Economic & Financial Outlook

Economic & Financial Outlook Conference call / Appel conférence Stéfane Marion / Paul-André Pinsonnault NBF Economics & Strategy Group January 15, 2018

World

World: Economy continues to surprise on the upside Citi Economic Surprise Index World composite 50 Index 40 30 20 10 0-10 -20-30 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Bloomberg) 3

World: Trade volumes at a record Global trade flows (quarterly volumes) 124 index 120 116 112 108 104 100 96 92 88 84 80 76 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 NBF Economics and Strategy (CPB data via Datastream) 4

World: Industrial production is at a record high Volume industrial output 170 160 Index Emerging 150 140 130 World 120 110 100 Advanced 90 80 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Bloomberg) 5

World: Earnings revisions remain positive 3-month change in 12-month forward earnings for the MSCI AC 2 % 1 0-1 -2-3 -4-5 -6-7 2010 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Bloomberg) 6

MSCI : change in 12-month forward earnings 1-month change 3-month change 10 year historical average 3 month diffusion 10 year historical average MSCI AC World 0.9 1.6-0.8 60% 43% MSCI World 1.0 1.5-0.8 64% 44% MSCI USA 1.4 1.8-0.7 73% 46% MSCI Canada 0.7 0.4-0.8 54% 43% MSCI Europe 0.3 0.2-1.1 51% 39% MSCI Pacific ex Jp 0.6 1.0-0.6 67% 42% MSCI Japan 0.8 4.5-0.9 69% 49% MSCI EM 0.3 1.8-0.6 49% 41% MSCI EM EMEA 1.2 1.7-0.6 58% 42% MSCI EM Latin America -0.4-0.5-0.9 43% 40% MSCI EM Asia 0.2 2.2-0.4 48% 42% 1/12/2018 NBF Economics and Strategy (data via Datastream) 7

World: Earnings expectations are not unreasonable 12-month forward earnings for the MSCI AC 32 EPS 30 28 26 24 22 20 18 16 14 12 2004 2006 2008 2010 2012 2014 2016 2018 NBF Economics and Strategy (data via Datastream) 8

Global equities: Record high with stable P/E MSCI AC and its 12-month-forward P/E 650 Index Ratio 30 600 MSCI AC (left) 28 550 26 500 24 450 22 400 20 350 18 300 16 250 14 200 Forward P/E (right) 12 150 10 100 8 50 1990 1995 2000 2005 2010 2015 NBF Economics and Strategy (data via Datastream) 6 9

MSCI composite index: EPS Performance 2016 2017 2018 2019 12 months forward MSCI AC World 2.9 15.2 10.8 9.8 10.8 MSCI World 2.2 13.9 10.3 9.6 10.4 MSCI USA 2.3 10.6 13.5 10.6 12.8 MSCI Canada -4.1 26.2 8.1 10.7 8.9 MSCI Europe 1.1 12.5 9.1 8.7 8.9 MSCI Pacific ex Jp -7.8 15.9 6.4 5.5 6.1 MSCI Japan NA 13.8 30.5 1.1 4.9 MSCI EM 7.9 22.9 13.3 11.0 13.1 MSCI EM EMEA 6.8 14.2 12.6 9.1 11.7 MSCI EM Latin America 59.6 16.5 10.7 16.5 11.0 MSCI EM Asia 2.9 26.1 13.8 10.7 13.7 1/12/2018 NBF Economics and Strategy (data via Datastream) 10

OECD: Pro-cyclical fiscal stimulus? Advanced economies real GDP growth and change in structural budget balance 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0-0.5-1.0-1.5-2.0-2.5-3.0-3.5 % Change in structural budget balance 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 NBF Economics and Strategy (data via IMF) Real GDP growth? Trump tax cuts Trudeau infrastructure Countering populism & low inflation in Eurozone and Japan UK offsetting Brexitrelated headwinds 11

World: Perspective on commodity prices CRB metals vs. WTI 1,400 index USD/barrel 150 1,300 140 1,200 130 1,100 120 1,000 900 CRB metals (left) 110 100 800 90 700 80 600 70 500 60 400 50 300 200 WTI (right) 40 30 100 20 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Datastream) 12

World: USD is not a threat at the moment USD broad index (vs. 26 currencies) 132 index 128 124 120 116 112 108 104 100 96 92 88 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 NBF Economics and Strategy (Federal Reserve data via Datastream) 13

U.S.

