Economy

Special Report

Highlights Last month we published a report on the US corporate margins, titled “Marginally Worse.” In the report, we concluded that margins are likely to contract next year, hobbled by a slowdown in top-line growth, falling productivity, a decline in corporate pricing power, and soaring costs of labor and materials. Q3-2021 – another stellar earnings season: Companies achieved superior earnings growth and expanded margins. However, many companies guided down for Q4-2021 and 2022 citing mounting challenges, such as higher costs of labor, shipping, and raw materials. As such, deciphering which sectors are best positioned to maintain profitability is of paramount importance. Framework for Sector Margin Scorecard: We introduce a framework to rank the S&P 500 sector based on the expected resilience of their margins. It is based on four factors that provide a uniform basis for comparison across all sectors, despite their inherent differences in cost structure, effects of input costs, and ability to manage prices. The four factors driving changes in operating margins are: Sell-side operating margins forecasts as a concise summary of bottom-up company trends Pent-up demand for the sector’s products proxied by the difference between annualized sales growth in 2020 and 2021 and long-term annualized sales growth Pricing power or ability to pass on costs to customers Degree of operating leverage or ability to spread costs when sales volume increases Sectors with most resilient margins: According to this scorecard, Financials, Healthcare, Energy, and Utilities are in the best position to preserve operating margins (Table 1). Table 1Sector Margins Scorecard Energy Sector - Upgrade to Overweight The medium-term supply/demand backdrop is highly supportive of the current crude oil prices, with a Brent price target of $81 and upside price risk due to inadequate capex. Margins are still below the pre-pandemic peak and the street expects them to increase by 7.74 percentage points over the next 12 months. High operating leverage converts growing demand from the global economic recovery into profitability. Financials – Overweight: O/W Banks, EW Insurance While sell-side analysts anticipate Financials margins will decline, we believe that margins may surprise on the upside: The sector has high operating leverage, is somewhat insulated from supply chain disruptions, sees green shoots in loan growth, and its pricing power is improving. Further, the BCA house view expects the 10-year Treasury yield will rise to 2.0% - 2.25% by the end of 2022, supporting net interest margins. Healthcare - Overweight: O/W Medical Equipment and Services, EW Pharma In July we published a report on the Healthcare sector, titled “Checking The Pulse: Deep Dive Into The Health Care Sector” and upgraded it to Overweight. The Healthcare sector is one of the most resilient sectors profitability-wise as, being defensive in nature, its sales are unaffected by changes in economic demand. The street expects margins to expand by over 2% over the next 12 months. Further, there is still significant pent-up demand for the health care services, and specifically for the elective procedures – the most lucrative segment of the Healthcare Sector. Pricing power has recently picked up.    Feature Last month we published a report on US corporate profit margins, titled “Marginally Worse.” In that report, we took a close look at corporate margins by analyzing their key drivers. We have concluded that margins are likely to contract next year, driven by a slowdown in top-line growth, falling productivity, and a decline in corporate pricing power. The sales side of the margin equation will fail to offset upward cost pressures imposed by the tight labor market, soaring input prices and transportation costs, rising depreciation expense, and a potential increase in tax rates. We also developed a simple model that encapsulates all the moving parts (Chart 1). Our forecast, based on the model, reiterates that the path of least resistance for US corporate margins is lower. In this report, we will take a close look at the S&P 500 sectors to gauge their ability to grow earnings and preserve margins. We aim to rank them by their ability to maintain profitability. Q3-2021 Earnings Season: Stellar Results Operating sector margins are a focal point for investors in the current environment of soaring shipping costs, PPI readings unseen for the last forty years, and a wage-price spiral that may lead to prolonged periods of elevated inflation. While rising costs have been a concern for a while now, the Q3-2021 earnings season has surprised on the upside, with 81% of companies exceeding analyst earnings expectations. Earnings increased by 42% year-over-year and sales 17%. The two-year annualized growth rate (CAGR) for S&P 500 earnings is 14.6% and 5.7% for sales. The pandemic trough has been all but forgotten, and earnings are back to their trend (Chart 2). All sectors, except for Industrials and Consumer Discretionary, have earnings and sales that exceed pre-pandemic levels (Chart 3). Energy, Materials, and Tech enjoyed annualized eps growth over the past two years in excess of 20%. And of course, because of such robust earnings growth, most sectors have reached 2010 -2021 peak margins (Chart 4). And these are unprecedented high peaks: Most sectors’ margins are more than two standard deviations away from their five-year averages. From a statistical standpoint, Z-scores in this “zip code” indicate that the probability of even higher margins is minuscule (Chart 5). ​​​​​​​ How were companies able to achieve such stellar earnings growth and peak margins despite all the cost and supply chain disruption headwinds? The answer is strong sales growth, efficiency in managing suppliers, ability to pass on costs to customers by raising prices, and finally, high operating leverage. Here is what happened in the words of the companies: Home Depot: “Professional home improvement contractors have had huge backlogs of work to do, and impatient customers have in many cases been willing to pay up in order to get the goods needed despite supply chain problems.” Microsoft: "We do have good understanding of lead times required to meet the capacity and signals that we’re seeing. I think we do a good job managing that. It’s not to say we’re not impacted. Multiple suppliers are important to be able to manage through that, and I feel the team has done a very good job.” Union Pacific Corporation: "The Union Pacific team successfully navigated global supply chain disruptions, a major bridge outage, and additional weather events to produce strong quarterly revenue growth and financial results." Honeywell: "Our disciplined approach to productivity and pricing helped deliver a strong third quarter despite an uncertain global environment marked by supply chain constraints, increasing raw material inflation, and labor market challenges.” Coca-Cola: Our results through the first nine months of 2021," CEO Frank Harrison said, "reflect a strong balance of volume growth, price realization, and prudent expense management." However, there are also multiple cracks in the foundation, with companies such as Target and Amazon guiding lower both for Q4-2021 and 2022 citing higher costs of labor, shipping, and raw materials. As such, deciphering which sectors can maintain profitability is of paramount importance. Building A Sector Margin Scorecard So which sectors have the best ability to preserve or even expand margins over the next year? Forecasting profitability by sector is tricky, as every sector is different, and has disparate drivers of sales and costs, making cross-sectional comparisons challenging. However, we have an advantage – we are not aiming to predict a point estimate for each sector margin a year from now, but rather rank all sectors from best to worst in terms of their ability to maintain profitability. To do so, we have created a scorecard based on four factors that provide a uniform basis for comparison across all sectors, despite their inherent differences in cost structure, effects of input costs, and ability to manage prices. These factors also implicitly incorporate a potential mean reversion, i.e., high readings are unlikely to move even higher. Four factors capturing future changes in the profit margins are: Sell-side forecasts of operating margins over the next 12 months as a concise summary of bottom-up company trends Pent-up demand for the sector’s products proxied by the difference between 2019-2021 sales CAGR and long-term annualized sales growth Pricing power or ability to pass on costs to customers Degree of operating leverage or ability to spread costs when sales volume increases Factor 1: Expected Change In Operating Margins Over The Next 12 Months Top-down sector margin expectations for the next 12 months are an aggregation of the bottom-up company forecasts. Since the stock market is a market of stocks, this is an important summary of companies' trends which we incorporate into our ranking framework. In line with our view, sell-side analysts expect S&P 500 margins to contract by 1.2% over the next 12 months. Margin contraction is expected across the board with two notable exceptions: Energy and Healthcare. In the scorecard, we rank sectors based on the expected magnitude of the margin change, such that sectors with the least compression, or outright growth, are scoring better (Chart 6). Factor 2: Pent-up Demand For The Sector’s Products Most sectors have enjoyed a fantastic sales and earnings recovery this year (Chart 7), with sales exceeding pre-pandemic levels thanks to strong consumer demand. However, to gauge the level of pent-up demand for each sector, we compare 2020-2021 CAGR of sales growth with a long-term sales growth rate. We call this factor “sales growth differential.” Our thinking is that if recent sales growth is below a pre-pandemic normal, there is still demand left on the table. For example, the Consumer Discretionary sector is not yet back to the pre-pandemic “normal” pace of growth. Therefore, there is still strong demand for its products and services. This aligns well with what we were observing for months now. Fears of Covid-19 have resulted in a shift of spending from services to goods. As a result, demand for goods has overshot pre-pandemic levels, while demand for services is below its pre-pandemic trend and is enjoying a rebound (Chart 8). Chart 8There Is Still Pent-up Demand For Services In the scorecard, we assign a higher score to the sectors like Industrials and Consumer Discretionary expecting a more significant pickup in sales growth, and a lower score to the sectors with sales growth that exceeds the historical average on the concern that mean reversion may be in store: A strong bounce back in sales has already materialized, and demand has been pulled forward. Factor 3: Pricing Power Pricing Power is a proprietary BCA indicator based on the PPI and CPI indices for the 60 different industries. Industries are rolled up into sector indices and the market index.1 Sectors with higher pricing power can pass on their costs to their customers. However, at some point, they may no longer be able to raise prices as that will dampen demand for their products. As a result, after a series of price increases, companies’ pricing power wanes. Today, pricing power of companies in most sectors is already two-to-three standard deviations above the five-year average, suggesting that the probability of further gains is extremely low, i.e., one percent or less (Chart 9). The only exceptions are the Healthcare and Financial sectors whose