire

Short-term precedent

Medium▪ Greek default or Grexit would raise the risk of other highly indebted countries being pressured by markets to do the same▪ Fortunately, evidence so far suggests this contagion effect is limited

Long-term precedent

Medium▪ A Greek Eurozone exit would leave lingering questions about the long-term viability of the Eurozone, particularly in the event of future crises

Source: RBC GAM

18

Can the Eurozone continue to function over the long run?

Source: RBC GAM

Eurozone U.S.Language/culture Different languages and cultures Fewer geographic variations, but significant cultural ones

Labour mobility Imperfect given geographic variations Good labour mobility, but impeded by two-income families

Economic similarities Eurozone economies are quite similar U.S. states are quite varied

Central bank / currency Yes Yes, though central bank formed quite late

Legislative Yes, on certain matters Yes, on certain matters

Fiscal affairs Only basic fiscal rules with little EU spending Substantial, but still significant share left in state hands

Fiscal transfers Yes, but quite limited Yes, but minimal over first century-plus of existence

Bank regulation Yes Yes

Speed bumps Sovereign debt crisis Civil War; a history of separatist movements

Separatist movements Perpetual conflict between state and federal rights

Prognosis Workable union Functioning union

19

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