S&P 500: The longest rally since 1960 Rallies since 1960 without a 5%+ correction 450 Number of trading days 400 350 300 250 200 150 100 50 0 05/1970 04/1988 03/2003 11/1982 09/1980 11/2002 03/2009 08/1998 04/1999 10/1980 10/2011 02/2000 10/2002 12/1987 10/1974 10/1991 07/2010 08/1997 10/1997 05/1988 02/1979 11/1991 03/2011 05/1999 07/1986 08/2007 06/1962 01/1988 08/1988 09/1975 08/1983 07/1978 11/1978 10/1990 03/2009 02/2010 10/1999 10/2009 10/1972 08/1982 03/1978 11/1979 05/1987 08/1968 12/1974 01/1991 04/1975 07/2009 05/1991 04/2005 06/2012 07/1984 06/1967 04/1997 02/2016 03/1968 11/2011 03/2007 05/1979 04/1994 04/1992 01/1990 08/2010 03/1980 10/1998 11/2012 01/1998 12/1982 09/1986 10/2005 08/2004 06/2013 07/1996 10/1966 12/1984 10/2014 06/1965 02/2014 06/2006 11/1971 09/1985 12/1975 07/1970 03/2003 11/1988 10/1962 10/1960 10/1992 11/1963 12/1994 06/2016 NBF Economics and Strategy (data via Bloomberg as of Dec 13th, 2017) 15

U.S.: The second longest business cycle on record Duration of economic cycles since 1945 (peak to peak) Jul 90 - Mar 01 128 Dec 07 - Oct 17 122 Apr 60 - Dec 69 116 Jul 81 - Jul 90 108 Mar 01 - Dec 07 81 Nov 73 - Jan 80 74 Nov 48 - Jul 53 56 Jul 53 - Aug 57 49 Dec 69 - Nov 73 Feb 45 - Nov 48 Aug 57 - Apr 60 32 45 47 Average of 11 cycles since 1945: 68.5 months Jan 80 - Jul 81 18 Months 0 20 40 60 80 100 120 140 NBF Economics and Strategy (http://www.nber.org/cycles.html) 16

U.S.: GDP exceeds potential for the first time in a decade Actual vs. potential* real GDP 17,600 17,200 $ billions For the first time in a decade, excess capacity F Matured phase 16,800 has been eliminated! 16,400 16,000 Potential GDP 15,600 15,200 A Peak Actual GDP E Expansion 14,800 14,400 14,000 B Recession Trough C 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 * As calculated by the Congressional Budget Office (CBO) - NBF Economics and Strategy (data via Datastream) D Recovery 17

U.S.: Yield curve not that flat at this point in the cycle Output gap* vs. yield curve (10-year Treasury yield less 3-month T Bill) 6 5 % 4 Yield Curve 3 2 1 0-1 -2-3 -4 Output Gap -5-6 -7-8 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 * Using potential GDP calculated by the Congressional Budget Office (CBO) - NBF Economics and Strategy (data via Datastream) 18

U.S.: Core inflation tends to move higher at this point in the cycle Core PCE deflator vs. output gap* 12 % 10 8 6 4 2 0 Core PCE (y/y change) Q3 2017-2 -4 Output Gap -6-8 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 * Using potential GDP calculated by the Congressional Budget Office (CBO) - NBF Economics and Strategy (data via Datastream) 19

Canada

Canada: Economy has done very well in recent quarters Nominal GDP growth 8 7 % (y/y) 6 5 4 3 2 1 0-1 -2-3 -4-5 -6-7 -8 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Statcan and Datastream) 21

Poloz on the run: Where is he going? 22

Canada: Perspective on CPI-common Core inflation based on common component measure 2.1 % (y/y) 2.0 1.9 1.8 NBF 1.7 1.6 1.5 Official 1.4 1.3 1.2 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Statistics Canada) 23

