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Economy

Canada banks are holding back the truth about the economy

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Canada banks: Would you lend money to an outfit called Wrnch Inc.? Probably not if your business model has for centuries been based on prioritizing companies with names such as McCain Foods Ltd., Hudson’s Bay Co., Canadian Pacific Railway Ltd. and Teck Resources Ltd.

Big-name enterprises like these form the foundation on which the modern financial industry is built. They have little difficulty getting loans because they have lots of hard assets — factories, inventories, real estate, equipment — to put up as collateral.

From a macroeconomic perspective, there is nothing wrong with such an approach to lending, provided the economy revolves around those same tangible goods.

But economies that are overly reliant on risk-averse banks to finance growth and productivity gains start to fall behind when intangibles — ideas, talent, data — become the drivers of wealth.

Wrnch’s evolution shows why. The four-year-old software company, which uses artificial intelligence (AI) to do things with video that few others can, could pile up an impressive stack of computer gear that should be worth something to someone. It also has a full-length “mirror” in the lobby that wraps onlookers in suits of digital body armour. The espresso machine looks expensive, but it’s no locomotive.

Bottom line: there isn’t a lot of stuff for a bank to sell at a bankruptcy auction if a loan goes bad. Does that make Wrnch worthless? Hardly. Its intrinsic value has nothing to do with the amount of stuff it could drop on a banker’s foot.

For one thing, Paul Kruszewski, Wrnch’s founder and chief executive, has already created and sold two AI companies since 2000, so he has a track record of success. That’s rare in AI, which has existed as theory for a few decades, but only emerged as a standalone industry during the past few years.

Furthermore, Kruszewski’s newest venture, which uses powerful algorithms to process and analyze video of human motion, is profitable and growing, with the number of employees doubling in size last year to about 30. And Wrnch is already playing in the Big Leagues: it has a contract with Intel Corp. to help the second-biggest maker of silicon chips track and analyze athletes’ performances with three-dimensional imagery at the 2020 Olympics in Tokyo.

Wrnch is going somewhere. Kruszewski wants to hire an additional 200 people within the next few years and join the vanguard of Canadian companies at the forefront of AI, which could add about US$16 trillion to global gross domestic product by 2030, according to PricewaterhouseCoopers.

There is, of course, a but.

“We’ve hit the limits of organic growth,” Kruszewski said in an interview in January. “We do need some investment now.”

There are dozens, maybe even hundreds, of companies such as Wrnch in Canada that have legitimate potential to be a McCain Foods or a CP Rail in the innovation economy. Most, if not all, are being restrained to some extent by the financial system’s deep aversion to risk.

Philippe Daoust called up ex-pat entrepreneurs when he was asked in 2017 to lead National Bank’s technology team to find out why they had left. One startup said none of the banks would give it a bridge loan for a measly six weeks. The company found a lender in the United States that demanded only one condition: U.S. residency.

“Things are getting better, but we’re not there,” National’s vice-president of venture capital said. “The alarm has rung, but we are reacting as Canadians react, slowly.”

Daoust leads a team of about a dozen bankers that have a green light to be flexible on what counts as collateral. National is currently working with about 30 companies and has invested some $30 million over the past few years.

“We have been a risk-averse country,” he said. “But there is risk in not helping and watching those companies go away.”

Not so long ago, Canada was a funding desert for startups. It’s not that bad now, in part because Ottawa has been using the Treasury to leverage private investment.

Homegrown venture capitalists participated in 610 deals worth about $3.7 billion last year, little changed from 2017, but a 76-per-cent increase from 2014, when firms completed 438 deals worth about $2.1 billion, according to the Canadian Venture Capital Private Equity Association.

Still, in a world where one firm, SoftBank Group Corp., the Japanese internet and telecommunications giant, runs a single venture-capital fund worth US$100 billion, it’s fair to say that Canada — the world’s 10th largest economy — could be doing better.

The biggest Canadian provider of venture funding is BDC Capital, an arm of the Business Development Bank of Canada, the Montreal-based Crown lender that has a mandate to back smaller companies.

The money available for starting and scaling is being fronted by a relatively small number of investors, which means entrepreneurs can find themselves in take-it-or-leave-it situations because there is too little competition. And because Canada’s venture-capital firms tend to be young, they don’t always have the expertise that ambitious startups desire to help take their companies to another level.

“There is plenty of capital available,” Ari Himmel, founder and chief executive officer of Faimdata, a Montreal-based startup that uses AI to study customer behaviour for retailers, said. “The question is, do they understand what we are trying to do?”