pricing power has barely budged. What sectors do we prefer? Ones with a very high pricing power that is about to roll over or the ones whose pricing power is handicapped by outside political pressures and competitive headwinds? Since we believe that markets are driven by the second derivative, waning pricing power may have a detrimental effect on sector performance, while low and stable pricing power is already priced into expectations. To reflect this thinking, we penalize sectors whose pricing power is high relative to five years of history, expecting mean reversion. Factor 4: Degree Of Operating Leverage The degree of operating leverage (DOL), which gauges the company’s ability to spread its costs over sales, is largely determined by the cost of each marginal unit sold. This is a metric that assesses the cost structure of the sector in terms of fixed costs vs. variable costs. Sectors with higher fixed costs have higher operating leverage: It costs next to nothing to produce a marginal unit of sales, which leads to higher profitability as volume grows. We calculate DOL as the following: DOL= % Change in Operating Income/ % Change in Sales Percentage of change in operating income and sales is a five-year change to smooth out volatility and assess the longer-term relationship. Further, to obtain a comprehensive picture of the longer-term DOL, we calculate a median reading for each sector from 2010 to 2021. Median ignores extreme values and is better at capturing the “normal”. We also exclude negative and zero readings from our calculations to gauge DOL only when the companies are profitable (Chart 10). Bringing It All Together: Operating Margins Sector Scorecard We have ranked all 11 sectors along the four dimensions described above. As a result, we expect Financials, Healthcare, Energy, and Utilities to be in the best position to preserve operating margins (Table 1). Table 1Sector Margins Scorecard Energy Sector - Upgrade To An Overweight Energy profit margins are linked to underlying commodity prices. BCA Commodity and Energy strategists’ view is that the medium-term supply/demand backdrop is highly supportive of the current energy pricing dynamics and that the oil price is expected to stay high, at around its current level, for the next two years. They also note that upside price risk is increasing going forward, due to inadequate capex. Current operating margins remain well below the previous cyclical peak (Chart 11) and are expected to increase by 7.74 percentage points over the next 12 months. Although the price of oil has risen above the breakeven levels, energy companies are reluctant to invest in capex due to pressure from shareholder activists and newly found financial discipline. As a result, prices are likely to remain high until “high prices cure high prices”. In the meantime, energy producers are returning cash to shareholders – a unique bonus in the current world starved for yield. Chart 11The Street Expects the Energy Sector Margins To Expand. We concur... Oil demand is expected to stay robust on the back of the global economic recovery, especially with an increase in consumption by airlines that are resuming international travel. Case in point: ExxonMobil (XOM) “anticipates demand improvement in its downstream segment with a continued economic recovery.” Upgrade Energy from an Equal Weight to an Overweight Financials – Overweight: O/W Banks, EW Insurance 2021 was a blockbuster year for banks on the back of the booming M&A and IPO activity. However, to achieve sustainable profitability, they need to jumpstart the loan growth process. There are early signs that lending is likely to pick up next year (Chart 12). According to JPM: "The customers who typically contribute to credit card loan growth are starting to spend the savings built up from the pandemic at a faster clip, suggesting they could be getting closer to taking on debt again" Regional banks already see the green shoots. According to Key Bank:"We are pleased with the trajectory of our loan growth." Chart 12Early Signs Of Lending Picking Up  ​​​​​​​Insurance companies are faring worse than Banks. Higher costs of labor and materials result in higher replacement costs, and higher customer payouts. However, insurers succeed in incorporating these higher expenses into pricing. While sell-side analysts anticipate margins will decline, (Chart 13) we believe that they may surprise on the upside: High operating leverage, improving pricing power (Chart 14) and growing demand for loans will contribute to strong profitability. Further, BCA expects the 10-year Treasury yield will rise to 2.0% - 2.25% by the end of 2022, supporting wider net interest margins. Chart 13While The Street Has Doubts About The Financial Sector Margins, We Are Constructive... Chart 14Pricing Power Is Improving Healthcare - Overweight: O/W Medical Equipment and Services, EW Pharma In July we published a report on the Healthcare sector, titled “Checking The Pulse: Deep Dive Into The Health Care Sector.” In this report, we upgraded the Healthcare sector to an overweight. Today, we reiterate the call. First, in a slowdown stage of the business cycle, Healthcare tends to outperform. Second, the Healthcare sector is one of the most resilient sectors profitability-wise as, being defensive by nature, its sales are unaffected by changes in economic demand. The street expects margins to expand by over 2% over the next 12 months (Chart 15). Further, there is still significant pent-up demand for health care services, and specifically for elective procedures – the most lucrative segment of the Healthcare market. Pricing power has recently picked up (Chart 16). Companies concur that life is getting better: According to JNJ:” many of the hospitals and other providers have to pay more for their input, and that's going to be reflected in the economics as we go forward. And of course, all that is reflected in how we price going forward”. Chart 15The Healthcare Margins Are Posed To Widen Chart 16After A Prolonged Decline, Healthcare Pricing Power Is Finally On The Rise Consumer Staples - Underweight Our sector margins scorecard has identified Consumer Staples as a sector most susceptible to a margin squeeze. Sell-side expects margins to contract by 2% (Chart 17). This is a sector that has low operating leverage which indicates that the marginal cost of producing each additional unit is high, and is particularly vulnerable to rising input costs. At the same time pricing power of the sector is likely to wane: companies were able to raise prices throughout 2021, and now pricing power is over four standard deviations above the five-year average (Chart 18). Raising prices in the environment when fiscal stimulus is in the rearview mirror, against a backdrop of negative real wage growth, will be challenging. Walmart surely knows its customers: It decided to “absorb higher costs and keep prices low for customers all across the business.” Operating Margins of Consumer Staples are likely to contract in 2022. Chart 17Consumer Staples Margins Are Expected To Plunge Chart 18Pricing Power Is Not Sustainable Investment Implications Our analysis indicates that companies in most sectors have reached their peak margins in Q3-2021. Looking ahead, there will be distinct profitability tracks, with some sectors expanding margins while others will experience margin compression. Sectors that have higher operating leverage, pent-up demand left over from the pandemic slowdown, and whose pricing power may still increase will fare best. Our scorecard screened all the 11 sectors based on these conditions, and Financials, Energy, Healthcare, and Utilities have the best shot at maintaining and even expanding their margins. We have been overweight Financials and Healthcare in our portfolios for a while now, and the expectation of resilient profitability only reinforces our conviction. We are upgrading Energy from neutral to an overweight on the back of the expected margin expansion and high oil price target. We are still underweight Utilities which we consider as a bond proxy, unlikely to outperform in a rising rates environment. Bottom Line In this report, we introduce a framework to rank the S&P 500 sectors based on the expected resilience of their margins. Factors we consider are operating leverage, pricing power, pent-up demand, and sell-side margin expectations. As a result of the analysis, we believe that Financials, Energy, Healthcare, and Utilities are posed for strong profitability in 2022.   Irene Tunkel Chief Strategist, US Equity Strategy irene.tunkel@bcaresearch.com Appendix: Chart 19 Chart 20 Chart 21 Chart 22 Chart 23 Chart 24 Chart 25 Chart 26 Chart 27 Chart 28 Chart 29 Chart 30 Footnotes 1     Pricing power is calculated by finding the difference between how much the industry has been able to increase prices and the change in the cost of the raw materials due to inflation.  For example, for airlines, pricing power would be measured as the difference in the airfare CPI and jet fuel inflation. The exact calculation is industry specific.  Industries are rolled up into sector indices and the market index.   Recommended Allocation

Special Report

Highlights Expectations for monetary policy in Australia have turned aggressively hawkish over the past month, with markets now discounting multiple rate hikes next year. This pricing defies guidance from the Reserve Bank of Australia (RBA), which calls for no rate hikes until 2024. An update of our RBA Checklist shows that while there is a growing case for the RBA to tighten, there are still enough lingering uncertainties about the trajectory for growth (specifically, Chinese import demand) and inflation (specifically, wage growth) for the RBA to credibly remain on the sidelines next year. Fade the aggressive 2022 rate hike profile discounted in Australian interest rate markets by staying overweight Australian government bonds in global bond portfolios. Also position for a steeper yield curve (that should also benefit Australian bank stocks) and wider breakevens on Australian inflation-linked bonds. The Australian dollar offers compelling medium-term value, but play that through positions on the crosses (long AUD/NZD & AUD/CHF) with the RBA/Fed policy gap keeping a lid on AUD/USD in the near term. Feature With inflation surging across the world, investors have become hyper-sensitive to any potentially hawkish turn by central banks that have used ultra-accommodative monetary policy to fight the economic shock of the COVID-19 pandemic. Rapidly shifting interest rate expectations have triggered bouts of bond and currency volatility in countries like the UK, Canada and New Zealand over the past several months – with perhaps the biggest shock seen in Australia. Australian government bonds had enjoyed an impressive period of outperformance versus developed market peers between March and September of 2021. All that changed in late October (Chart 1), when the RBA effectively abandoned its yield curve control policy that anchored shorter-maturity bond yields with asset purchases, triggering a spike in Australian yields (the yield on the April 2024 government bond that was targeted by the RBA jumped +80bps in a single week). Interest rate expectations have rapidly been repriced higher to the point where there are now nearly four rate hikes in 2022 discounted in the Australian overnight index swap (OIS) curve – even with the RBA still formally saying that it does not expect to lift rates until 2024 (Chart 2). Chart 1The RBA Will Likely Disappoint Market Expectations Chart 2A Very Aggressive Term Structure For Aussie Interest Rates   In this