Quarterly Portfolio Compass 1Q2020 › content... · GLOBAL PORTFOLIO ADVISORY GROUP Quarterly...

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GLOBAL PORTFOLIO ADVISORY GROUP Quarterly Portfolio Compass January 21, 2020 Quarterly Portfolio Compass – 1Q2020 Featured in this report Geographic regions Canada: Bank of Canada, labour market, Liberal party budget expectations United States: U.S. Federal Reserve, manufacturing activity, labour market Europe: Brexit, fiscal and monetary stimulus Rest of the world: China, emerging markets Asset classes Equities: performance summary, return composition, equity fundamentals Fixed Income: performance summary, return composition, credit fundamentals Appendix 2020 U.S. elections, trade policy timeline of events, economic scenario analysis Executive summary Financial markets were supported by accommodative monetary policy in 2H19, as major central banks reduced interest rates to offset global growth headwinds and disinflationary pressures. As the business cycle matures, market volatility is likely to remain elevated, exacerbated by political issues and global trade conflicts. While uncertainty still exists, downside risks have eased, improving investor sentiment and driving equity markets to record highs. The outlook for 2020 has improved in recent weeks, but we continue to expect that global economic growth will be sluggish. In addition, inflation pressures are likely to remain muted requiring central banks to maintain interest rates at current levels, or potentially lower them even further. Encouragingly, weakness in the global manufacturing sector appears to have stabilized, but there are few signs of a meaningful improvement in the near-term. Fiscal policy may take on a more significant role this year as incremental interest rate reductions are unlikely to be of the same magnitude as they were in 2019, and therefore may not be as impactful. Governments have kept their powder dry thus far, but signs of economic weakness may prompt a more aggressive fiscal policy response. Sources: Scotia Wealth Management, Bloomberg 2.4% 8.5% 8.5% 11.4% 1.8% 3.4% -0.6% 2.5% 3.0% 12.9% 8.5% S&P/TSX Composite S&P 500 MSCI All- Country ex-U.S. MSCI Emerging Markets BofAML Global Corporate Investment Grade BofAML Global High Yield BofAML Global Sovereign S&P/TSX Preferred Share Gold WTI Crude Oil Copper 4Q19 Performance Summary

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GLOBAL PORTFOLIO ADVISORY GROUP Quarterly Portfolio Compass January 21, 2020

Quarterly Portfolio Compass – 1Q2020

Featured in this report

Geographic regions

Canada: Bank of Canada, labour market, Liberal party

budget expectations

United States: U.S. Federal Reserve, manufacturing

activity, labour market

Europe: Brexit, fiscal and monetary stimulus

Rest of the world: China, emerging markets

Asset classes

Equities: performance summary, return composition,

equity fundamentals

Fixed Income: performance summary, return composition,

credit fundamentals

Appendix

2020 U.S. elections, trade policy timeline of events,

economic scenario analysis

Executive summary

Financial markets were supported by accommodative monetary policy in 2H19, as major central banks reduced interest

rates to offset global growth headwinds and disinflationary pressures. As the business cycle matures, market volatility is

likely to remain elevated, exacerbated by political issues and global trade conflicts. While uncertainty still exists, downside

risks have eased, improving investor sentiment and driving equity markets to record highs.

The outlook for 2020 has improved in recent weeks, but we continue to expect that global economic growth will be

sluggish. In addition, inflation pressures are likely to remain muted requiring central banks to maintain interest rates at

current levels, or potentially lower them even further. Encouragingly, weakness in the global manufacturing sector appears

to have stabilized, but there are few signs of a meaningful improvement in the near-term.

Fiscal policy may take on a more significant role this year as incremental interest rate reductions are unlikely to be of the

same magnitude as they were in 2019, and therefore may not be as impactful. Governments have kept their powder dry

thus far, but signs of economic weakness may prompt a more aggressive fiscal policy response.

Sources: Scotia Wealth Management, Bloomberg

2.4%

8.5% 8.5%

11.4%

1.8%

3.4%

-0.6%

2.5% 3.0%

12.9%

8.5%

S&P/TSX

Composite

S&P 500 MSCI All-

Country

ex-U.S.

MSCI

Emerging

Markets

BofAML

Global

Corporate

Investment

Grade

BofAML

Global

High Yield

BofAML

Global

Sovereign

S&P/TSX

Preferred

Share

Gold WTI Crude

Oil

Copper

4Q19 Performance Summary

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Overview

Figure 1: Year-to-date asset class total returns to December

31st, 2019 (local currency)

Sources: Scotia Wealth Management, Bloomberg

2020 Outlook

❶ Market volatility to remain elevated as the business

cycle continues to mature.

