Trade, Trump, TransMountain, Tax Cuts & the TSX Index

Posted on: September 19, 2018

                                Trade, Trump, TransMountain, Tax Cuts & the TSX Index
 
                                                      
  At the time of writing, a category 4 hurricane is approaching the eastern coast of the United States.  I hope the people affected by this monstrous storm stay safe.
In the investment world we live in, a storm of sorts has been brewing over the last several months.  For Canadians, it’s a storm created by Donald Trump and the opponents of the TransMountain pipeline in Western Canada.  I call it a storm since it can be destructive and unpredictable.  As with hurricanes, they can start out weak and then gain significant strength, or start out strong and then taper off to nothing more than a tropical storm.
What we have seen in Canada and reflected in our stock market (TSX Index) are storm clouds brewing day by day.  Here is what is so troubling:

• Trade – Trump has been knocking heads with pretty much every country he can get his hands on.  He has picked a fight with Europe, with China and also with Mexico and Canada (NAFTA).  I can certainly understand why China is a concern for the U.S. since there is such a large trade imbalance for goods coming from China into the American economy.  This is a fight Trump should focus on as it has a much larger impact on long term economic conditions for the U.S. economy.

I won’t get too much into Europe as it is a very diverse economy where some issues are certainly justified by the U.S. government; specifically around automobile tariffs.  That being said, I’m not sure a trade fight with most of Europe is necessary.
Lastly, while there are some wage issues with Mexico, which seem to have been worked out, Trumps’ fight with Canada over trade is nothing but ridiculous. The United States has a trade surplus with Canada and we are their largest trading partner; our economies are truly integrated.  Trump is pounding his chest hard against Canada and our Prime Minister, Justin Trudeau.  In the fallout from Canada's G7 summit in June, a clearly upset Trump took to Twitter to call Trudeau “dishonest" and "weak" after the prime minister said he would not be bullied by the U.S. in NAFTA talks.  That message was quickly picked up by the president's senior officials, who echoed Trump's attack on Trudeau. "There's a special place in hell for any foreign leader that engages in bad faith diplomacy with President Donald J. Trump and then tries to stab him in the back on the way out the door," trade adviser Peter Navarro told Fox News after Trump's Twitter attack.
All I have to say about that is WOW!!  But guess what, the shock and awe strategy of Trump’s team continued when the U.S. declared Canada a “National Security Threat”.  U.S. trade representative Robert Lighthizer faced pointed questioning from a Senate committee about the decision, and at one point was asked directly if Canada was a national security threat to the United States.  “In the case of steel, yes,” he said.
It is sad and certainly distasteful that we as Canadians are being treated this way by our closest friend and ally. Imagine what our enemies think of us….. Oh right, Canada doesn’t really have any; perhaps until now.  Ok, so I may be a little bitter but there is certainly more.
A real concern is that the U.S., even if we get a deal on NAFTA could impose tariffs on our automobile sector.  While I don’t see this happening, for the obvious reason that the Americans would also be hurt significantly from such a move, it is still a possibility especially if NAFTA isn’t dealt with soon.  Trump is hoping to get strong concessions from Canada in the area of dairy trade.  Trump wants Canada to open up our dairy market and give U.S. farmers access to our market.  Trump has and will continue to use this threatening strategy on autos as a means to squeeze Canada into making a trade deal that suits them best; no doubt a tough spot for Justin Trudeau.
I guess the most puzzling part of these moves by the U.S. is that fact that there isn’t even a trade imbalance with the U.S., according to the U.S. Census Bureau .  Trump claims they are in a big deficit with Canada but according to official U.S. statistics on trade “the United States has a trade surplus of $2.8 billion in 2017, according to the Census Bureau. Yet, President Donald Trump has claimed that the U.S. has ‘close to $100 billion a year loss with Canada or $17 billion minimum.’  Both figures refer to trade in goods only, not services. And the $100 billion figure factors in re-exports, which are products that come from a third country to the U.S. but travel through Canada.  The U.S. isn’t ‘losing’ $100 billion on trade.”

• TransMountain Pipeline – While the pipelines issues are very complex and having several moving parts, suffice it to say that these are issues that will not be fully resolved any time soon.  The issues as I see them however, are pretty straightforward; on one side is economic prosperity and on the other is supposed environmental concerns.  I am definitely not an expert on the environment so I won’t delve too much into this other than to say that crude oil is transported across this country one way or another.  If it’s not by pipeline, then by rail.  We all know that railways are not immune to derailments, spills, and even major disasters.  Additionally, my understanding of newly installed pipelines is that new technology has made them safer.