Special Report, we revisit our RBA Checklist, originally introduced in January of this year, to determine if the time is indeed right to expect tighter monetary policy in Australia next year, which has implications for not only the Australian bond market but also the Australian dollar. While much of the checklist is flashing a need for the RBA to begin lifting rates, there are still enough lingering uncertainties on the outlook for inflation, the labor market and export demand to keep the central bank on hold in 2022. Checking In On Our RBA Checklist Chart 3Tentative Signs Of A Rebound In Aussie Economic Activity Before the recent Australian bond market turbulence, the potent policy mix from the RBA since the start of the pandemic – cutting the Cash Rate to 0.1%, with aggressive quantitative easing (QE) and yield curve control, all reinforced with very dovish forward guidance – helped cap market pricing for interest rate hikes. A sharp outbreak of the Delta Variant earlier this year, leading to severe economic restrictions in Australia’s major cities, also helped anchor bond yields Down Under on a relative basis compared with other countries. As RBA Governor Philip Lowe noted in his speech following the November 2 RBA policy meeting, “At the outset of the pandemic, economic policy, including monetary policy, set out to build a bridge to the other side. That other side is now clearly in sight. As [pandemic] restrictions are eased, spending is expected to pick up relatively quickly as people seek a return to a more normal way of life.” At the same time, Lowe stated that “the latest data and forecasts do not warrant an increase in the Cash Rate in 2022.” Thus, any attempt to begin unwinding RBA policy accommodation would require clear evidence that the impacts of the pandemic on economic growth, and also on inflation and financial stability, were evolving such that emergency policy settings were no longer required. On the growth front, there are already signs of recovery looking at reliable cyclical indicators like the manufacturing and services PMIs, which have rebounded by 6.2 points and 8.9 points, respectively, from the August lows (Chart 3). Yet while inflation expectations have remained fairly stable – the 5-year/5-year Australia CPI swap rate has stayed in a 2.2-2.5% range throughout 2021, despite the Delta outbreak – our RBA Monitor has rolled over, led by the economic growth components. This suggests there may be some diminished pressure for tighter monetary policy in Australia. To get a clearer picture on the outlook for Australian monetary policy over the next year, it is a good time to revisit our RBA Checklist - the most important things to monitor to determine when the RBA could be expected to turn more hawkish. We compiled the Checklist back in January, and the elements are still relevant today. 1.  The COVID-19 vaccination process goes quickly and smoothly (✓) We are placing a checkmark next to this part of our RBA Checklist. After a very slow start earlier in 2021, Australia has executed a successful vaccination campaign with 71% of the population now fully vaccinated (Chart 4). More importantly, the number of daily new infections is rolling over rapidly, and hospitalization rates remain low. This is allowing economic restrictions to be lifted quickly. Chart 4The Beginning Of The End Of Australia's 2021 COVID Crisis 2.  Private sector demand accelerates as the impulse from COVID fiscal stimulus fades (✓?) We are tentatively giving a checkmark for this component of the Checklist, but with a question mark given some of the cross-currents visible on the consumer spending side. Real consumer spending rebounded sharply in the first half of 2021 (Chart 5). However,  the Delta lockdowns weighed on consumer confidence and demand in Q3, with retail sales contracting on a year-over-year basis (both in nominal and inflation-adjusted terms). Furthermore, much of the spending boom was fueled by Australian households running down the high savings accumulated during the 2020 COVID lockdowns. The household savings rate fell from a peak of 22% in Q2 2020 to 10% in Q2 2021, the last data point available, while real disposable income growth actually fell by -2.6% on a year-over-year basis in Q2. We expect the next few consumer confidence prints to improve sharply as economic restrictions are lifted, with consumer spending following suit. This would lead us to remove the question mark next to this item of the RBA Checklist. Already, business confidence is rebounding with the NAB survey bouncing 6 points in October (Chart 6), which should translate into increased capital spending and hiring activity by Australian companies that have maintained profitability during the pandemic (top panel). Chart 5Australia's Economy Holding Up Well Despite COVID Wave Chart 6Resilient Business Confidence Will Support Employment   3. Inflation, both realized and expected, returns to the RBA’s 2-3% target (✓?) We are giving another tentative checkmark with a question mark for this entry in the RBA Checklist, given that wage growth remains modest despite high realized inflation. Australian headline CPI inflation, on a year-over-year basis, was 3.8% in Q2/2021 and 3.0% in Q3/2021, above the top of the 2-3% RBA target. Much of that inflation has come from the Transport sector, which includes the prices of both car fuel and new car prices, which contributed 1.1% to inflation in Q3 (Chart 7). The former is impacted by high oil prices and the latter is influenced by the global supply chain disruption and shortage of semiconductors used in cars. Beyond those sectors, there was a modest pickup in inflation across much of the consumption basket. Underlying inflation was more subdued but did pick up over the same Q2/Q3 period. Annual growth in the trimmed mean CPI accelerated from 1.6% in Q2 to 2.1% in Q3 - returning to the bottom half of the RBA’s target range for the first time since Q4/2015 (Chart 8). The latest RBA projections call for underlying inflation to stay in the lower half of the inflation target range in 2022 (2.25%) and 2023 (2.5%), although this is conditional on a steady tightening of the Australian labor market. The RBA is forecasting the unemployment rate, which was at 5.2% in October, to fall to 4.25% by the end of 2022 and 4% by the end of 2023. The RBA expects a tighter labor market to eventually boost wage growth to a pace consistent with underlying inflation staying within the RBA target band – which would then augur for tighter monetary policy. The central bank has repeatedly stated that annual growth in the Wage Cost Index, its most preferred measure of Australian wages, has historically been in the 3-4% range when underlying inflation was consistently between 2-3%. The Wage Cost Index grew by only 2.2% on a year-over-year basis in Q3, so still well below the pace that would convince the RBA that underlying inflation would stay within the target. This argues for a wait-and-see approach. Chart 8Wage Uncertainty Preventing A Hawkish RBA Turn Chart 9A Rising Participation Rate Will Cushion Tightening In The Labor Market RBA Governor Lowe has noted that there is still ample spare capacity in labor markets that opened up because of COVID lockdowns, which will prevent a more rapid decline in the unemployment rate even with labor demand still quite strong. On that note – the Australian labor force participation rate fell from a 2021 high of 66.3% in March of this year to 64.7% in October, a 1.6 percentage point decline that provides a buffer to absorb the strong labor demand in Australia (Chart 9). Given that Australian inflation and wages are reported less frequently (quarterly) than employment data (monthly), it is a challenge for the RBA to quickly assess to true state of inflationary pressure in the Australian economy. We see the inflation data as being far more important than labor market developments in assessing the RBA’s next move. The RBA will likely want to a few more Wage Cost Index and CPI prints before signaling any move to hike rates sooner than currently projected. The RBA will not have a complete reading on wages for the first half of 2022 until August, when the Q2/2022 Wage Cost Index is released. Thus, it would not be until well into the latter half of 2022 before any shift in hawkish messaging could plausibly occur, at the earliest, even if CPI inflation were to surprise to the upside over the same period. The RBA will need to see price inflation confirmed by wage inflation before changing its stance. In a nutshell, robust inflation prints out of Australia will need to be reinforced by strong wage data, for the RBA to move the dial closer to market expectations for interest rate hikes. 4. House price inflation is accelerating (✓) We are placing a checkmark next to this piece of our Checklist. Given Australia’s past history with periods of surging home values, signs that housing markets are overheating could prompt the RBA to consider tightening monetary policy sooner than expected. On that front, there is plenty of evidence to give the RBA anxiety. Median house prices grew at a 16.8% year-over-year rate in Q2, the fastest pace since 2003, and now appear very expensive relative to median incomes (Chart 10). Chart 10House Price Appreciation Could Moderate High prices may eventually begin to turn away buyers, as the “good time to buy a home” component of the Melbourne/Westpac consumer confidence survey has fallen sharply (bottom panel). Some of that decline may also be due to the Delta wave, as the growth rate of new building approvals has also slowed alongside rising COVID cases (top panel). The RBA will likely want to see a few post-Delta prints on Australian house prices and housing demand to determine the true underlying trends. But given the extreme readings on overall house prices, the housing market is a legitimate reason for the RBA to turn more hawkish. 