Canada’s banking system is part of the problem. Policy decisions taken over decades created a Toronto-based oligopoly of five institutions that controls 85 per cent of all banking assets.

That level of concentration has brought financial stability and excellent returns for shareholders. But the downside of limiting competition is accepting to forgo the economic growth and productivity gains that Canada might enjoy if its banks were forced to be more entrepreneurial.

The unforeseen consequence is that the country’s most powerful sources of finance are often viewed as being incapable of leading the transition to a new economy. Instead of enabling a battalion of entrepreneurs, the biggest banks are focused on mortgages and wealth management.

“Until you are a $1-million company, there is very little bank financing available,” said Raymond Luk, founder and chief executive of Hockeystick.co Inc., a digital platform that gathers and analyzes data on private companies and investors. “Banks won’t take my entrepreneurial track record as collateral.”

To be sure, Bay Street appears to have realized that it might have been missing out on something big and the wake-up call might have been the sight of smaller peers encroaching on the Big Five’s turf.

For example, California’s Silicon Valley Bank, which specializes in lending to technology companies, received a licence to operate in Canada on March 4. Michele Romanow, one of the stars of Dragon’s Den, in 2016 launched San Francisco-based Clearbanc, which focuses on lending to entrepreneurs.

In addition to National, all Big Five lenders are now dabbling in technology, but not all of them are keen to talk about what they are doing. Royal Bank of Canada and Toronto-Dominion Bank turned down interview requests, while Bank of Nova Scotia sent a statement that said it has partnered with a few venture-capital funds and that it is a founding partner of NextAI and Creative Destruction Lab, two prominent tech incubators.

Over at Bank of Montreal, Devon Dayton leads a team of a half a dozen bankers exclusively on tech focused as managing director of Technology & Innovation Banking. Like at National, the group works with an expanded list of lending benchmarks that includes recurring revenue and contracts.

“We agree with you,” Dayton said when asked whether traditional banking was too rigid for the new economy. “There is a significant opportunity here.”

The leader among the Big Five appears to be Canadian Imperial Bank of Commerce, although it chose to buy its way into the game rather than earn a place at the table. Last year, CIBC bought Wellington Financial, a boutique tech lender based in Toronto, and created CIBC Innovation Banking.

“Part of my job is to build the next generation of lenders,” said Mark McQueen, Wellington’s former chief executive and now president and executive managing director of the new CIBC unit. “Canada didn’t have a domestic champion in the lending space. No one would lend (cash) burn.”

About 30 people work for McQueen at offices in Toronto, Montreal, Vancouver, Menlo Park, Calif., Denver and Reston, a Virginian suburb of Washington, D.C. He said the bank is ready to back smaller companies that need only $1 million and points to emerging stars such as Lightspeed POS Inc., which enlisted CIBC, along with others, to support its $240-million initial public offering earlier this month.

“It’s a wonderful opportunity,” he said. “It’s exciting to see the other institutions playing catch-up.”

Catch-up is needed. The banks are an afterthought for many of Canada’s best entrepreneurs, who have learned how to get on without them.

Wrnch aspires to be a “Canadian champion,” but it’s unlikely that much of the millions of dollars the company is in the process of rounding up will actually come from Canada.

Kruszewski is focused on Silicon Valley, which is dense with venture-capital firms that are loaded with cash and unafraid to spend it. “These are the guys most interested in building a large business.”

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Economy

Cyclical Stocks That Will Lead as Economy Rebounds

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Cyclical stocks are beating the market, and should continue to outperform in 2020 as the U.S. economy rebounds, Goldman Sachs forecasts. Since late August, the S&P 500 is up by 9%, cyclical stocks have advanced by 12%, but defensive stocks have lagged with an 8% gain, per Goldman’s current US Weekly Kickstart report.

“The relative performance of Cyclicals vs. Defensives suggests the equity market is anticipating an acceleration in US economic growth during the coming months,” Goldman says. “Investors who want to capture further cyclical upside can improve risk-reward by narrowing their focus to select cyclical stocks,” they add.

Among the 24 stocks that passed Goldman’s Cyclically-Attractive Risk-Reward screen are these 10, which are expected to post a sharp acceleration in their EPS growth in 2020 compared to the previous year. Goldman for example, forecasts that CommScope Holdings Co. Inc. (COMM) will post 2020 earnings growth that’s 17 percentage points (pp) higher than this year. Other companies include Lincoln National Corp. (LNC), 79 pp higher, Harley-Davidson Inc. (HOG), 38 pp, Urban Outfitters Inc. (URBN), 30 pp, Kohl’s Corp. (KSS), 11 pp, 3M Co. (MMM), 17 pp, MetLife Inc. (MET), 12 pp, Lear Corp. (LEA), 42 pp, Prosperity Bancshares Inc. (PB), 35 pp, and Evercore Inc. (EVR), 18 pp.

