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Give the loonie some love

Paul Sullivan


There's a lot of useless hand-wringing going on about the loonie. At least that's how it sounds to me. Is it too strong? Has it peaked? What will become of Canadian exports? And then the converse: Will it dip below parity again with the U.S. greenback? Is it a fundamentally weak currency? What to do? What to do?

My advice? Don't worry, be happy, and continue to invest in Canadian commodity equities, especially those concerning goods that interest China and India, in that order.

I don't mean this to sound flippant, but I hear so much about the collapse of the U.S. economy and how it will drag us down, how, according to the over-excitable Jim Flaherty, Minister of Going Red in the Face, Canada is bearing too much of the decline in the value of the U.S. greenback, that it makes me laugh.

Where were those people when the Canadian dollar was worth 62 cents? In other words, when all of this nation's goods and services were worth less than two-thirds against the world's standard currency. And when the loonie creeps up to $1.10, you'd think they were going to have a massive collective heart attack.

I would say that any investor who bet exclusively on the U.S. economy as Washington spent $1.6-trillion (U.S.) (not a misprint) on the war in Iraq may have some cause to worry, but the market for Canadian commodities continues strong and will remain strong, even if they cost a little more.

Evidence? Let's go to Nick Majendie and Michael Rudd at Cannacord Adams, who have undergone a fascinating transformation over the past couple of months. Moving "almost 180 degrees from a very defensive portfolio structure to being almost fully invested…Our shift from defence to offence was the result of our realization that liquidity would likely trump poor U.S. economic fundamentals." They cite a recent report by the McKinsey Global Institute that petrodollar investors, Asian central banks and hedge fund and private equity groups had $8.4-trillion in assets at the end of 2006, three times their holdings in 2000, 5 per cent of the world's assets, and those assets were likely to grow to $20.7 in five years. Yowzah.

Majendie and Rudd argue that if central banks are indeed embarked on a significant easing program over the next year, "the combined liquidity from all these sources could well drive equity markets higher than we could imagine."

And here's their bottom line: "We suggest that, as long as the emerging economies in general and China and India in particular continue to grow strongly, base metal and oil price and even gold prices will not fall meaningfully and mean that the long-term price projections of most analysts for these commodities are too conservative…"

The market's dependence on the U.S. absorbing the lion's share of these commodities has changed significant since the downturn in the 1990 economy. In 1990, the U.S. accounted for 25 per cent of the world's copper consumption; in 2006, according to Cannacord Adams, that percentage dropped to 20 per cent, and Asia's share went up from 33 per cent in 1990 to 49 per cent in 2006. No wonder the price was $286.13 in 2006 versus 106.20 in 1990, a significant spread even accounting for inflation. This holds for zinc as well. As for oil, Asia's share has risen 8 per cent, (Europe's share has dropped 10 per cent over the same period-stark testament to consumption taxes) while the U.S. still can't get enough - consumption has risen by one percentage point in the last 16 years.

Demand is forecast to remain strong in Asia, with or without a US recession. This is interesting: the number of non-Japanese people earning greater than $5,000 a year will grow from under 200 million to 650 million in 2010. That's an entirely new major economy!

On the strength of this data, Cannacord Adams has loaded its portfolio with Canadian commodity equities such as Teck Comino (TSX:TCK.B) and Silver Wheaton: (TSX:SLW), and shifted their emphasis from oil and gas royalty trusts to equities, while maintaining the same net overall exposure in the sector, adding Imperial Oil, Petro-Canada and Suncor stock. They like Silver Wheaton, by the way, because costs are locked in at $3.90 per ounce.

I have to admit I have a knack for finding evidence that supports my gut, but it seems to me that the worst thing that can happen to the above reasoning is that George Bush finds a way to focus on the domestic economy before the Republicans are completely wiped out in 2008, and U.S. dollar rallies, which just means they'll be able to afford higher-priced Canadian commodities. (Or something completely unexpected happens such as the U.S. government sells some of its 262 million ounces of reserve gold, last valued at $42.22 an ounce!)

Meanwhile, the Canadian dollar has already retreated from nosebleed territory, and some analysts, such as Goldman Sachs currency strategist Jens Nordvig, think it's going to retreat even further. He told the Globe and Mail this week that it could slip below parity, and David Powell at IdeaGlobal in New York thinks the loonie is 10 per cent overvalued. Personally, I think that once the markets are truly convinced the global economic ice is shifting, the loonie could turn out to be undervalued, which should get those hands wringing in a counterclockwise direction.

Paul Sullivan is a longtime Vancouver journalist and president of Sullivan Media. He also writes for The Globe and Mail.

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