Perspective on key driver of labour income Full-time employment: Canada vs. the U.S. 126 124 Index, 2000 = 100 122 120 118 116 114 112 110 108 106 104 102 100 98 96 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 NBF Economics and Strategy (data via Datastream) 24

Perspective on the prime-aged workforce Employment for people aged 25-54: Canada vs. the U.S. 112 Index, 2000 = 100 110 108 106 104 102 100 98 96 94 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 NBF Economics and Strategy (data via Statistics Canada and BLS via Datastream) 25

Prime-age population growing in Canada, stalling in the U.S. Population aged 25-54: Canada vs. the U.S. 108 Index, 2000 = 100 107 106 105 104 103 102 101 100 99 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 NBF Economics and Strategy (data via Statistics Canada and BLS via Datastream) 26

Wages and salaries growth Q3 2017 vs. Q3 2016 8.0 7.0 %y/y 6.9 6.0 5.0 4.0 4.9 4.5 4.3 4.1 3.7 3.0 2.0 3.2 3.1 3.0 2.4 2.3 1.0 1.1 0.0 BC QC MB CA ON PE NS AB NB U.S. SK NL NBF Economics and Strategy (data via Statistics Canada) 27

Canada: Job creation in the main cities Job creation in greater Vancouver, greater Toronto, greater Montreal and rest of Canada (RoC) 124 122 120 118 116 114 112 110 108 106 104 102 100 Index 2007=100 VAN TOR MTL RoC 98 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Statistics Canada) 28

World: Home prices do not seem extreme in Canada Price per square feet in USD for downtown living* (summer 2017) Hong Kong London New York Beijing Paris San Francisco Stockhom Sydney Boston Tokyo Oslo Vancouver Los Angeles Rome Copenhagen Berlin Toronto Miami Chicago Montreal Houston Calgary Ottawa/Gatineau Quebec City * For a 645 sq.ft. apartment NBF Economics and Strategy 438 374 373 334 300 272 245 1,328 1,246 1,228 1,083 1,075 1,055 1,042 986 925 815 729 699 655 606 601 1,861 3,257 0 500 1,000 1,500 2,000 2,500 3,000 3,500 USD 29

World: Perspective on household leverage Household debt as a percentage of net disposable income (major OECD countries) 350 % disposable income 300 250 200 150 100 50 0 HUN LAT SLO POL CHI CZE SVK EST ITA AUT DEU FRA USA BEL GRC ESP FIN JAP PRT USA GBR CAN IRE SWE SWI AUS NOR NLD DNK NBF Economics and Strategy (data via OECD) U.S. adjusted to Canadian definition 30

Interest rates

CME: Probabilities of FOMC rate moves based on fed funds futures Federal Reserve Bank of New York President William Dudley said last Thursday the case for rate rises this year remains robust amid risks the economy could overheat, and warned that the new tax law could boost the U.S. deficit over time. OIS NBF Economics and Strategy (data via CME Group) 2018-01-15 32

World Bank: Output gaps in advanced economies and EMDEs 2.8 Percent of potential GDP 2.4 2.0 EMEDEs 1.6 World 1.2 Advanced economies 0.8 0.4 0.0-0.4-0.8-1.2-1.6-2.0-2.4-2.8-3.2-3.6-4.0 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 NBF Economics and Strategy (data via World Bank) 2018-01-15 33

Fed s five-year forward breakeven inflation rate NBF Economics and Strategy (data via Bloomberg) 34

Financial conditions have eased despite the FOMC s rate hikes NFCI shows financial conditions at year end 2017 easier than in the period from 2003 to 2005 2.8 2.4 2.0 1.6 Index The Chicago Fed s National Financial Conditions Index (NFCI) provides a comprehensive weekly update of U.S. financial conditions in money, debt and equity markets and in the traditional and shadow banking systems 1.2 0.8 0.4 December 2015: First FOMC rate hike 0.0-0.4-0.8-1.2 1990 1995 2000 2005 2010 2015 NBF Economics and Strategy (data via Bloomberg) 35