5. Export demand, particularly from China, is strong (x) We are NOT placing a checkmark next to this item of our RBA Checklist. A booming external environment could lead the RBA to feel more comfortable signaling rate hikes. So far, that has been the case via a rising terms of trade, which has positive implications for the valuation of the Australian dollar, as we discuss below. But on the volume front - which is critical for the growth outlook, and RBA policy decisions, given the importance of the export sector to the Australian economy - there is reason for caution. First, the Chinese economy continues to slow down. The Chinese credit impulse, one of the key gauges of momentum in domestic activity peaked in October last year and has been rolling over since. Historically, this has been a bad omen for Aussie exports in general, as well as the performance of the AUD (Chart 11). Almost 40% of Australian exports go to China. This suggests that exports of both coal and iron ore are particularly susceptible to a further slowdown in Chinese construction activity. That said, the slowdown in China has probably passed the “maximum deceleration” phase and the odds are that, going forward, both monetary and fiscal policy will be marginally eased. This will help cushion the Australian dollar and bond yields from undershooting below current levels. Chinese bond yields have already declined, reflecting an easing in domestic financial conditions. With the Chinese bond market becoming more and more liberalized, it has become a good proxy for monetary conditions. As such, the trend in Chinese bond yields has tended to lead Chinese imports. As Chinese going concerns finance working capital requirements at lower rates, this could help stabilize import volumes (Chart 12). Chart 11A Slowdown In China Is A Risk For The AUD Chart 12Easing Financial Conditions In China Political tensions between Australia and China remain a key point of contention for higher Aussie terms of trade and an improving basic balance. However, many Australian exports are fungible and have been redirected to other countries. For example, despite China’s ban on Australian coal imports, Aussie export volumes and terms of trade remain robust, leading to a sharp improvement in Australia’s external accounts (Chart 13). This is because Australian exports to Japan, India, and South Korea have picked up as China has redirected imports of coal from Australia to other countries. Commodity prices remain resilient, but could face downside in the coming months. This is especially the case for Australian export prices, which have outperformed that of other commodity-producing nations, leading to the sharp improvement in the terms of trade (Chart 14). Part of the story has been a supply-side shock. But Australia is also relatively competitive in supplying the types of raw materials that China needs and wants such as higher-grade iron ore, which is more expensive, pollutes less, and is in high demand. Similarly, Australia is one of the largest exporters of liquefied natural gas, of which prices have been soaring in recent months amidst a global push to clean the planet. Chart 13An Improving Basic Balance Supports The AUD Chart 14Australian Terms Of Trade Are Robust Historically, the terms of trade has been one of the best explanatory variables for the AUD. That said, our model suggests that even a 15%-20% decline in forward prices will still keep the AUD undervalued relative to levels implied by terms of trade (Chart 15). While Australian export prices have overtaken their 2011 highs, the AUD remains around 35% below 2011 levels. On a longer-term basis, Australia’s terms-of-trade improvement is likely to continue. First, a boom in global infrastructure spending is likely to keep the prices of the commodities Australia exports well bid. This includes both copper and iron ore. Second, China’s clean energy policy shift away from coal and towards natural gas will buffet LNG export volumes (Chart 16). Given that reducing - if not outright eliminating - pollution is a long-term strategic goal in China, this will provide a multi-year tailwind for both cleaner ore and LNG import volumes. Chart 15A Drop In Commodities Is Well Discounted By The AUD In a nutshell, Australia sports the best improvement in both trade and current account balances in the G10 over the last few years (Chart 17). Significant investment in resource projects over the last decade are now bearing fruit, easing the external funding requirement. This has ended the 35-year-long deficit in the current account. A rising current account naturally increases the demand for the Australian dollar, even in the absence of RBA rate hikes. This argues for short-term caution, but a longer-term bullish view on the Aussie. Chart 17External Funding Will Face Competition From Domestic Savings Investment Implications A check of our RBA Checklist shows that the argument in favor of tighter monetary policy is becoming more compelling. However, the uncertainties over Australian wages and Chinese growth – both critical for the RBA’s next move - will not be resolved until the second half of 2022, so RBA tightening is not likely until the first half of 2023 at the earliest. There are a number of ways that investors can position for continued RBA dovishness in 2022. Fixed Income Bond investors should overweight Australian government bonds in global portfolios, as the RBA will not match the policy tightening expected in the US, Canada or the UK. Those overweights should be concentrated versus the US, given the lower yield beta of Australian government bonds versus US Treasuries (Chart 18). For dedicated Australian bond investors, maintain a below-benchmark duration stance as longer-maturity yields have more room to rise as the economy continues to recover from the Delta wave. In addition, favor inflation-linked debt over nominal bonds, as both survey-based inflation expectations and the fair value from our 10-year breakeven spread model are rising. Wider breakevens pushing up longer-term yields, and a dovish RBA capping shorter-maturity bond yields, both point to a bearish steepening of the government bond yield curve over the next 6-12 months (Chart 19). Chart 18Remain Overweight Aussie Bonds... Chart 19...And Position For A Steeper Yield Curve Currency A lot of pessimism is already embedded in the Aussie dollar, making it a potent candidate for a powerful mean-reversion rally. One catalyst will be a continued reversal in COVID-19 infection rates. The second is valuation. The Aussie is at fair value on a PPP basis, but remains very cheap on a terms-of-trade basis. Historically, terms of trade have had much better explanatory power for the direction of the Aussie, compared to relative real interest rates or fluctuations from purchasing power parity. Even accounting for falling commodity prices, the valuation margin of safety makes the AUD a good bet over a cyclical horizon, though in the very near-term, it is fraught with risks. We have a limit-buy on AUD/USD at 70 cents, which could be a capitulation level. On the upside, if the Aussie closes its undervaluation gap vis-à-vis terms of trade as it has done historically, this will lift AUD/USD towards 85 cents and beyond. Finally, sentiment on the Aussie is very depressed. Extreme short positioning suggests a dearth of buyers and the potential for a short covering rally (Chart 20). On the crosses, we are already long AUD/NZD, but AUD/CHF and AUD/CAD should also be winners in any Aussie short squeeze. Chart 20Lots Of Shorts In The Aussie Equities 37% of the MSCI Australia index is financials, while 16% is materials. Therefore, a call on the Australian equity market is a call on banks and resources. On the resource front, Australian producers will benefit from a pickup in natural gas exports and a shift away from coal. Therefore, the strategy will be to overweight Australian LNG producers in a resource portfolio. On banks, a relatively dovish RBA will keep the Australian yield curve steep. Meanwhile, banks have still underperformed the improvement in the interest rate term structure. A bottoming economy will also benefit banks, as investors start to price in the prospect for interest rate hikes beyond 2023 (Chart 21). Chart 21A Steeper Yield Curve Will Benefit Banks   Robert Robis, CFA Chief Fixed Income Strategist rrobis@bcaresearch.com Chester Ntonifor Foreign Exchange Strategist chestern@bcaresearch.com   Recommendations Duration Regional Allocation Spread Product Tactical Trades GFIS Model Bond Portfolio Recommended Positioning     Active Duration Contribution: GFIS Recommended Portfolio Vs. Custom Performance Benchmark The GFIS Recommended Portfolio Vs. The Custom Benchmark Index

Dear Client, There will be no report next week as we will be working on our Quarterly Strategy Outlook, which will be published the following week. In the meantime, please keep an eye out for BCA Research’s Annual Outlook, featuring long-time BCA client Mr. X, who visits towards the end of each year to discuss the economic and financial market outlook for the year ahead. Best regards, Peter Berezin Chief Global Strategist Highlights Inflation in the US, and to a lesser extent, in other major economies, will follow a “two steps up, one step down” trajectory of higher highs and higher lows.  While inflation will fall in the first half of next year as goods prices stabilize, an overheated labor market will cause inflation to re-accelerate into 2023. The Fed will be slow to respond to high inflation, implying that monetary policy will remain accommodative next year. This should help propel stocks to new highs. Chinese stimulus will offset much of the drag from a weaker domestic property market. The dollar is a high momentum currency, so we wouldn’t bet against the greenback in the near term. Nevertheless, with “long dollar” now a consensus trade, we would position for a weaker dollar over a 12-month horizon. A depreciating dollar next year should help non-US equities, especially beleaguered emerging market stocks. The dollar will strengthen anew in 2023, as the Fed is forced to turn more hawkish, and global equities begin to buckle. From Ice To Fire In past reports, we have contended that inflation in the US, and to a lesser extent, in other major economies, would follow a “two steps up, one step down” trajectory of higher highs and higher lows.  We are currently near the top of those two steps. The pandemic ushered in a major re-allocation of spending from services to goods (Chart 1). US inflation should dip over the next 6-to-9 months as the demand for goods decelerates and supply-chain disruptions abate. Chart 1The Pandemic Caused A Major Shift In Spending From Services To Goods CHart 2Those With Low Paid Jobs Are Enjoying Stronger Wage Gains The respite from inflation will not last long, however. The labor market is heating up. So far, most of the wage growth has been at the bottom end of the income distribution (Chart 2). Wage growth will broaden over the course of 2022, setting the scene for a price-wage spiral in 2023. We doubt that either fiscal or monetary policy will tighten fast enough to prevent such a spiral from emerging. As a result, US inflation will surprise meaningfully on the upside. Our view has no shortage of detractors. In this week’s report, we address the main counterarguments in a Q&A format:   Q: What makes you think that service spending will rebound fast enough to offset the drag from weaker goods consumption? Chart 3Inventory Restocking Could Be A Source Of Growth Next Year A: There is still a lot of pent-up demand for goods. Try calling any auto dealership. You will hear the same thing: “We have nothing in stock now, but if you put in an order today, you might get a vehicle in 3-to-6 months.” Thus, durable goods sales are unlikely to weaken quickly. And with inventories near record low levels, firms will need to produce more than they sell (Chart 3). Inventory restocking will support GDP growth. As for services, real spending in the US grew by 7.9% in the third quarter, an impressive feat considering that this coincided with the Delta-variant wave. Service growth will stay strong in the fourth quarter. The ISM non-manufacturing index jumped to a record high of 66.7 in October, up from 61.9 in September. The Atlanta Fed’s GDPNow model is tracking real PCE growth of 9.2% in Q4. Goldman’s Current Activity Indicator has hooked up (Chart 4). Q: Aren’t you worried that spending on services might stall next year? A: Not really. Chart 5 shows the percentage change in real spending for various types of services from January 2020 to September 2021, the last month of available data. The greatest decline in spending occurred in those sectors that were most directly affected by the pandemic. Notably, spending on movie theaters, amusement parks, and live entertainment in September was still down 46% on a seasonally-adjusted basis compared to last January. Hotel spending was down 22%. Spending on public transport was down 26%. Only spending on restaurants was back to normal. The number of Covid cases has once again started to trend higher in the US, so that path to normalization will take time (Chart 6). Nevertheless, with vaccination rates still edging up and new antiviral drugs set to hit the market, it is reasonable to assume that many of the hardest-hit service categories will recover next year.   