Key Takeaways

  • Goldman Sachs forecasts accelerating U.S. GDP growth in 2020.
  • They identified cheap cyclical stocks with significant upside potential.
  • These stocks are highly sensitive to economic data surprises.

Significance For Investors

Goldman screened the Russell 1000 Index for stocks with high historical share price sensitivity to economic data surprises, but whose current valuations, as measured by forward P/E ratios, are significantly below both their own 5-year averages and the average for the index. Goldman excluded energy stocks, based on their forecast of flat oil prices, and semiconductor stocks, given that shipments have recovered to trend. Among the stocks listed above, Urban Outfitters and Prosperity Bancshares are the most economically-sensitive.

The median stock in the basket has a forward P/E of 11 times projected earnings over the next 12 months, versus a 5-year average of 14 times, and a current figure of 19 times for the median Russell 1000 stock. While the median stock in the basket has a projected EPS growth rate in 2020 of 7%, versus 8% for the median Russell 1000 stock, its growth rate is forecast to improve by 9 percentage points from 2019 to 2020, versus an improvement of only 3 percentage points for the median stock in the index.

Goldman sees signs that the U.S. economy is rebounding, which should give cyclical stocks additional upside. They cite recent positives in non-farm payroll growth, home sales, retail sales, the ISM Manufacturing Index, and the ISM Non-Manufacturing Index. They forecast U.S real GDP to grow by 2.1% in 2020, versus the consensus projection of 1.8%.

Motorcycle manufacturer Harley-Davidson appears to have huge upside, according to Goldman’s analysis. It has a forward P/E of 11 times, slightly below its 5-year average of 12 times. The consensus calls for 21% EPS growth in 2020, up 38 percentage points from 2019. While Q3 2019 revenue was down by 5% year-over-year (YOY) and shipments dropped by 6%, Harley beat estimates and the stock surged, Barron’s reported. About 40% of total bikes sold were overseas, with sales in Asia up by nearly 9%.

Insurance company MetLife has a forward P/E of 8 times, slightly below its 5-year average. The consensus calls for 9% EPS growth in 2020, up 12 percentage points from 2019. Revenue and EPS in Q3 2019 were up 15% and 161%, respectively. Revenues from premiums rose by 5.3%, and total revenues beat the consensus estimate by 14%, per The Wall Street Journal. However, more than half the beat was due to a gain on derivatives contracts used to hedge against lower interest rates.

Looking Ahead

To be sure, many of these companies have posted poor results in the past few years. And Goldman’s bullish view depends on an imminent economic rebound seen by few other strategists on Wall Street. If Goldman is wrong and the economy stalls or goes south, these stocks will follow close behind.

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Economy

Lebanon economy skids, jobs in firing line

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By Ellen Francis

BEIRUT (Reuters) – Karim Daya was one of the last of his friends and family still in Lebanon. Now that his job is gone, he’s packing his bags.

“That’s it. It’s just getting worse and worse, and where are we headed? Nobody knows,” said Daya, 27, a graphic design graduate. “I’ll be very sad. But there’s no future for me here.”

His feelings reflect the frustration of many young Lebanese caught in the worst economic crisis since the 1975-90 civil war.

The coffee shop chain Daya worked at had struggled even before huge protests, driven by anger at corruption and cronyism, toppled the government last month. The latest turmoil dealt the fatal blow.

He plans to go to Bulgaria, where his sisters live, to look for work – a decision he had tried to put off. But with 37% of Lebanon’s youth already unemployed, the prospects are bleak.

Across Lebanon, banks are closed and business is grinding to a halt.

Beirut’s streets are lined with empty restaurants and shuttered shops. More and more companies have either gone bust or suspended work, firing workers en masse to try to survive.

Employees at 15 companies told Reuters they had been laid off or taken a pay cut in the past month, along with dozens of colleagues.

“NO CASH”

“This economic choking reached a point where it erupted,” said Pierre Boutros, an engineer who runs a contracting company and a furniture factory. “It’s a miracle that we’ve made it this far.”

He had to cut salaries and lay off dozens of workers in recent weeks. He will likely let more people go. The firm is down to 70 staff, from a peak of 425 people before 2016.

