TORONTO, Aug. 8 /CNW/ - CIBC (CM: TSX; NYSE) - By this time next year,
the cost of borrowing in Canada may be a full percentage point higher, and the
recent easing in oil prices will be a distant memory, notes a new report from
CIBC World Markets.
    "Investors are likely underestimating just how much (interest) rates will
rise over the next 18 months," advise Peter Buchanan and Meny Grauman, senior
economists, in the latest Canadian Portfolio Strategy Outlook.
    With U.S. inflation already at 17-year highs, policy makers in Canada and
south of the border will be forced to "shift their focus from supporting
growth to preventing a material spillover from energy and food to core
inflation," say the two economists, who expect rate hikes to begin after the
U.S. presidential election and carry through into 2009.
    Canadians though will see a smaller rate increase over the same period,
says Mr. Buchanan, as signs increasingly point to a rapid slowing in the
economy. Canada "will be in no rush to match" a forecast 200-point rise in
U.S. interest rates, he says, but "above-target inflation will make it
difficult for (Bank of Canada) Governor Carney to turn a completely blind eye
to policy changes stateside."
    As for the recent 20 per cent drop in the price of West Texas
Intermediate (WTI) crude oil, Mr. Buchanan says it's just a detour on the road
to higher prices. "Driven by emerging markets, global demand is still
advancing," he says, noting that oil consumption in the U.S. fell by 500,000
barrels per day in the first half of 2008 year-on-year but non-OECD demand
grew nearly three times that, by 1.3 million barrels. "The past year's drop in
crude demand is just a quarter of the reduction that will be needed over the
next five years to free capacity to fill the gas tanks of millions of new
motorists in places like China and India. That adjustment is unlikely to occur
without even high crude prices."
    CIBC World Markets has updated its model investment portfolio based on
how current market complexities are affecting Canada's main stock index, the
S&P/TSX Composite.
    While an "overweight" position in the materials group is maintained, a
percentage point has been shifted from base to precious metals to protect
against rising inflation. "Gold bullion is a traditional inflation hedge, and
our analysis indicates the same holds for Canadian gold and silver mining
stocks," says Mr. Buchanan. "In the absence of a sizeable move up or down in
the U.S. dollar, we expect changes in inflation to be the main force affecting
bullion prices over the balance of 2008."
    CIBC World Markets has also taken a percentage point from its
"underweight" position in bonds and added that to an already "overweight"
position in cash. The shift is a defensive move against investors
underestimating the potential for appreciable rate hikes in the coming year.
"That makes us less enthusiastic about fixed income investments," says
Mr. Buchanan.
    The model portfolio also maintains its previous "market-weight" position
in equities, and long-standing "overweight" stance in energy.
    Mr. Buchanan also recommends underweighting the financials, industrials,
telecom services and consumer discretionary sectors. A continuing tough
operating environment will make it difficult for financial shares to hang onto
all of their recent gains, he says. The skid in U.S. auto sales to 15-year
lows in June points to difficult times for auto parts makers as well.
    While CIBC has maintained its previous targets for oil of US$125/bbl this
year and US$150 in 2009, the firm has trimmed its target for natural gas to an
average US$11/Mn Btu this year and $13 in 2009. Although rapid supply growth
has dented gas recently, Mr. Buchanan notes the potential for firmer prices
down the road as climate worries force more utilities to switch to the fuel
from coal.
    The complete CIBC World Markets report is available at:
    http://research.cibcwm.com/economic_public/download/psaug08.pdf.

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