Q: What about medical services? Some have speculated that the shift to telemedicine will require much lower spending down the road. A: It is true that spending on outpatient services in September was $43 billon below pre-pandemic levels. However, over two-fifths of that shortfall was in dental services, which are not amenable to telemedicine. Spending on dental services was down 16% from its January 2020 levels, compared to 6% for physician services. A more plausible theory is that many people are still worried about venturing to the doctor’s or dentist’s office. In addition, a lot of elective procedures were canceled or postponed due to the pandemic. Clearing that backlog will lift medical spending next year. Chart 7The Flow Of Savings Has Fallen Back To Pre-Pandemic Levels But The Stock Of Accumulated Savings Remains High In any case, the cost of a telemedicine appointment is typically no different from an in-person one. And, to the extent that telemedicine does become more widespread, this could encourage more people to seek medical assistance. Lastly, even if spending on certain services does not fully recover after the pandemic, this will probably simply result in a permanent increase in spending on goods. The only way that overall consumer spending will falter is if the savings rate rises, which seems unlikely to us. Q: Why do you say that? The savings rate has been very high throughout the pandemic. A: The savings rate did spike during the pandemic, but that was mainly because fewer services were available, and because households were getting transfer payments from the government. Now that these payments have ended, the savings rate has dropped to 7.5%, roughly where it was prior to the pandemic. There is good reason to think the savings rate will keep falling next year. Households are sitting on $2.3 trillion in excess savings, most of which reside in bank deposits (Chart 7). As they run down those savings, consumption will rise in relation to income. The household deleveraging cycle is over. After initially plunging during the pandemic, credit card balances are rising (Chart 8). Banks are eager to make consumer loans (Chart 9). Household net worth has risen by over 100% of GDP since the start of the pandemic (Chart 10). As we discussed three weeks ago, the wealth effect alone could boost annual consumer spending by up to 4% of GDP. Chart 8APost-GFC Deleveraging Has Ended And People Are Swiping Credit Cards Again Following The Pandemic Scare Chart 8BPost-GFC Deleveraging Has Ended And People Are Swiping Credit Cards Again Following The Pandemic Scare   Chart 9Banks Are Easing Credit Standards For Consumer Loans Chart 10A Record Rise In Household Net Worth   Q: Household wealth could fall as the Fed starts tapering and eventually raising rates. Wouldn’t that cool the economy? A: The taper is a fait accompli, and markets are already pricing in rate hikes starting in the second half of next year. If the Fed were to signal its intention to raise rates more quickly than what has been priced in, then home prices and stocks could certainly weaken. We do not think the Fed will pivot in a more hawkish direction before the end of next year, however. The Fed’s estimate of the neutral rate is only 2.5%, a big step down from its estimate of 4.25% in 2012. The market’s view is broadly in line with the Fed’s (Chart 11).  Despite the upward move in realized inflation, long-term inflation expectations remain in check – expected inflation 5-to-10 years out in the University of Michigan survey has increased from 2.3% in late 2019 to 2.9%, bringing it back to where it was between 2010 and 2015. The 5-year/ 5-year forward TIPS breakeven inflation rate is near the bottom end of the Fed’s comfort zone (Chart 12). Chart 11The Fed And Investors Still Believe In Secular Stagnation Chart 12Long-Term Inflation Expectations Are Not Yet A Concern For The Fed   Q: What about fiscal policy? Isn’t it set to tighten sharply next year? A: The US budget deficit will decline next year. However, this will happen against the backdrop of strong private demand growth. Moreover, budget deficits are likely to remain elevated in the post-pandemic period. This week, President Biden signed a $1.2 trillion infrastructure bill into law, containing $550 billion in new spending. BCA’s geopolitical strategists expect Congress to pass a $1.5-to-$2 trillion social spending bill using the reconciliation process. All in all, the IMF foresees the US cyclically-adjusted primary budget deficit averaging 4.9% of GDP between 2022 and 2026, compared to 2.0% of GDP between 2014 and 2019 (Chart 13). Chart 14While Overall Consumption Has Recovered, Business Spending and Direct Government Expenditures Remain Below Trend   It should also be noted that government spending on goods and services has been quite weak over the past two years (Chart 14). The budget deficit surged because transfer payments exploded. Unlike direct government spending, which is set to accelerate over the next few years, households saved a large share of transfer payments. Thus, the fiscal multiplier will increase next year, even as the budget deficit shrinks.   Q: We have focused a lot on demand, but what about supply? There are over 4 million fewer Americans employed today than before the pandemic and yet the job openings rate is near a record high. Chart 15Despite A Notable Decline, There Are Still A Lot Of People Avoiding Work Because Of Worries About Contracting Or Transmitting Covid A: Some people who left the workforce will regain employment. According to the Census Bureau’s Household Pulse Survey, there are still 2.5 million people not working because they are afraid of catching or transmitting the virus (Chart 15). That said, some workers may remain sidelined for a while longer. The very same survey also revealed that about 8 million of the 100 million workers currently subject to vaccine mandates say that “they will definitely not get the vaccine.” In addition, about 3.6 million workers have retired since the start of the pandemic, about 1.2 million more than one would have expected based on pre-existing demographic trends. Most of these retirees will not work again. Lifestyle choices may keep others from seeking employment. Female labor participation has declined much more during the pandemic and than it did during the Great Recession (Chart 16). While many mothers will re-enter the labor force now that schools have reopened, some may simply choose to stay at home. The bottom line is that the pandemic has reduced labor supply at a time when labor demand remains very strong. This is likely to exacerbate the labor shortage.   Q: Any chance that higher productivity will offset some of the damage to the supply side of the economy from decreased labor participation? A: US labor productivity did increase sharply during the initial stages of the pandemic. However, that appears to have been largely driven by composition effects in which low-skilled, poorly-paid service workers lost their jobs. As these low-skilled workers have returned to the labor force, productivity growth has dropped. The absolute level of productivity declined by 5.0% at an annualized rate in the third quarter, leading to an 8.3% increase in labor costs. It is telling that productivity growth has been extremely weak outside the US (Chart 17). This gives weight to the view that the pandemic-induced changes in business practices have not contributed to higher productivity, at least so far. It is also noteworthy that a recent study of 10,000 skilled professionals at a major IT company revealed that work-from-home policies decreased productivity by 8%-to-19%, mainly because people ended up working longer. Increased investment spending should eventually boost productivity. Core capital goods orders, which lead corporate capex, are up 18% since the start of the pandemic (Chart 18). However, the near-term impact of increased investment spending will be to boost aggregate demand, stoking inflation in the process. Chart 18US Capex Should Pick Up   Q: We have spoken a lot about the US, but the world’s second biggest economy, China, is facing a massive deflationary shock from the implosion of its real estate market. Could that deflationary impulse potentially cancel out the inflationary impulse from an overheated US economy? A: You are quite correct that inflation has risen the most in the US. While inflation has picked up in Europe, this mainly reflects base effects (Chart 19). Inflation in China has fallen since the start of the pandemic despite booming exports. There are striking demographic parallels between China today and Japan in the early 1990s. The bursting of Japan’s property bubble corresponded with a peak in the country’s working-age population (Chart 20). China’s working-age population has also peaked and is set to decline by more than 40% over the remainder of the century. Chart 19The US Stands Out As The Inflation Leader Chart 20Demographic Parallels Between China And Japan That said, there are important differences between the two nations. In 1990, Japan was a rich economy; output-per-hour was nearly 70% of US levels. China is still a middle-income economy; output-per-hour is only 20% of US levels (Chart 21). China has the ability to outgrow some of its problems in a way that Japan did not. In addition, Chinese policymakers have learned from some of Japan’s mistakes. They have been trying to curb the economy’s dependence on property development; real estate development investment has fallen from 12% of GDP in 2014 to less than 10% of GDP (Chart 22). China is still building too many new homes, but unlike Japan in the 1990s, the government is likely to pursue stimulus measures to compensate for a shrinking property sector. This should keep the economy from entering a deflationary slump. Chart 22Real Estate Investment Has Peaked In China   Q: Let’s bring this back to markets. What is the main investment takeaway from your view? A: The main takeaway is that investors should remain bullish on stocks and other risk assets for the next 12 months but be prepared to turn more cautious in 2023. The neutral rate of interest in the US is higher than generally assumed. This means that monetary policy is currently more accommodative than widely believed, which is good for stocks. Unfortunately, it also means that a policy error is likely: The Fed will keep rates too low for too long, causing the economy to overheat. Chart 23Bank Stocks Tend To Outperform When Yields Rise This overheating will not be evident over the next six months. As we noted at the outset of this report, the US economy is currently at the top of the proverbial two steps in our projected “two steps up, one step down” trajectory for inflation. The cresting in durable goods inflation will provide a temporary respite from inflationary worries, even as the underlying long-term driver of higher inflation – an increasingly tight labor market – gains traction. Strong consumer demand and persistent labor shortages will incentivize companies to invest in new capacity and automate production. This will benefit industrial stocks and select tech names. Rising bond yields will also boost bank shares (Chart 23). A country’s current account balance is simply the difference between what it saves and what it invests. With savings on the downswing and investment on the upswing, the US will find it increasingly difficult to finance its burgeoning trade deficit. The US dollar is a high momentum currency, so we wouldn’t necessarily bet against the greenback in the near term (Chart 24). Nevertheless, with “long dollar” now a consensus trade, we would position for a weaker dollar over a 12-month horizon (Chart 25). Chart 25Long Dollar Is A Crowded Trade   Chart 26A Depreciating Dollar Next Year Should Help Non-US Equities A depreciating dollar next year should help non-US equities, especially beleaguered emerging markets (Chart 26). The dollar will strengthen anew in 2023, as the Fed is forced to turn more hawkish, and global equities begin to buckle.   Peter Berezin Chief Global Strategist pberezin@bcaresearch.com Global Investment Strategy View Matrix Special Trade Recommendations Current MacroQuant Model Scores