❷ Policy outcomes will continue to influence capital flows.

❸ Emphasis on fiscal policy support as the efficacy of

monetary stimulus wanes.

❹ Financial conditions to remain accommodative amid

slow growth and low inflation.

❺ Neutral equity weight and bias to high quality remain

warranted.

❻ Strong preference for investment-grade sovereign or

corporate credit exposure.

2019 in review

Increasingly accommodative monetary policy supported global equity markets in 2019. Notwithstanding two significant

sell-offs in May and July, equities rose by more than 20% in most major regions. Investor sentiment held-up reasonably

well for most of the year despite concerns relating to global trade and slowing growth. Stock markets posted record

highs towards the end of 2019, and into 2020 so far, reflecting less pronounced downside risks and a relatively positive

outlook for corporate earnings.

In Canada, economic growth maintained a steady pace of expansion last year, though fundamentals weakened near the

end of 2019 as consumer sentiment moderated. Labour market strength, renewed activity in the housing market, and a

surprise increase in business investment should translate into modest growth again in 2020. The S&P/TSX Composite

Index rose 23% in 2019, with all sectors advancing except for healthcare, which was negatively impacted by weakness

among companies operating in the cannabis space.

The U.S. economy continued to perform well in 2019, supported by a reversal in forward guidance and three 25bps

interest rate cuts from the U.S. Federal Reserve (the Fed). The yield curve inverted mid-year as recession risks rose but

subsequently returned to its normal upward-sloping shape and then remained relatively flat for the rest of the year. The

S&P 500 Index rose by more than 30%, on a total return basis, last year, with the information technology sector driving

the largest share of market gains. Energy and materials lagged the rest of the index due to volatile commodity prices.

Issues relating to financial market liquidity and tightening borrowing conditions became notable in September when

the Fed stepped into U.S. money markets. The Fed conducted term and overnight repurchase operations after funding

costs unexpectedly spiked. Constraints were evident in Europe and China as well, with central banks in both

jurisdictions pledging to maintain adequate market liquidity through term-lending facilities. Fixed income performed

well in 2019 as investment funds flowed into this asset class steadily throughout the year. The compression in

government bond yields drove many investors toward higher-yielding risk assets including emerging market debt.

3.8%

5.4%

6.3%

8.0%

11.5%

14.2%

22.9%

23.2%

31.5%

Canada 10 Yr. Note

Global Sovereign

U.S. 10 Yr. Note

Canada Corporate IG

Global Corporate IG

U.S. Corporate IG

S&P/TSX Composite

MSCI World Ex. U.S.

S&P 500

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Canada

Sources: Scotia Wealth Management, Bloomberg

Figure 3: New fiscal projections see wider

deficits and higher debt-to-GDP for Canada

across the forecast horizon

Sources: Scotia Wealth Management, Bloomberg

Weakness from export-oriented sectors may continue to weigh on the

Canadian economy in 2020.

The Canadian economy slowed in 4Q19 with early GDP readings

showing low or no growth. The strength of the Canadian labour

market, improvements in the housing market, and net exports buoyed

economic growth in Canada in 1H19. In the second half, slower growth

abroad led to a sharp reversal in net exports and inventory drawdowns

dragged on economic activity. More negative sentiment permeated

through the economy in 4Q19, causing job growth to contract in the

final months of the year. Despite disappointing activity measures,

inflation has continued to track modestly above the mid-point of the

Bank of Canada (BoC)’s target range. Core inflation remains strong,

with a November reading of 2.2%. The question is whether the rise will

prove to be lasting or merely the confluence of a series of transitory

factors.

The BoC could lower rates in 1H20, despite steady employment

and on-target inflation. Although downside risks have eased, global

trade uncertainty may continue to drag on overall performance in

2020. In addition, after maintaining a torrid pace for much of 2019, we

expect job gains to decelerate modestly in 2020. As such, we expect

the BoC will lower its policy rate in 2020 to offset growth headwinds,

matching the more accommodative stance in monetary policy adopted

by other major central banks. The Governing Council discussed the

possibility of a rate cut at its meetings in October and December last

year as insurance against a worsening downturn. We expect those

discussions to continue, and intensify should current dynamics

continue.