10-year yield: Sum of expected average short rate and term premium 3.2 2.8 Expected average short rate over subsequent 10 years 2.4 2.0 1.6 1.2 0.8 0.4 Term premium 0.0-0.4-0.8-1.2 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Bloomberg) 36

SOMA: 2018 Treasury maturities and run-off caps Maturity schedule of notes, bonds, floating-rate notes and TIPS 60,000 55,000 50,000 US$ million Based on December 6, 2017 Soma s portfolio 45,000 40,000 Reinvested portion 35,000 30,000 Cap 25,000 20,000 15,000 10,000 Portion rolling off the balance sheet 5,000 2017m12 2018m1 2018m2 2018m3 2018m4 2018m5 2018m6 2018m7 2018m8 2018m9 2018m10 2018m11 2018m12 2019m1 2019m2 2019m3 NBF Economics and Strategy (data via Federal Reserve Bank of New York) 2017/12/06 37

ECB: Officials widely agreed that the bank would need to change its guidance to investors The eurozone economy is in its best shape in more than a decade. Consumer sentiment is at its highest level since the turn of the century, unemployment is close to a nine-year low, and industrial production is booming, rising 1% on the month in November NBF Economics and Strategy (data via Bloomberg) 38

FOMC: More policy normalization in 2018 Balancing of risks to financial stability, the economy and inflation calls for gradual policy normalization 4.2 4.0 3.8 3.6 3.4 3.2 3.0 2.8 2.6 2.4 2.2 2.0 1.8 1.6 1.4 1.2 % We expect 10-year Treasuries, currently trading at 2.48%, to be trading around 2.95% in Q4 2018 2009 2010 2011 2012 2013 2014 2015 2016 2017 U.S. economic forecast Q4 2017 Q1 2018 Q2 2018 Q3 2018 Q4 2018 2018 forecast forecast forecast forecast forecast forecast Real GDP growth (q/q % chg. saar) 2.5 1.5 3.2 2.3 2.2 2.5 CPI (y/y % chg.) 2.1 1.9 2.5 2.5 2.1 2.2 CPI ex. food and energy (y/y % chg.) 1.7 1.7 2.1 2.2 2.3 2.1 Unemployment rate (%) 4.1 4.1 4.0 4.0 3.9 4.0 Fed Fund Target Rate 1.75 1.75 2.00 2.25 10-Year Treasuries 2.54 2.73 2.84 2.95 NBF Economics and Strategy (data via Bloomberg) 39

US corporate bonds: Investment grade option adjusted spread OAS back to levels seen in 2004 to 2006 640 600 560 520 480 440 400 360 320 280 240 200 160 120 80 40 0 Basis points Average 93 bps Last observation: 95 bps 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 NBF Economics and Strategy (data via Bloomberg, ICE BofAML) 40

Canada: Perspective on labour-market slack Unemployment rate, youth unemployment rate and underemployment rate 17 16 % 15 14 13 12 Youth unemployment rate 11 10 9 8 Underemployment rate* (all ages) 7 6 Unemployment rate (total) 5 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 Includes discouraged workers, waiting groups and involuntary part-time NBF Economics and Strategy (data via Statistics Canada) 41

Canada: Consumer Price Index inflation since 2007 Change in total CPI and change in average of the three core measures preferred by the Bank of Canada 4.0 % y/y 3.5 3.0 2.5 2.0 1.5 1.0 Midpoint of BoC target range Total CPI (+2.1%) Average of core CPIs (+1.7%) 0.5 0.0 OIS -0.5-1.0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 NBF Economics and Strategy (data via Statistics Canada) 42