Highlights Remain neutral on the US dollar. A breakout of the dollar would cause a shift in strategy. Russia’s conflict with the West is heating up now that Germany has delayed the certification of the Nord Stream II pipeline. As long as the focus remains on the pipeline, the crisis will dissipate sometime in the middle of next year. But there is an equal chance of a massive escalation of strategic tensions. Our GeoRisk Indicators will keep rising in Europe, negatively affecting investor risk appetite. Stick with DM Europe over EM Europe stocks. If the dollar does not break out, South Korea and Australia offer cyclical opportunities. Turkish and Brazilian equities will not be able to bounce back sustainably in the midst of chaotic election cycles and deep structural problems. Rallies are to be faded.  Feature We were struck this week by JP Morgan CEO Jamie Dimon’s claim that his business will “not swayed by geopolitical winds.”1  If he had said “political winds” we might have agreed. It is often the case that business executives need to turn up their collars against the ever-changing, noisy, and acrimonious political environment. However, we take issue with his specific formulation. Geopolitical winds cannot shrugged off so easily – or they are not truly geopolitical. Geopolitics is not primarily about individual world leaders or topical issues. It is primarily about things that are very hard and slow to change: geography, demography, economic structure, military and technological capabilities, and national interests. This is the importance of having a geopolitically informed approach to macroeconomics and financial markets: investment is about preserving and growing wealth over the long run despite the whirlwind of changes affecting politicians, parties, and local political tactics.  In this month’s GeoRisk Update we update our market-based, quantitative geopolitical risk indicators with a special focus on how financial markets are responding to the interplay of near-term and cyclical political risks with structural and tectonic pressures underlying a select group of economies and political systems. Is King Dollar Breaking Out? Chart 1King Dollar Breaking Out? Our first observation is that the US dollar is on the verge of breaking out and rallying (Chart 1). This potential rally is observable in trade-weighted terms and especially relative to the euro, which has slumped sharply since November 5th. Our view on the dollar remains neutral but we are watching this rally closely. This year was supposed to be a year in which global growth recovered from the pandemic on the back of vaccination campaigns, leading the counter-cyclical dollar to drop off. The DXY bounce early in the year peaked on April 2nd but then began anew after hitting a major resistance level at 90. The United States is still the preponderant power within the international system. The USD remains the world’s leading currency by transactions and reserves. The pandemic, social unrest, and contested election of 2020 served as a “stress test” that the American system survived, whether judging by the innovation of vaccines, the restoration of order, or the preservation of the constitutional transfer of power. Meanwhile Europe faces several new hurdles that have weighed on the euro. These include the negative ramifications of the slowdown in Asia, energy supply shortages, a new wave of COVID-19 cases, and the partial reimposition of social restrictions. Moreover the Federal Reserve is likely to hike interest rates faster and higher than the European Central Bank over the coming years. Potential growth is higher in the US than Europe and the US growth is supercharged by fiscal stimulus whereas Europe’s stimulus is more limited. Of course, the US’s orgy of monetary and fiscal stimulus and ballooning trade deficits raise risks for the dollar. Global growth is expected to rotate to other parts of the world over the coming 12 months as vaccination spreads. There is still a chance that the dollar’s bounce is a counter-trend bounce and that the dollar will relapse next year. Hence our neutral view. Yet from a geopolitical perspective, the US population and economy are larger, more dynamic, more innovative, safer, and more secure than those of the European Union. The US still exhibits an ability to avoid the reckoning that is overdue from a macroeconomic perspective.  Russia-West Conflict Resumes In our third quarter outlook we argued that European geopolitical risk had hit a bottom, after coming off the sovereign debt crisis of 2010-15, and that geopolitical risk would begin to rise over the long term for this region. Our reasoning was that the markets had fully priced the Europeans’ decision to band together in the face of risks to the EU’s and EMU’s integrity. What markets would need to price going forward would be greater risks to Europe’s stability from a chaotic external environment that Europe lacked the willingness or ability to control: conflict with Russia, immigration, terrorism, and the slowdown in Asia. In particular we argued that Russia’s secular conflict with the West would resume. US-Russia relations would not improve despite presidential summits. The Nord Stream II pipeline would become a lightning rod for conflict, as its operation was more likely to be halted than the consensus held. (German regulators paused the approval process this week, raising the potential for certification to be delayed past the expected March-May months of 2022.) Most importantly we argued that the Russian strategy of political and military aggression in its near-abroad would continue since Russia would continue to feel threatened by domestic instability at home and Western attempts to improve economic integration and security coordination with former Soviet Union countries.  Chart 2Putin Showdown With West To Escalate Further For this reason we recommended that investors eschew Russian equities despite a major rally in commodity prices. Any rally would be undercut by the slowing economy in Asia or geopolitical conflicts that frightened investors away from Russian companies, or both. Today the market is in the process of pricing the impact on Russian equities from commodity prices coming off the boil. But politics may also have something to do with the selloff in Russian equities (Chart 2). The selloff can continue given still-negative hard economic data from Asia and the escalation of tensions around Russia’s strategically sensitive borders: Ukraine, Belarus, Poland, Lithuania, Moldova, and the Black Sea. The equity risk premium will remain elevated for eastern European markets as a result of the latest materialization of country risk and geopolitical risk – the long running trend of outperformance by developed Europe has been confirmed on a technical resistance level (Chart 3). Our mistake was closing our recommendation to buy European natural gas prices too early this year. Chart 3Favor DM Europe Amid Russia Showdown In early 2021, our market-based geopolitical risk indicator for Russia slumped, implying that global investors expected a positive diplomatic “reset” between the US and Russia. We advised clients to ignore this signal and argued that Russian geopolitical risk would take back off again. We said the same thing when the indicator slumped again in the second half of the year and now it is clear the indicator will move sharply higher (Chart 4). The point is that geopolitics keeps interfering with investors’ desire to resuscitate Russian equities based on macro and fundamental factors: cheap valuations, commodity price rises, some local improvements in competitiveness, and the search for yield.   Chart 4Russian GeoRisk Indicator - Risks Not Yet Priced Russia may or may not stage a new military incursion into Ukraine – the odds are 50/50, given that Russia has invaded already and has the raw capability in place on Ukraine’s borders. The intention of an incursion would be to push Russian control across the entire southern border of Ukraine to Odessa, bringing a larger swathe of the Black Sea coast under Moscow’s control in pursuit of Russia’s historic quest for warm water ports. The limitations on Russia are obvious. It would undertake new military and fiscal burdens of occupation, push the US and EU closer together, provoke a stronger NATO defense alliance, and invite further economic sanctions. Yet similar tradeoffs did not prevent Russia from taking surprise military action in Georgia in 2008 or Ukraine in 2014. After the past 13 years the US and EU are still uncoordinated and indecisive. The US is still internally divided. With energy prices high, domestic political support low, and Russia’s long-term strategic situation bleak, Moscow may believe that the time is right to expand its buffer territory further into Ukraine. We cannot rule out such an outcome, now or over the next few years. If Russia attacks, global risk assets will suffer a meaningful pullback. It will not be a bear market unless the conflict spills out beyond Ukraine to affect major economies. We have not taken a second Ukraine invasion as our base case because Russia is focused primarily on getting the Nord Stream pipeline certified. A broader war would prevent that from happening. Military threats after Nord Stream is certified will be more worrisome.  A less belligerent but still aggressive move would be for Russia to militarize the Belarussian border amid the conflict with the EU over Belarus’s funneling of Middle Eastern migrants into the EU via Poland and Lithuania. A closer integration of Russia’s and Belarus’s economies and militaries would fit with Russia’s grand strategy, improve Russia’s military posture in eastern Europe, and escalate fears of eventual war in Poland and the Baltic states. The West would wring its hands and announce more sanctions but may not have a higher caliber response as such a move would not involve hostilities or the violation of mutual defense treaties. This outcome would be negative but also digested fairly quickly by financial markets. Our European GeoRisk Indicators (see Appendix) are likely to respond to the new Russia crisis, in keeping with our view that European geopolitical risk will rise in the 2020s: German risk has dropped off since the election but will now revive at least until Nord Stream II is certified. If Russia re-invades Ukraine it will rise, as it did in 2014.  