Liberal government report suggests less fiscal flexibility with 2019

Economic and Fiscal Update. The December Economic and Fiscal

Update from the Department of Finance revealed that, at the margin,

economic developments and pre-election program adjustments have

already expended some of the government’s fiscal ammunition. The

Liberals now see wider deficits and a higher debt-to-GDP ratio across

the forecast horizon (Figure 3). Nonetheless, Canada’s Liberal-led

minority government will have some room to maneuver. Although

spending is not expected to increase significantly, progressive action

on healthcare, income inequality, housing, and the environment are

expected to be included when new spending details are unveiled in

early 2020.

Latest 2018 2019E 2020E

GDP Growth (%) 1.2 2.1 1.6 1.6

Inflation (%) 2.2 2.3 2.0 1.9

Unemployment

(%)5.6 5.7 5.7 5.8

3 Month Yield 1.64 1.65 1.60 1.58

10 Year Yield 1.56 1.97 1.59 1.61

Yield Curve

Slope(0.09) 0.32 (0.02) 0.02

Current Account

Balance (%)(2.2) (2.5) (2.0) (2.0)

Budget Balance

(%)(0.6) (0.6) (0.6) (0.8)

Federal Debt-to-

GDP (%)-- 27.7 27.2 26.9

27.5%

28.5%

29.5%

30.5%

31.5%

-30

-25

-20

-15

-10

-5

0

2019 2021 2023 2025

Deb

t-to

-GD

P (%

)

Bu

dg

et

Bala

nce

(C

$b

n)

Deficit -Budget 2019

Deficit - December Fiscal Update

Debt-to-GDP - Budget 2019

Debt-to-GDP - December Fiscal Update

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United States

Sources: Scotia Wealth Management, Bloomberg

Figure 4: Market pricing reflects limited

expectation for a rate hike in the coming years

Sources: Scotia Wealth Management, Bloomberg, U.S. Federal

Reserve

The U.S. economy begins 2020 with low unemployment and inflation

below 2%.

U.S. growth is expected to moderate on lingering trade policy

uncertainty and fading tailwinds. U.S. GDP for 2019 is likely to have

registered slightly above the economy’s 2% long-term potential level

amid a tight labour market and robust consumer health. Tailwinds from

the Tax Cuts and Jobs Act of 2017 have faded, leading to expectations for

growth below 2% in 2020. Encouragingly, the U.S. labour market

continues to perform well, with unemployment trending lower and

wages moving higher. While the pace may slow, job creation and the

rate of hiring should continue to support low unemployment in 2020.

With the U.S. and China agreeing to terms on the first in a series of

potential partial trade agreements, we expect growth prospects to

improve modestly throughout the year as receeding uncertainty may

boost optimism and support capital expenditures. The phase one

agreement includes chapters on agricultural and energy product

purchases, pharmaceuticals, intellectual property rights, foreign

ownership, and currencies.

Financial conditions and monetary policy should remain

accommodative in 2020. The Federal Open Markets Committee

(FOMC) voted to lower the target range on the Federal Funds rate three

times in 2019, a cumulative 75bps of easing, reversing moves taken in

late 2018. The shift in policy stance was intended to offset global growth

headwinds and disinflationary pressures that weighed on investment,

exports, and manufacturing. In 2020, the FOMC will likely maintain its

accommodative stance, as it monitors global and domestic

developments. In our view, the FOMC will lower rates only once in 2020,

barring a material change in economic expectations. Further, we expect

the Fed will maintain its overnight and term repurchase operations in the

first half of the year before gradually transitioning away from active

repurchases.

Improving sentiment has not yet resulted in a rebound in

manufacturing activity as other factors may be holding the sector

back. The ISM manufacturing index marked its fifth consecutive monthly

contraction in December despite months of progress on trade

negotiations and positive sentiment in financial markets. The unexpected

decline in December suggests that it may take more than a partial trade

agreement to stimulate activity in the U.S. manufacturing sector. The

persistent strength of the U.S. dollar is also likely having an impact.

Forward-looking metrics such as new orders and backlogs do not

suggest the manufacturing slump will be reversed soon. A continuation

of weak readings in 1H20 may reinforce the effect that trade uncertainty

is having on global growth. While the services sector offset

manufacturing weakness through 2019, forward-looking measures in this

area have also deteriorated in recent months.

