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Currency markets • Dagmara Fijalkowski, MBA, CFA U.S. dollar didn’t give back much of its strength. Why is the dollar a safe haven? Broadly speaking, because U.S. portfolio managers invest more money abroad than foreign investors invest in the U.S. Exhibit 7 shows a comparison of net international investment positions excluding reserve assets and liabilities, which are considered sticky assets. The U.S. is one of the three countries with net exports of investment capital. However, the other two, Japan and Switzerland, have been actively trying to limit the strength of their currencies. This means that in times of stress, U.S. investors bring their money home, strengthening the greenback in the process. The euro Despite the euro’s resilience early in the year, our base case for the currency remains bearish. For the time being, the stress manifests itself in intra-EMU flows, which lead to the outperformance of bunds versus bonds of peripheral countries. We have, therefore, seen relatively little impact on the value of the single currency. By March of this year, yields on 10-year bunds fell to unprecedented levels below 1.5%, and yields on 2-year German notes fell below comparable securities issued by Japan. We believe this resilience is temporary. With Eurozone problems heating up after the failed Greek elections, the ECB will likely find itself easing monetary policy, while the probability of the Fed engaging in QE3 has declined along with improvement in the U.S. economy. Two-year interest rate differentials reflect these expectations and suggest the euro will fall further (Exhibit 8). EXHIBIT 3. PPP Valuations – April 2012 % Over/Undervalue) 40 30 20 10 0 -10 -20 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50% 33.3 31.3 26.4 20.3 EXHIBIT 4. Labour Force Growth (Age 15-64) 14.7 13.9 12.9 12.9 2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 Source: UN Population Division, Deutsche Bank -0.4 -15.6 AUD NZD CHF CAD NOK EUR GBP JPY SEK USD Source: Deutsche Bank U.S. Canada U.K. China Europe Korea Japan SAMPLE EXHIBIT 5. Correlation of the U.S. Dollar and U.S. Equities (S&P 500) 1.0 Long Term Correlation: -0.11 0.8 0.6 0.4 0.2 0.0 -0.2 -0.4 -0.6 -0.8 -1.0 Last observation: -0.69 1970 1974 1978 1982 1986 1990 1994 1998 2002 2006 2010 Source: Bloomberg, RBC GAM 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50% 44 I The global investment outlook RBC INVESTMENT Strategy coMMITTEE Summer 2012
Currency markets • Dagmara Fijalkowski, MBA, CFA Unlike in previous years, downward pressure on the euro will not be offset by further demand from central banks, which have traditionally sold U.S. dollars to diversify their foreignexchange reserves into euros. With the odds of a Greek exit from the Eurozone increasing, contagion risks have been growing and weighing on the euro. As Steven Englander of Citibank put it: “The way to avoid this contagion and downward pressure on the euro would be to provide an absolute, nonconditional guarantee that no other country would drop out. This would be a spectacular transformation – an ECB that is unwilling to act like the Fed morphs into the Swiss National Bank.” The reference is to the possibility that the ECB would mimic the Swiss National Bank's extraordinary vow to pursue quantitative easing, i.e. much more aggressive than the quantitative easing embraced by the Fed. Such a vow by the ECB would constitute an equally extraordinary about-face. The lack of such decisive action by the ECB implies further declines for the euro, as European politicians and technocrats have so far failed to deliver preventive action. Investors, including those managing foreign-exchange reserves, understandably have doubts. Exhibit 9 shows that valuation-adjusted reserve allocations by global central banks to the euro peaked in 2009 and have been declining since. Can we imagine a scenario when the euro performs better? Yes, but at the moment we assign a lower probability to this scenario. Commitments by the ECB to conduct unlimited bond purchases or a promise of allencompassing financial support from Germany would have to be ironclad. EXHIBIT 6. 110 105 100 95 90 85 EXHIBIT 7. 140% 90% 40% -10% -60% -110% Australia 2011 Weak High Yield Market Offset by Strong Greenback Merrill Lynch High Yield Weighted Average Price USD-CAD Dec-10 Feb-11 Apr-11 Jun-11 Aug-11 Oct-11 Dec-11 Feb-12 Apr-12 Source: Bloomberg Net International Investment Position (% of GDP) Foreign Assets Held Excluding Reserve Assets & Liabilities Norway Swe Source: Credit Suisse Canada Euro area SAMPLE EXHIBIT 8. 1.2% 0.7% 0.2% -0.3% -0.8% 1.15 Feb-10 Jun-10 Oct-10 Feb-11 Jun-11 Oct-11 Feb-12 Jun-12 Source: Bloomberg UK EURUSD vs. 2-Year Interest Rate Spread 2-Year Yield Differential (LHS, EU-US) EUR-USD (RHS) US Japan Switz 1.50 1.45 1.40 1.35 1.30 1.25 1.20 The global investment outlook RBC INVESTMENT Strategy coMMITTEE Summer 2012 I 45
Page 1 and 2: The Global Investment Outlook RBC I
Page 3 and 4: Contents Executive Summary 2 The Gl
Page 5 and 6: Executive summary • Sarah Riopell
Page 7 and 8: Recommended Asset Mix Asset mix - t
Page 9 and 10: Recommended Asset Mix Balanced Asse
Page 11 and 12: Capital markets performance • Mil
Page 13 and 14: Global Investment Outlook Eric Lasc
Page 15 and 16: Global Investment Outlook • Eric
Page 37 and 38: Global Fixed income markets • Soo
Page 45: Currency Markets Dagmara Fijalkowsk
Page 49 and 50: Currency markets • Dagmara Fijalk
Page 57 and 58: Regional outlook - U.S. • Ray Maw
Page 59 and 60: Regional outlook - CANADA • Stuar
Page 61 and 62: Regional outlook - Europe • Domin
Page 63 and 64: Regional outlook - Asia • Yoji Ta
Page 65 and 66: Regional outlook - emerging markets
Page 67 and 68: Eric Lascelles Chief Economist RBC
Page 69 and 70: This report has been provided by RB

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