Canada: More policy normalization in 2018 Balancing of risks to financial stability, economy and inflation calls for gradual policy normalization 4.4 4.0 3.6 3.2 % We expect 10-year GoCs, currently trading at 2.15%, to be trading around 2.70% in Q4 2018 2.8 2.4 2.0 1.6 1.2 0.8 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Canada economic forecast Q4 2017 Q1 2018 Q2 2018 Q3 2018 Q4 2018 2018 forecast forecast forecast forecast forecast forecast Real GDP growth (q/q % chg. saar) 2.2 2.3 2.5 2.7 2.1 2.5 CPI (y/y % chg.) 1.8 1.7 2.3 2.6 2.3 2.3 CPI ex. food and energy (y/y % chg.) 1.6 1.5 1.9 2.1 2.3 2.0 Unemployment rate (%) 6.0 5.9 5.9 5.7 5.6 5.8 Boc`s overnight rate 1.25 1.50 1.75 2.00 10-Year Gov. of Canada 2.21 2.51 2.65 2.70 NBF Economics and Strategy (data via Bloomberg) 43

Corps A s yield spreads to Canadas BFV corporate A 400 360 320 280 240 200 160 30- year 120 80 40 10- year 5-year 0 2000 2002 2004 2006 2008 2010 2012 2014 2016 NBF Economics and Strategy (data via Bloomberg) 44

Ontario s yield spreads to Canadas Still well above levels seen in 2004 to 2006 180 160 140 120 30- year 100 80 10- year 60 40 20 5-year 0 2000 2002 2004 2006 2008 2010 2012 2014 2016 NBF Economics and Strategy (data via Bloomberg) 45

Canada: Underlying assumptions for total returns calculations Canada economic forecast Q4 2017 Q1 2018 Q2 2018 Q3 2018 Q4 2018 2018 forecast forecast forecast forecast forecast forecast Real GDP growth (q/q % chg. saar) 2.2 2.3 2.5 2.7 2.1 2.5 CPI (y/y % chg.) 1.8 1.7 2.3 2.6 2.3 2.3 CPI ex. food and energy (y/y % chg.) 1.6 1.5 1.9 2.1 2.3 2.0 Unemployment rate (%) 6.0 5.9 5.9 5.7 5.6 5.8 Boc`s overnight rate 1.25 1.50 1.75 2.00 10-Year Gov. of Canada 2.21 2.51 2.65 2.70 Province Avg. Avg. Avg. GDP 2017 2018 2019 N & L -2.0% 3.0% 4.7% P.E.I. 2.0% 1.5% 1.5% N.S. 1.2% 1.1% 1.0% N.B. 1.2% 1.0% 1.2% Quebec 2.6% 2.3% 1.3% Ontario 3.0% 2.6% 1.5% Manitoba 2.6% 2.1% 1.2% Sask. 2.2% 2.0% 1.9% Alberta 4.5% 2.3% 1.6% B.C. 3.1% 3.0% 1.7% NBF Economics and Strategy 46

Canada: Projected total returns, 2017-12-29 to 2018-12-31 T-bill % 1.49 Short Cdn Short Provi 0.58 0.83 Short Corp 1.55 Mid Cdn -1.78 Mid Provi -0.89 Mid Corp 0.33 Long Can -6.82 Long Provi -6.29 Long Corp -3.29 Total Can -1.33 Total Provi -3.20 Total Corp -0.05 Universe -1.66-8.00-7.50-7.00-6.50-6.00-5.50-5.00-4.50-4.00-3.50-3.00-2.50-2.00-1.50-1.00-0.50 0.00 0.50 1.00 1.50 2.00 2.50 NBF Economics and Strategy (author s calculation) 2018-01-08 47

Conclusion: World, U.S.: Another year of above-potential growth - Global growth near 3.7% in 2018 - China continues to grow at around 6.5% (good enough) - Eurozone, still great at 1.9% - Geopolitical risks to remain a major source of concern: U.S. Trade Policy? Interest rates, currency: - The Fed probably hikes three times in 2018 ; 10-year Treasury yield near 3.0%. - Expect the BoC to hike again this weeke, more to come after that (heading towards 2%) - Canadian dollar in the 1.20-1.30 range (stronger in short-term); Oil in the $55-$62 range - Large correction in housing unlikely unless labour markets deteriorate markedly or mortgage rates surge. Equity over bonds for now with an eye on the yield-curve: Inflation comeback in 2018? 48