Latest 2018 2019E 2020E

GDP Growth (%) 2.1 2.9 2.3 1.8

Inflation (%) 2.3 2.4 1.8 2.1

Unemployment

(%)3.5 3.7 3.7 3.6

3 Month Yield 1.57 2.35 1.59 1.58

10 Year Yield 1.79 2.68 1.91 2.01

Yield Curve

Slope0.22 0.33 0.33 0.43

Current Account

Balance (%)(2.5) (2.4) (2.4) (2.5)

Budget Balance

(%)(4.7) (4.7) (4.6) (4.8)

Federal Debt-to-

GDP (%)-- 77.8 78.7 80.7

1.0%

1.3%

1.6%

1.9%

2.2%

2.5%

Dec-18 Feb-20 Apr-21 Jun-22

Federal Funds Rate Upper Bound

Median FOMC Projection

Market Pricing

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Europe

Sources: Scotia Wealth Management, Bloomberg

Figure 5: Purchasing managers’ index data

suggests Eurozone economy is stabilizing

Sources: Scotia Wealth Management, Bloomberg

The European economy remains challenged due to the region's

vulnerability to weak global growth and lack of practical policy tools.

Regional disparities emerged in 2019 and are likely to persist this

year as manufacturing conditions spill over into other segments of

the economy. European GDP growth likely mustered a meager 1.1%

increase on a year-over-year basis in 2019, with significant disparities in

the performance of individual countries. Risks remain generally evenly

balanced at this point though it is easier to see a scenario where growth

continues to slow in 2020. Economic indicators are showing growth

stabilizing at low levels, with purchasing managers’ index (PMI) surveys

holding steady near their cycle troughs. Encouragingly, manufacturing

PMI showed some improvement at the end of 2019, potentially

signalling that the worst may be over for the sector that single-handedly

dragged overall growth lower. However, stabilization is not recovery, and

the Eurozone is likely to remain susceptible to adverse global

developments in 2020. Furthermore, the most recent release of

sentiment and activity data showed few confidence-inspiring results for

key forward-looking measures such as new orders and backlogs.

Monetary policy tapped out with the launch of a new stimulus

program in 4Q19; fiscal policy will need to play a more significant

role. The European Central Bank (ECB) unveiled sweeping stimulus in

2019, pushing its policy rate further into negative territory, resuming

quantitative easing, and changing forward guidance to reference realized

inflation gains. Christine Lagarde, who took over from Mario Draghi at

the helm of the ECB in November, has indicated that she will maintain

the accommodative policies put in place by her predecessor. Further, Ms.

Lagarde has called on governments with fiscal policy flexibility to open

their coffers to new stimulus spending. Monetary policy has likely been

pushed to its limits, with few remaining options to defend against

deteriorating global macroeconomic conditions. However, we do not

expect broad fiscal measures to be unveiled in 2020. The German

government seems content to keep its powder dry for the time being,

while the French economy has performed well given its comparatively

less export-reliant economy. We do not expect a recession in Europe in

2020, and the economy should gather momentum over the coming year,

but growth will be slow.

Conservative election landslide clears uncertainty for Brexit as the

terms of withdrawal continue to be negotiated. Conservative Party

leader, and now U.K. Prime Minister, Boris Johnson’s “Get Brexit Done”

campaign translated into the most significant parliamentary majority

since the 1980s. If the U.K. does indeed leave the E.U. with a deal on

January 31st, which appears to be the case, the Brexit process will not be

over. The government would then begin trade negotiations with the E.U.,

and if it is not able to reach an agreement by the end of 2020, or agree

to extend the transition period, there would indeed be a hard Brexit in

December 2020. The bottom line is that uncertainty concerning Brexit is

likely to remain high, making a rebound in 2020 unlikely.

Latest 2018 2019E 2020E

GDP Growth (%) 1.2 1.9 1.4 1.2

Inflation (%) 1.3 1.7 1.2 1.2

Unemployment

(%)7.5 7.1 6.7 6.7

3 Month Yield (0.57) (0.86) (0.35) (0.21)

10 Year Yield (0.20) 0.24 0.27 0.39

Yield Curve

Slope0.37 1.10 0.63 0.60

Current Account

Balance (%)1.9 1.9 1.9 1.8

Budget Balance

(%)(0.7) (0.8) (1.0) (1.1)

Federal Debt-to-

GDP (%)-- 84.9 83.0 80.9

48

52

56

60

2017 2018 2019

Ind

ex

Level

France Germany Italy

Spain Eurozone

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Rest of the world

Sources: Scotia Wealth Management, Bloomberg

Figure 6: Government bond issuance to

follow approved infrastructure spending

higher at the beginning of 2020

Sources: Scotia Wealth Management, Bloomberg

Chinese economy enters 2020 with stronger momentum, though

headwinds will persist throughout the year.