 
To clear some of the air, I have provided below excerpts written by Kenneth P. Green, Resident Scholar and Chair in Energy and Environmental Studies, at the Fraser Institute.  According to Mr. Green and his associates, “Pipelines are the safest way to transport oil and gas.  Oil and gas pipelines are a critical piece of Canada’s energy infrastructure. In 2013, this mode of transportation moved more than 2.4 billion barrels of oil and gas. But accidents do happen as seen with the recent oil spill in Alberta where a Nexen oilsands pipeline recently ruptured, spilling a large quantity of oil southeast of Fort McMurray. Such accidents are unfortunate and regrettable; and this recent accident has stoked concerns, particularly from pipeline opponents, about the safety of oil and gas pipelines.
Unfortunately, however, tragic incidents such as these often detract from one of the most important infrastructure questions. What’s the safest way to transport the oil and gas that our modern society requires?
In a recent Fraser Institute study, we examined, using data from government sources, whether pipelines or rail were safer for transporting oil and gas. The study focused on the number of occurrences or accidents per million barrels of oil and gas transported.
The result was clear. Both rail and pipelines are quite safe, but pipelines are without a doubt the safest way to transport oil and gas.
In every year from 2003 to 2013, pipelines experienced fewer occurrences per million barrels of oil equivalent transported than did rail. Overall in this period, rail experienced 0.227 occurrences per million barrels of oil equivalent transported compared to 0.049 for pipelines.
This means that rail is more than 4.5 times more likely to experience an occurrence.
Additional data on pipeline safety from the Transportation Safety Board also calls into question the often worst-case scenario rhetoric that surrounds pipeline debates. Consider that 73 per cent of pipeline occurrences result in spills of less than 1m³ and 16 per cent of occurrences result in no spill whatsoever.
The vast majority of pipeline occurrences—more than 80 per cent—also don’t occur in the actual line pipe. Rather they happen in facilities that are more likely to have secondary containment mechanisms and procedures.
But perhaps the most telling statistic regarding pipeline safety is that 99 per cent of pipeline occurrences from 2003 to 2013 didn’t damage the environment.
Debates about pipeline expansion often ignore these realities. But make no mistake, transporting oil and gas by rail has been booming in the absence of new pipelines. According to the Energy Information Administration, annual reports of oil by rail to the United States in 2010 amounted to a measly 42,000 barrels of oil. Fast forward five years to 2014 and that number has spiked to 42 million barrels of oil. These numbers will continue to rise if new pipelines are not built.
So while pipelines may attract much of the attention, rail too is not without its share of accidents. A string of events earlier this year led to new regulations, which may provide little additional benefit, seeing as many of the newly required safety measures existed prior to the Lac-Mégantic tragedy.
In both Canada and the United States, rising oil and natural gas production necessitates the expansion of our transportation capacity. Yet proposed pipelines continue to linger in regulatory limbo, facing stiff opposition and little political support, best exemplified by the premiers national energy strategy, which managed to barely gloss over Canada’s pipeline conundrum.
However, on the mode of transport, the choice is clear. It should be the safer one—pipelines.” 
 
Now I have read some competing claims but what many statistics don’t analyze is that they are using data from older pipelines; ones that may have been in operation for decades.  What I would argue in favour of pipelines vs. rail is that new pipeline projects (especially TransMountain and Enbridge’s Line 3 into the U.S.) are utilizing better technology in the design of the pipelines themselves which will help prevent serious accidents in the future.
 

• U.S. Corporate Tax Cuts – With trade and pipelines dominating headlines as of late, it’s no surprise that my last point has not seen much in the way of consternation; but it should.  Simply put, the U.S. tax cuts that were such a win for Donald Trump (perhaps his only win to date) have had a really positive affect on U.S. corporations but to the potential detriment to Canada’s economy, according to the Huffington Post.  “In December, 2017, the U.S. Congress approved a tax package that reduced the federal corporate tax rate to 21 per cent from 35 per cent, which effectively eliminated Canada’s corporate tax advantage.” Trump’s goal in part is to get U.S. companies to move back much of their business from offshore or other countries.  The tax cuts provide a significant incentive to do so.  So what does this mean for Canada?

 
According to the Globe and Mail, “Finance Minister Bill Morneau said he has not ruled anything out – including corporate or personal tax cuts – as he prepares a fall update that will outline Canada’s response to the major tax reform package adopted this year in the United States.  His comments come as a new report warns that recent U.S. tax cuts will have a devastating impact on the Canadian economy unless Ottawa and the provinces take action.”  Specifically the Globe goes on to say that a report by the PwC accounting firm states that “the U.S. tax changes put 635,000 Canadian jobs at risk and could potentially reduce Canada’s GDP by $85-billion, representing 4.9 per cent of the Canadian economy. The report said the potential harm of the U.S. tax cuts is far greater than estimates of what might happen if Canada fails to secure a new North American trade deal.”
Obviously, while this isn’t getting as much press as Trump, Trade and TransMountain, it sure looks like it may be another serious for Canada’s government and Canada’s economy to deal with.
 
Conclusion – UNCERTAINTY!
With so much at risk for Canada and its economy, it’s no wonder our stock market (TSX Index) has been struggling as of late; see below chart, market is down about 3.2% from its recent high and down about 1% year-to-date.  Contrast this with the U.S. market (S&P 500) which is up over 8% year-to-date.

TSX Index  Source – Thompson One, Sept. 12, 2018
The bottom line is that markets don’t like uncertainty.  In Canada, much of our economy is faced with an uncertain future.  Specifically, our energy and automotive sectors have been particularly hard hit and unless our government finds a way to work these issues out, that uncertainly won’t go away soon.
What we need is:

1. Better Corporate tax policy (and some personal ones would be nice too!!).  This would allow Canada to compete on a more even playing field.

2. Clearances for new pipeline development.  Economically these new pipelines are critical our success.  Without the ability to get our oil to market in an efficient manner, our energy companies will continue to languish.

3. Positive Resolution of the NAFTA talks.  Admittedly, this will mean both Canada and the U.S. will need to declare a win for their side, so compromise is the key to success.  Clearly, while NAFTA only perhaps needed a few tweaks, Trump has made it a real battle so he can show his power.  We will undoubtedly need to find a way to appease him to some degree (hopefully not so much that he can brag he’s the best “deal maker”).

 
For more information on this or any other topic, please feel free to contact me directly.

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