“Credit facilities stopped, there’s no cash…Traders who used to give you time now only deliver if you pay upfront. People don’t have the money to buy. At the end of the day, money is not coming in. We shrank.”

If the crisis drags on, Boutros may freeze work “for a month or two or three until it is solved,” he said. “Then dust ourselves off and get to work again.”

The losses for companies come after years of low growth, government paralysis, regional conflict, and capital inflows from abroad drying up.

Banks, which closed for half of October, have blocked most dollar withdrawals and transfers abroad to avoid capital flight. They shut again this week after a staff strike over safety fears as people demand access to their money.

The hard currency squeeze in turn has stymied trade, pushed people to stash cash at home, and pressured the Lebanese pound’s 22-year-old peg to the dollar.

Business owners say they must make most transactions in cash on the black market, where the pound has weakened to about 20% below the pegged rate. Suppliers now demand payments in dollars or in local currency based on an unofficial rate that changes by the trader and the day.

“STUCK HERE”

“We can’t take it anymore. I can’t spend on my children,” said Ali, a sales worker and father of two whose salary was cut in half. “There will be much more chaos if things keep going this way.”

Some families have stocked up on supplies like canned food, rice, and flour. Several people said their bank told them they must repay loans in U.S. dollars.

With a tiny industrial sector and few natural resources, the economy relies on imports and cash injections from Lebanese abroad, which have fallen in recent years, pressuring central bank foreign currency reserves.

Lebanon creates six times fewer jobs than its labor market needs and exports more graduates than any country in the Arab world, a 2019 government study said.

Amale’s three children all work abroad. A 60-year-old nurse, she lost her job at a hospital that laid off 40 people. “They might close down entire floors,” she said. “I cried a bit.”

Majd Chidiac, 23, a copywriter, was also laid off. “The people who haven’t left yet will leave. And those who can’t afford to leave, they’ll get stuck here and get poorer. It’s the sad reality.”

(Additional reporting by Alaa Kanaan and Dala Osseiran; Writing by Ellen Francis,; Editing by William Maclean, Tom Perry, Philippa Fletcher, canadanewsmedia staff)

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Economy

India, RCEP and the future of economic globalisation

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Is this a backlash against trade or just another economic war? The world’s biggest trade pact was just moments from being signed when India pulled out. India’s Prime Minister Narendra Modi said the deal would hurt its farmers, businesses, workers and consumers.

The Regional Comprehensive Economic Partnership (RCEP) would have brought together the 10 members of the Association of Southeast Asian Nations (ASEAN), China, Japan, South Korea, Australia, and New Zealand.

Despite what seems to be a backlash against globalisation and the 16-month trade war between the United States and China, the remaining nations plan to push ahead with an agreement – leaving a door open for India.

Globalisation has limits, as India bolted at the prospect at the gradual elimination of tariffs which would have opened up the floodgates for cheap Chinese goods plus agricultural produce from Australia and New Zealand.

Simon MacAdam, a global economist at Capital Economics, and author of the report: Does Globalisation Have a Future? tells Al Jazeera that it is important to bear in mind that on many metrics the world may have already reached “peaked globalisation”.

“This isn’t a new thing. It hasn’t just come about because Donald Trump entered the White House and launched into a trade war against China and it hasn’t just come about because of the collapsing of various trade deals in recent years.”

He adds: “This is something that has been going on for about a decade now. Trade flows are a percentage of the world economy, are the same now pretty much as they were around the time of the financial crisis and that’s symptomatic of several factors. It’s not just about economic nationalism and politicians increasingly looking inwards. It’s also to do with the lasting overhanging effects of the financial crisis, it’s to do with changes in technology.”

How is France becoming more unequal?

Emmanuel Macron‘s decision to cut taxes for the wealthy earned him the moniker “president for the rich” and his decision to raise taxes on diesel and petrol led to the popular yellow jacket protests, which later morphed into revolt against inequality.

Just how unequal is French society? Earlier this year, Bernard Arnault briefly overtook Bill Gates to become the second-richest man in the world. The centibillionaire plans to take over the jeweller Tiffany for more than $14bn. The personal fortunes of French billionaires has grown twice as fast as their US and Chinese counterparts in 2019, according to Bloomberg.

Jacques Reland of The Global Policy Institute explains that it is more difficult than before for the poor in France to exit poverty because the problem is not just about wages, it is about access to education and jobs.

“In France, people tend to quickly demonstrate … maybe that’s why France has still … one of the best redistribution and social welfare systems in the OECD,” Reland says noting that the demonstrations have played an important role in creating awareness about issues of inequality in France.

Source: Al Jazeera News

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