Easy year-over-year comparable figures and persistent, measured,

monetary policy accommodation boosts sentiment heading into

2020. The Chinese economy likely grew around 6.0% in 4Q last year,

roughly matching growth in 3Q, as purchasing managers’ index (PMI)

data showed the manufacturing sector returned to expansionary

territory in December. Seasonal factors may have partly driven the

boost in production as meaningful improvements in activity are not

unusual following the golden-week holiday in October. Encouragingly,

the demand side of the PMI survey rose with new orders re-entering

expansion and new export orders improving but remaining in

contractionary territory. Low year-over-year comparable figures,

seasonal credit expansion, looser monetary policy, and government

investment combined to form favourable conditions for improvement

in 1H20. Headwinds remain as trade policy uncertainty persists, and

phase two negotiations, which consist of more contentious issues such

as intellectual property rights and forced technology transfers, are set

to begin now that phase one is signed.

PBoC easing bias to be maintained in 2020 along with measured,

patient approach. We expect the People’s Bank of China (PBoC) to

continue to use interest rates and liquidity tools to ease monetary

conditions further this year, though the impact will probably be less

pronounced than last year. The one-year Loan Prime Rate will likely fall

by ~20bps in 2020, with the first reduction expected to come in two

weeks, as the PBoC strives to lower corporate lending rates. The five-

year Loan Prime Rate, which benchmarks new mortgages, is also likely

to be reduced, albeit to a lesser extent. The required reserve ratio (RRR)

may also be lowered by up to a full percentage point after falling by

1.5 percentage points in 2019. On the fiscal side, the government

continues to employ infrastructure investment to support demand, and

there are plans to front-load special bond issuance next year, which are

a primary funding source for major projects and critical supporter of

domestic demand.

Emerging market growth should improve in 2020 as political drags

fade, and trade relations improve.

Emerging market equities lagged their global peers by 5-10% (on a

U.S. dollar basis) in 2019 as global growth concerns hindered overall

performance. Economic growth should improve at the margin in 2020

with more optimistic outlooks and favourable year-ago comparable

levels. China, and economies that are closely tied to its supply chain,

should benefit from better trade dynamics and monetary and fiscal

stimulus. Emerging market growth will likely be most notable in critical

countries such as Brazil, Mexico, Turkey, India, and peripheral Europe,

as political headwinds dissipate, and transitory weakness fades to

reveal still-solid fundamentals.

End Q3 2018 2019E 2020E

GDP Growth (%) 4.9 4.9 4.4 4.5

Inflation (%) 3.8 3.9 3.9 4.0

Unemployment

(%)5.9 5.9 5.1 5.1

3 Month Yield 2.41 2.83 2.64 2.99

10 Year Yield 3.09 3.31 3.27 3.41

Yield Curve

Slope0.68 0.48 0.63 0.42

Current Account

Balance (%)1.4 1.4 1.2 0.8

Budget Balance

(%)(4.1) (4.1) (4.5) (4.8)

Federal Debt-to-

GDP (%)-- 51.2 54.4 57.6

Em

erg

ing

Mark

ets

Chin

a

0%

6%

12%

18%

24%

30%

-100

50

200

350

500

650

2017 2018 2019

Yo

Y G

rwo

th (

%)

LeveL (

CN

Y b

illio

ns)

Infrastructure Approved by NDRC (LHS)

Special Government Bond (LHS)

Infrastructure Investment YTD (RHS)

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Equities

Sources: Scotia Wealth Management, Bloomberg

Figure 7: Multiple expansion drove 2019 amid

meager earnings results

Price Δ EPS Δ Multiple Δ

Canada 19.1% 15.8% 3.3%

U.S. 28.9% 6.5% 22.4%

International 19.0% -0.9% 19.8%

Emerging Markets 15.4% -12.4% 27.9%

Sources: Scotia Wealth Management, Bloomberg

Global equities are likely to track a treacherous climb higher in 2020

as risks remain.

Earnings growth expected to return this year after dismal 2019.

Macroeconomic indicators continue to lend support to modest equity

market price appreciation in 2020, though we expect the trend higher

to be defined by increased periods of volatility. Downside risk to stocks

from political developments should be buffeted by the continuation of

accommodative monetary policy and diminished recession risks.

Earnings growth is expected to contract in 4Q19 before rebounding in

the first half of next year. The improvement in expectations may partly

reflect easier comparable year-ago periods but may also be a function

of analyst views that some global headwinds and uncertainties will

dissipate in 2020. Robust consumer segments in many regions, strong

underlying fundamentals, and mostly optimistic outlooks should also

support earnings growth in the year to come.