French risk was already heating up due to the presidential election beginning April 10 (first round) but now may heat up more. Not that Russia poses a direct threat to France but more that broader regional insecurities would hurt sentiment. The election itself is not a major risk to investors, though terrorist attacks could tick up. President Macron has an incentive to be hawkish on a range of issues over the next half year. The UK is in the midst of the Russia conflict. Its defense cooperation with Ukraine and naval activity in the Black Sea, such as port calls in Georgia, have prompted Russia’s military threats – including a threat to bomb a Royal Navy vessel earlier this year. Not to mention ongoing complications around Brexit. The Russian situation is by far the most significant factor. Spain is at a further remove from Russia but its risks are rising due to domestic political polarization and the rising likelihood of a breakdown in the ruling government. Bottom Line: We still favor these countries’ equities to those of eastern Europe but our risk indicators will rise, suggesting that geopolitical incidents could cause a setback for some or all of these markets in absolute terms. A pickup in Asian growth would be beneficial for developed European assets so we are cyclically constructive. We remain neutral on the USD-EUR though a buying opportunity may present itself if and when the Nord Stream II pipeline is certified.  Korea: Nobody’s Heard From Kim In A While Chart 5Korea GeoRisk Indicator Still Elevated Geopolitical risk has risen in South Korea due to COVID-19 and its aftershocks, including supply kinks, shortages, and policy tightening by the giant to the West (Chart 5). South Korea’s geopolitical risk indicator is still very high but not because of North Korea. Our Dear Leader Kim Jong Un has not been overly provocative, although he has restarted the cycle of provocations during the Biden administration. Yet South Korean geopolitical risk has skyrocketed. The problem is that investors have lost a lot of appetite for South Korea in a global environment in which demographics are languishing, globalization is retreating, a regional cold war is developing, and debt levels are high. Domestic politics have become more redistributive without accompanying reforms to improve competitiveness or reform corporate conglomerates. The revival of the South Korean conservatives ahead of elections in 2022 suggests political risk will remain elevated. Of course, North Korea could still move the dial. A massive provocation, say something on the scale of the surprise naval attack on the Chonan in the wake of the global financial crisis in spring of 2010, could push up the risk indicator higher and increase volatility for the Korean won and equities. Kim could take such an action to insist that President Biden pay heed to him, like President Trump did, or at least not ignore him, in a context in which Biden is doing just that due to far more pressing concerns. Biden would be forced to reestablish a credible threat.  Still, North Korea is not the major factor today. Not compared to the economic and financial instability in the region. At the same time, if global growth surprises pick up and the dollar does not break out, Korea will be a beneficiary. We have taken a constructive cyclical view, although our specific long Korea trade has not worked out this year. Korean equities depreciated by 11.2% in USD terms year-to-date, compared to 0.3% for the rest of EM. Structurally, Korea cannot overcome the negative demographic and economic factors mentioned above. Geopolitically it remains a “shrimp between two whales” and will fail to reconcile its economic interests with its defense alliance with the United States.   Australia: Wait On The Dollar Chart 6Australian GeoRisk Indicator Still Elevated Australian geopolitical risk has not fallen back much from this year’s highs, according to our quant indicator (Chart 6). Global shortages and a miniature trade war were the culprits of this year’s spike. The advantage for Australia is that commodity prices and metals look to remain in high demand as the world economy fully mends. Various nations are implementing large public investment programs, especially re-gearing their energy sectors to focus more on renewables. The reassertion of the US security alliance is positive for Australia but geopolitical risk is rising on a secular basis regardless.   Cyclically we would look positively toward Australian stocks. Yet they have risen by 4.3% in common currency terms this year so far, compared to the developed market-ex-US average of 11.0%. Moreover the Aussie’s latest moves confirm that the US dollar is on the verge of breaking out which would be negative for this bourse. Structurally Australia will go through a painful economic transition but it will be motivated to do so by the new regional cold war and threats to national security. The US alliance is a geopolitical positive.   Turkey And Brazil The greenback’s rally could be sustainable not only because of the divergence of US from Asian and global growth but also because of the humiliating domestic political environment of most prominent emerging markets. Chart 7Emerging Market Bull Trap We booked gains our “short” trade of the currencies of EM “strongmen,” such as Brazil’s Jair Bolsonaro and Turkey’s Recep Erdogan, earlier this year. But we noted that we still hold a negative view on these economies and currencies. This is especially true today as contentious elections approach in both countries in 2022 and 2023 respectively (Chart 7). Turkey is trapped into an inflation spiral of its own design, which enervates the economy, as our Emerging Markets Strategy has shown. It is also trapped in a geopolitical stance in which it has repeatedly raised the stakes in simultaneous clashes with Russia, the US, Europe, Israel, the Arab states, Libya, and Iran. Russia’s maneuvers in the Black Sea are fundamentally threatening to Turkey, so while Erdogan has maintained a balance with Russia for several years, Russian aggression could upset that balance. Turkey has backed off from some recent confrontations with the West lately but there is not yet a trend of improvement. The COVID-19 crisis gave Erdogan a badly needed bump in polls, unlike other EM peers. But this simply reinforces the market’s overrating of his odds of being re-elected. In reality the odds of a contested election or an election upset are fairly high. New lows in the lira show that the market is reacting to the whole negative complex of issues around Turkey. But the full weight of the government’s mismanaging of economic policy to stay in power and stay geopolitically relevant has not yet been felt. The election is still 19 months away. A narrow outcome, for or against Erdogan and his party, would make things worse, not better. Brazil’s domestic political and geopolitical risks are more manageable than Turkey’s. But it faces a tumultuous election in which institutional flaws and failures will be on full display. Investors will try to front-run the election believing that former President Luiz Inácio Lula da Silva will restore the good old days. But we discourage that approach. We see at least two massive hurdles for the market: first, Brazil has to pass its constitutional stress test; second, the next administration needs to be forced into difficult decisions to preserve growth and debt management. These will come at the expense of either growth or the currency, according to our Emerging Markets Strategy. We still prefer Mexican stocks. Geopolitically, Turkey will struggle with Russia’s insecurity and aggression, Europe’s use of economic coercion, and Middle Eastern instability. Brazil does not have these external problems, although social stability will always be fragile. Investment Takeaways The dollar is acting as if it may break out in a major rally. Our view has been neutral but our generally reflationary perspective on the global economy is being challenged. Russia’s conflict with the West will escalate, not de-escalate, in the wake of Germany’s decision to delay the certification of the Nord Stream II pipeline. Russia has greater leverage now than usual because of energy shortages. A re-invasion of Ukraine cannot be ruled out. But the pipeline is Russia’s immediate focus. Investors have seen conflict in Ukraine so they will be desensitized quickly unless the conflict spreads into new geographies or spills out to affect major economies. The same goes for trouble on Belarus’s borders. Stick with long DM Europe / short EM Europe. Opportunities may emerge to become more bullish on the euro and European equities if and when the Nord Stream II situation looks to be resolved and Asian risks to global growth are allayed. If the dollar does not break out, South Korea and Australia are cyclical beneficiaries. Whereas “strongman” regimes will remain volatile and the source of bull traps, especially Turkey.   Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com Footnotes 1  “JP Morgan chief becomes first Wall Street boss to visit during pandemic,” Financial Times, November 15, 2021, ft.com. Strategic View Open Tactical Positions (0-6 Months) Open Cyclical Recommendations (6-18 Months) Open Trades & Positions Section II: Appendix: GeoRisk Indicator Russia United Kingdom Germany France Italy Canada Spain Korea Turkey Brazil Australia South Africa Section III: Geopolitical Calendar

Dear Client, We had an error in our oil balances/forecasts report from 18 November 2021 resulting from a double counting of select US onshore production figures.  This has been corrected below. Highlights Higher oil production will restrain price increases in the short term, and give the impression the burst in inflation is transitory. Re-opening of airline travel and releasing of pent-up demand will absorb much of the higher output by year-end 2022. We are doubtful a US SPR release is forthcoming, as its impact would be trivial. Likewise, we do not expect the US to limit or ban exports of crude oil again, as it would unbalance markets. We are maintaining our Brent forecasts for 2022 and 2023 at $80 and $81/bbl. We again include a caveat, noting upside price risk is increasing going forward, due to inadequate capex (Chart of the Week). Stronger inflation prints going into 1Q22 will test the conviction underpinning central bankers' view that the current bout of price increases is transitory. If inflation appears to be more persistent going into 2H22, the Fed and other systemically important central banks likely will signal earlier-than-expected policy-rate hikes. This would be negative for commodities, as it would raise debt-service costs and investment hurdle rates, and reduce consumption. Higher oil prices and tighter monetary policy will temper demand. If capex is not forthcoming, however, prices will have to rise sharply to destroy demand. Feature It hardly deserves mention that the US has been hectoring the leadership of OPEC 2.0 to increase oil production, in order to reduce the cost of gasoline and home-heating fuels going into the winter … And, there's a mid-term election next year. The Biden administration also has been threatening – if that is the proper term – to release barrels from the US Strategic Petroleum Reserve (SPR), and reportedly asked China to consider a similar release.1 The leadership of OPEC 2.0, on the other hand, is flagging the risk to stronger oil prices from higher production next year. Much to the chagrin of the Biden administration, the coalition led by the Kingdom of Saudi Arabia (KSA) and Russia will not be increasing output by more than the 400k b/d it agreed to earlier this year. OPEC 2.0 will keep this up until June or July 2022, when most of its output sidelined by the COVID-19 pandemic will have been returned to the market. We expect the core Gulf-state producers – mostly KSA – will want to maintain ~ 3mm b/d of spare capacity thereafter. Chart of the WeekStable Oil-Price Trajectory Chart 2OPEC 2.0 Production Continues To Lift Higher Oil Output Expected Overall OPEC 2.0 production is expected to total 52.3mm b/d next year and 53.1mm b/d in 2023 (Chart 2). Most of the increase in the coalition's production will be accounted for by its core producers – KSA, Russia, Iraq, the UAE and