Corporate profit margins are likely to remain narrow, though

rising wages have not yet resulted in meaningful cost-push

inflation. Falling interest rates through most of 2019 emboldened

firms to extend their debt maturity profile. With strong labour markets

in many major regions, wages trended higher for much of 2019. To

that end, highly indebted or economically sensitive firms with already

slim margins could see further difficulty sustaining profits amid slower

growth. However, near the end of the year, and initial reports in 2020,

show that wage inflation is moderating, which should lessen some of

the impact from cost-push inflation on profitability.

Valuations remain fair amid benign inflation, accommodative

monetary policy, and prospects for improving growth. Investors

mostly looked through geopolitical developments and perceived

economic sensitives in 2019, pushing equity valuations to record levels.

While valuations may appear elevated, the underlying environment is

vastly different than what preceded the equity sell-off in 2018. At that

time, central banks were normalizing policy rates and were concerned

with inflation overheating. After reversing course through 2019, equity

valuations have re-rated higher in the context of tepid inflation,

accommodative monetary policy, and a stable to improving growth

outlook. We expect equity returns to outpace most other asset classes

again, but are mindful that volatility will likely remain elevated as the

global business cycle matures. Our view underscores the importance of

focusing on risk-adjusted versus total return expectations. A high-

quality bias, emphasizing companies with strong balance sheets,

sustainable competitive advantages, and business models that are not

overly sensitive to the economic cycle remains prudent.

4Q19

ReturnP/E Ratio Div. Yield

S&P/TSX Composite 2.4% 17.7x 3.2%

S&P 500 8.5% 22.0x 1.9%

MSCI All-Country ex. U.S. 8.5% 17.6x 3.2%

Nikkei 225 -8.0% 19.1x 1.9%

Shanghai Composite 5.0% 14.7x 2.7%

STOXX Europe 600 5.8% 20.8x 3.5%

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Fixed income

Sources: Scotia Wealth Management, Bloomberg

Figure 8: Fixed income returns will likely be

more modest in 2020 relative to 2019

Price

Return

Yield

Return

Total

Return

Government 3.4% 2.0% 5.4%

Corporate 7.9% 3.6% 11.5%

High Yield 7.4% 6.6% 14.0%

Sources: Scotia Wealth Management, Bloomberg

Financial conditions will remain accommodative in 2020 as central

bankers keep an eye on fundamentals and global developments.

Interest rates are likely to fluctuate around their current levels, but

we see limited upside to rates globally. Central bank bias shifted

significantly in 2019. After entering the year with most policymakers set

on normalizing interest rates, markets witnessed a clear shift to pausing

and then to easing. On a GDP-weighted basis, the yield on the global

10-year government bond fell by nearly one percentage point. We

expect interest rates to be reasonably range-bound in 2020, barring a

significant deterioration in global growth prospects. Further, we do not

see signs of an imminent turnaround in inflation dynamics and believe

any upward momentum would not occur on a sustained basis. Our

preference remains for North American rates, particularly the U.S., given

better fundamentals and relative safety compared to other regions. We

continue to favour extending portfolio duration as we see risks to the

global outlook as skewed to the downside and expect central banks to

maintain their accommodative stance in 2020.

Credit returns are likely to be slightly lower in 2020 than 2019,

with spreads remaining tight. Credit investors were well rewarded in

2019, and while we expect the asset class to perform well again this

year, returns are likely to be lower. Credit spreads have re-tightened in

late 2019 and early 2020 as risk appetite resurfaced modestly. Spreads

will likely remain range-bound for the year, with risks skewed to

widening should global growth concerns emerge. We maintain a high-

quality bias and limited exposure to names that tend to be more

sensitive to the economic cycle. In investment grade, we continue to

avoid BBB rated credits given downgrade risks and the relative

sensitivity of the bucket at this stage of the cycle. We remain averse to

high yield exposure as trading liquidity can dry up quickly as economic

vulnerabilities emerge.

Renewed risk appetite and investor demand have supported

robust supply thus far in 2020. We expect fixed income to perform

reasonably well this year, albeit at a slower pace than last year. Investor

confidence has risen in recent months as positive developments on the

global trade front have resulted in more optimistic investor sentiment,

leading to stable demand for new issues and tighter credit spreads.

Supply has been robust in early 2020 with new issues generally over-

subscribed and favourable issuer concessions made. Flows have been

stable into both the investment grade and high yield space, running

near their average level. Importantly, outflows have not reached a

meaningful level. Valuations should remain well supported by these

factors in 2020.

2Yr. Yld10Yr.

Yld

3m. ∆

2Y-10Y

YTD ∆

2Y-10Y

Canada 1.70% 1.70% 22.2 (10.0)

U.S. 1.57% 1.92% 30.6 15.2

Global 0.93% 1.30% (0.1) (0.4)

YTMSpread

(bps)

3m ∆

Spread

YTD ∆

Spread

A and Higher 2.0% 71 (15.0) (37.0)

BBB 2.6% 130 (23.0) (72.0)

BB-B 5.0% 303 (46.0) (174.0)

CCC+ and Below 12.6% 1,050 (84.0) (126.0)

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Appendix

2020 U.S. elections: impeachment

Early 2020

Primary caucuses begin February 3rd in Iowa

and continue through to mid-June.

Summer 2020

Democratic National Convention held July 13

– 16. Republican National Convention held

August 24-27.

Fall 2020

Presidential campaigning begins and debates

are held.

November 2020

Election is held for the U.S. Presidency, all 435

seats in the House of Representatives and 34

of 100 seats in the Senate.

D: 235, R: 197, V: 2, I:1

D: 45, R: 53, I:2

House of Representatives

Senate

Only 2 of 11 times the House has flipped since 1900 has been

in Presidential election years.

34 districts won by President Trump in 2016 were won by

Democrats in 2018. Only 3 districts won by Clinton in 2016

were won by Republicans in 2018.

23 Republican-held seats, along with 12 Democrat-held seats,

will be up for election.

Republicans and Democrats are both defending 2 seats won

by the other party in the 2016 Presidential race.

Notes:

Tariffs remain in replace regardless of which party

wins the White House.

Drug pricing will remain a key focus, in addition to

healthcare reform if Democrats maintain House lead

and take the Presidency.

Deficits are unlikely to be addressed.

Impeachment unlikely as Democrats will not win

enough Senate seats to win an impeachment vote,

which requires a supermajority to pass.

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Trade policy: Timeline of events

July 2018

U.S. imposes 25% tariff on US$50bn of Chinese goods and threatens 10% tariffs on additional US$200bn.

China responds with tariffs on US$34Bn of U.S. imports.

Early 2018

U.S. imposes tariffs on all imported washing machines, solar panels, steel, and aluminum.

U.S. unveils plans for 25% tariffs on US$50Bn of Chinese imports. China prepares plans for retaliatory tariffs on

US$50Bn of U.S. imports.

Sept 2018

U.S. implements 10% levy on US$200Bn of Chinese imports, which is to increase to 25% in Jan 2019.

China imposes duties on additional US$60Bn of U.S. goods.

Dec 2018

U.S. and China agree to 90-day truce period where no new tariffs may be imposed.

May 2019

U.S. threatens to tax all imports from China at 25%.

U.S. links tariffs on Mexico to migrant crisis and plans impose a 5% tariff on all imports from Mexico that could

increase to up to 25% by Oct. U.S. delays potential imposition of tariffs on imported automobiles until summer

August 2019

U.S. imposes then partially delays imposition of 10% tariffs on US$300bn of Chinese goods

Tariffed products include consumer electronics, toys, and clothing

October 2019

Phase 1 agreement reached saw China agree to increased purchases of U.S. agricultural goods, suspension of

planned tariff rate hikes, opening of Chinese financial markets, some measures concerning intellectual property,

and competitive currency rules.

January 2020

Phase 1 agreement signed in Washington, D.C. that includes provisions on foreign market access and ownership,

agricultural goods, pharmaceuticals, energy, and currency manipulation.

Phase 2 negotiations are underway.

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Base case: moderate economic growth, benign inflation, and accomodative financial policy

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Disclaimers

This report is provided to you for informational purposes only and is not intended to provide personal investment advice. This report

does not include or constitute an investment recommendation and does not take into account the particular investment objectives,

financial conditions, or specific needs of individual clients. Any statements regarding future prospects may not be realized. Before

acting on this material, you should consider whether it is suitable for your particular circumstances and talk to your investment

advisor.

The author(s) of the report and the supervisors of the Global Portfolio Advisory Group may own securities of the companies included herein.

Scotia Capital Inc. is what is referred to as an “integrated” investment firm since we provide a broad range of corporate finance, investment

banking, institutional trading and retail client services and products. As a result we recognize that there are inherent conflicts of interest in our

business since we often represent both sides to a transaction, namely the buyer and the seller. While we have policies and procedures in place

to manage these conflicts, we also disclose certain conflicts to you so that you are aware of them. Please note that we may have, from time to

time, relationships with the companies that are discussed in this report.