Kuwait (Table 1). The "Other Guys" – i.e., those producers in OPEC 2.0 that can only maintain existing output levels or are managing continual declines in output – will account for a decreasing share of the coalition's production (Chart 3).2 Table 1BCA Global Oil Supply - Demand Balances (MMb/d, Base Case Balances) To Dec23 Including drilled-but-uncompleted wells (DUCs), we expect an additional 600k b/d from US shale-oil producers next year, which would take their output up to 8.39mm b/d, and another 350k b/d increase in their output in 2023. Output in the Lower 48 (L48) states of the US overall is expected to increase to 9.65mm b/d next year and 9.93mm b/d in 2023 (Chart 4). The increase in L48 output will continue to be led by higher shale-oil production, notably from the prolific Permian Basin play (Chart 5). US Gulf of Mexico and Alaska production tops up our total average output forecasts in the States to 11.89mm b/d next year and 12.20mm b/d in 2023. Chart 4US L48 Production Continues To Grow Demand Continues To Expand On the demand side, we continue to expect 2021 consumption growth of ~ 5.0mm b/d this year. Our growth expectation for 2022 and 2023 remains close to ~ 4.6mm b/d and 1.3mm b/d, respectively. We also expect demand to cross back over 100mm b/d in the current quarter, as can be seen in Table 1. As has been our wont during the recovery from the pandemic, we expect DM demand to level off next year after a stout recovery, and for EM demand to pick up the baton and lead global oil-consumption growth in the next two years (Chart 6). We remain bullish re the rollout of COVID-19 vaccines using mRNA technology globally, which will allow EM economies to step up growth. Re-opening of DM and EM economies will continue, pushing refined-product demand above 2019 levels next year, including jet-fuel toward the end of 2H22. Chart 6EM Oil Demand Growth Will Take The Lead Oil Market Remains Balanced Our supply-demand balances are largely unchanged from last month. This keeps global crude-oil markets in a physical deficit for most of next year. We expect OPEC 2.0's core producers will maintain their production-management strategy – i.e., keeping the level of supply below the level of demand. Producers in the price-taking cohort outside the coalition – chiefly the US, Canada and Brazil – will lift production subject to capital-market constraints on producing oil profitably (Chart 7). This supply-demand dynamic keeps inventories drawing through this year, then leveling off in 2022 and rebounding slowly in 2023 (Chart 8). Chart 7Global Crude Markets Mostly Balanced Chart 8Crude Inventories Continue To Draw   Global crude-oil inventories could come under pressure during the 2021-22 winter, if natural-gas markets remain supply-constrained. This week, the Russian state-owned supplier and operator of Nord Stream 2 (NS2) pipeline delivering Russian gas to Germany was told it must comply with German law before its gas will be allowed to flow. It is unlikely this will be done this year.3 This could keep demand for oil higher at the margin, as we noted earlier.4 Oil's Known Unknowns: Capex, Inflation The big unknowns – and risks – to our view are when and how much capex is going to be deployed in the oil and gas exploration-and-production space, and what we can expect from the Fed and other systematically important central banks if inflation looks to be persistent. OPEC 2.0 leaders and officials from the price-taking cohort agree that the dearth of capex for the industry threatens to destabilize oil and gas markets in the near future. Among the 90 international oil and gas producers tracked quarterly by the US EIA capex has collapsed (Chart 9). The industry appears to have made shareholder and investor interests their priority, so as to be competitive in the pursuit of capital that all firms engage in. This also is true for state-owned entities, which also compete for capital and access to technology. These firms and producers will continue to work to produce oil and gas profitably. Still, they likely will continue to find an unreceptive audience to invest in these energy sources; Governments and policymakers are actively discouraging investment in fossil fuels. This risks setting in motion a process in which supply erodes much faster than demand – similar to what is happening in coal markets presently – and prices for fossil fuels rocket higher. This is not a strategy, particularly as it disregards the fact there is insufficient renewables capacity and storage to cover the energy from hydrocarbons that is being lost because of the lack of a transition policy at any level. Recent strong inflation prints are a small-scale example of how this process could play out over the next decade or longer. When China eliminated Australian coal imports earlier this year in favor of Indonesian supplies, and forced its coal mines to shut as part of its dual-circulation policy to become more self-reliant, the resulting shortages set off chain reactions in global natural gas markets. European gas prices shot higher, which, along with higher Asian and American natgas prices, sent food prices soaring on the back of higher fertilizer prices.5 Shipping bottlenecks and container shortages worldwide exacerbated these problems. CBs' Inflation View Challenged Going into 2022, central bankers' view that the current bout of price increases is transitory is going to be put to the test. If inflation appears to be more persistent going into 2H22 – after hoped-for one-offs in coal, gas, oil and food markets are worked out – the Fed and other systemically important central banks likely would start signaling earlier-than-expected policy-rate hikes. This would be negative for commodities generally, as it would raise debt-service costs and investment hurdle rates, and reduce consumption. Higher oil prices and tighter monetary policy will temper demand. These inflationary pressures can be addressed, but this will require a serious re-thinking of the strategy the world needs to pursue if it is to pull off a successful energy transition. Such a strategy will have to give greater consideration to the role of fossil fuels in this transition. If capex is not forthcoming, however, oil prices will have to rise to destroy demand. This will feed into inflation, and ultimately could result in stagflation, as economic growth grinds lower. Investment Implications The level of uncertainty surrounding oil and gas prices remains elevated, given the background condition of 90% odds we see a La Niña in the Northern Hemisphere's winter (Nov21 – Mar22), and ~ 50% chance it persists into the Spring (March-May22). This could leave markets with colder-than-normal temperatures past the end of winter, as it did last year. Given this uncertainty, we remain long the S&P GSCI and the COMT ETF, to keep our exposure to higher prices and a return to higher backwardation.   Robert P. Ryan Chief Commodity & Energy Strategist rryan@bcaresearch.com Ashwin Shyam Research Associate Commodity & Energy Strategy ashwin.shyam@bcaresearch.com Paula Struk Research Associate Commodity & Energy Strategy paula.struk@bcaresearch.com   Commodities Round-Up Energy: Bullish Natural-gas price volatility in Europe and the EU exploded higher once again, following reports the German government would not certify Nord Stream 2 (NS2) unless and until it complies with German law (Chart 10). The European Commission also is setting conditions for its approval. Lastly, outgoing Chancellor Angela Merkel said further sanctions against Russia were possible if the pipeline was used against Ukrainian interests.6 The EU's TTF natural gas benchmark is up 24% this week alone, on the back of this news, while the UK's benchmark Balancing Point index is up 7%. These higher costs will feed into food costs, given the importance of natural gas to fertilizer markets, accounting for ~ 70% of fertilizer costs.7 Given the higher likelihood of another La Niña in the Northern Hemisphere (90% odds from the US Climate Prediction Center), we expect continued volatility in gas prices. Base Metals: Bullish Steel demand in China has been contracting after the government began tightening the supply of credit to the property sector following the Evergrande debt crisis. Construction makes up approximately one-fourth of total Chinese steel demand. At the same time, supply has been falling as, in addition to government regulation to curb carbon emissions, steel mills have voluntarily cut output due to decreasing margins on the back of soft demand. The fact that Chinese steel prices have been falling since their highs in May this year indicates that demand is dropping faster than supply (Chart 11). Reduced Chinese steel demand is feeding through to demand for iron ore – the main steel input in China – while disruptions in the top two iron ore exporters, Australia and Brazil are easing, increasing the possibility of an oversupplied market. Precious Metals: Bullish Gold ended last Thursday above $1,860/oz for the first time since mid-June after the October CPI data release showed that the US had its biggest inflation surge in nearly 30 years. As long as the Federal Reserve does not turn more hawkish, consecutive months of high CPI prints will mean low real rates well into 2022, which will reduce the opportunity cost of holding gold. The high US twin deficits – which as of Q3 2021 was 17.44% of GDP – support the long-term dollar bearish view our colleagues at BCA's Foreign Exchange Strategy hold. A weak dollar over the next 12-18 months will increase the inflation-hedge appeal of the yellow metal relative to the greenback. Chart 11   Footnotes 1     We note in passing the Biden administration has been mostly successful in getting massive fiscal and monetary stimulus deployed into the US economy, which has increased household savings and potential spending power dramatically, as our colleagues in BCA's US Investment Strategy noted in their 1 November 2021 report Half-Empty Or Half-Full?: "Massive fiscal transfers and an unprecedented increase in household wealth will support consumption and keep the economy from stagnating." We cannot view higher gasoline prices in the wake of this stimulus and growth as an economic emergency of the sort the SPR is designed to address. Nor can we view the pick-up in mobility – particularly in air travel expected shortly with the re-opening of routes closed due to the pandemic – as a supply-side emergency. 2     It's worthwhile mentioning here that OPEC 2.0 has been returning less than the 400k b/d every month it agreed due to shortfalls in production outside the core group broken out in Table 1. Reduced capex and maintenance is responsible for this. Higher oil prices might allow this group within the coalition to attract additional capex, but, given the uncertain long-term support for such exploration-production-maintenance investment, this will remain a long-term challenge to these producers. Lastly, we continue to expect Iran to return to markets as a bona fide exporter; we expect its production to return to 3.70-3.85mm b/d by 2H22. 3    Please see Nord Stream 2: Germany halts approval of Russian gas link published on November 16, 2021. 4    Please see last month's oil balances and price-forecast report Short-Term Oil-Price Risk Moves To The Downside, published 21 October 2021. 5    Please see our October 14, 2021 report entitled Inflation Surges, Slows, Then Grinds Higher, and last week's report entitled Risk Of Persistent Food-Price Inflation for additional discussion. 6    Please see fn 3 above. 7     Please see fn 5 above.   Investment Views and Themes Strategic Recommendations