The Global Portfolio Advisory Group prepared this report by analyzing information from various sources. Information obtained in the

preparation of this report may have been obtained from the Equity Research and Fixed Income Research departments of the Global Banking

and Markets division of Scotiabank. Information may be also obtained from the Foreign Exchange Research and Scotia Economics departments

within Scotiabank. In addition to information obtained from members of the Scotiabank group, information may be obtained from the following

third party sources: Standard & Poor’s, Morningstar, Bloomberg, Credit Suisse AG, Perimeter Markets Inc., and FactSet. The information and

opinions contained in this report have been compiled or arrived at from sources believed reliable but no representation or warranty, express or

implied, is made as to their accuracy or completeness.

While the information provided is believed to be accurate and reliable, neither Scotia Capital Inc., which includes the Global Portfolio Advisory

Group, nor any of its affiliates makes any representations or warranties, express or implied, as to the accuracy or completeness of such

information. Neither Scotia Capital Inc. nor its affiliates accepts any liability whatsoever for any direct or consequential loss arising from any use

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information was prepared, which assumptions and analysis may or may not be correct. There is no representation, warranty or other assurance

that any projections contained in this report will be realized.

Opinions, estimates and projections contained herein are those of the Global Portfolio Advisory Group as of the date hereof and are subject to

change without notice. For that reason, it cannot be guaranteed by The Bank of Nova Scotia or any of its subsidiaries, including Scotia Capital

Inc. This report is not, and is not to be construed as: (i) an offer to sell or solicitation of an offer to buy securities and/or commodity futures

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may from time to time acquire, hold or sell securities and/or commodities and/or commodity futures contracts mentioned herein as principal or

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Trademarks are the property of their respective owners.

Copyright 2019 Scotia Capital Inc. All rights reserved.

This report is distributed by Scotia Capital Inc., a subsidiary of The Bank of Nova Scotia. Scotia Capital Inc. is a member of the Canadian Investor

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® Registered trademark of The Bank of Nova Scotia, used under licence. Scotia Wealth Management® consists of a range of financial services

provided by The Bank of Nova Scotia (Scotiabank®); The Bank of Nova Scotia Trust Company (Scotiatrust®); Private Investment Counsel, a

service of 1832 Asset Management L.P.; 1832 Asset Management U.S. Inc.; Scotia Wealth Insurance Services Inc.; and ScotiaMcLeod®, a division

of Scotia Capital Inc. Private banking and International private banking services are provided in Canada by The Bank of Nova Scotia. Estate and

trust services are provided by The Bank of Nova Scotia Trust Company. Portfolio management is provided by 1832 Asset Management L.P. and

1832 Asset Management U.S. Inc. Insurance services are provided by Scotia Wealth Management Insurance Services Inc. Wealth advisory and

brokerage services are provided by ScotiaMcLeod, a division of Scotia Capital Inc. International investment advisory services are provided in

Canada by Scotia Capital Inc. Financial planning services are provided by The Bank of Nova Scotia, 1832 Asset Management L.P., and

ScotiaMcLeod, a division of Scotia Capital Inc. Scotia Capital Inc. is a member of the Canadian Investor Protection Fund and the Investment

Industry Regulatory Organization of Canada. Scotia Wealth Insurance Services Inc. is the insurance subsidiary of Scotia Capital Inc., a member of

the Scotiabank group of companies. When discussing life insurance products, ScotiaMcLeod advisors are acting as Life Insurance Agents

(Financial Security Advisors in Quebec) representing Scotia Wealth Insurance Services Inc.

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Scotia Wealth Management consists of a range of financial services provided, in The Bahamas, by Scotiabank (Bahamas) Limited and The Bank

of Nova Scotia Trust Company (Bahamas) Limited. International private banking services are provided in The Bahamas by Scotiabank (Bahamas)

Limited, an entity registered with The Central Bank of The Bahamas. International investment advisory services are provided in The Bahamas by

Scotiabank (Bahamas) Limited, an entity registered with The Securities Commission of The Bahamas. International wealth structuring solutions

are provided in The Bahamas by The Bank of Nova Scotia Trust Company (Bahamas) Limited, an entity registered with The Central Bank of The

Bahamas.

Scotia Wealth Management consists of international investment advisory services provided, in Barbados, by The Bank of Nova Scotia, Barbados

Branch, an entity licensed by the Barbados Financial Services Commission.

Scotia Wealth Management consists of a range of financial services provided, in the Cayman Islands, by Scotiabank & Trust (Cayman) Ltd.

International private banking services, international investment advisory services and international wealth structuring solutions are provided in

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Scotia Wealth Management consists of international private banking services provided, in Peru, by Scotiabank Peru S.A.A, an entity supervised

by the Peru Superintendence of Banking and Insurance.