Canada is on the cusp of some­thing big. A boom in com­modi­ties means Canada will out­per­form the US over the next decade. Our recov­ery and upward tra­jec­tory is tied to global demand com­ing from China and India, and the rest of the devel­op­ing world. And with attrac­tive risk/reward fun­da­men­tals, sound fis­cal posi­tion, and strong bank­ing sec­tor, Canada  is des­tined to become a dar­ling of global investors. At this time, Canada resides in a sweet spot of long term invest­ing oppor­tu­nity, but not for the one rea­son — infla­tion — that gets cited most often. Not yet anyway.

Mark Car­ney says Canada's eco­nomic recov­ery is merely a 'con­se­quence' of  uncon­ven­tional mea­sures. And, his report cites that prices are still falling in Canada.

This flies in the face of all the hoopla sur­round­ing the inflation-motivated theme of invest­ing in com­modi­ties and/or com­modi­ties pro­duc­ers. Invest­ing in com­modi­ties pro­duc­ers is by no means a bad idea; its the ratio­nale for doing so, by way of infla­tion, that may be flawed. Invest­ing in com­modi­ties falls under the aegis of infla­tion pro­tec­tion, because if indeed we find our­selves in infla­tion­ary times again, we will be happy to own real things, such as com­modi­ties and real estate.

In the U.S. how­ever, is it really a big sur­prise that the G20 meet­ing is yield­ing a "strong dol­lar" con­sen­sus? China, and other dol­lar reservists, Brazil, Rus­sia and India, have been squawk­ing about the fal­ter­ing green­back, threat­en­ing to take mea­sures to reduce its appetite/dependency on the US dol­lar since before the cri­sis began. If you lis­ten to the Michael Pet­tis inter­view regard­ing China, you'll get the idea very clearly that China is in no posi­tion to undo its mar­riage to the US. At least not any­time soon. Un-pegging from the green­back would have desta­bi­liz­ing con­se­quences for China, not too men­tion the global econ­omy, if not because of its effect on China, then due to its effect on the US econ­omy. The US/China rela­tion­ship is a  sym­bi­otic one. In the mean­time, we will watch the U.S./China eco­nomic bal­let continue.

There­fore, as the G20 has reached a strong dol­lar con­sen­sus, the Cana­dian, Aussie and NZ dol­lars have all pulled back. It pre­serves bal­ance for the dol­lar, yen and euro economies, and more impor­tantly it keeps every­one happy polit­i­cally. As for the Cana­dian dol­lar ris­ing in value, it's not a good devel­op­ment for the Cana­dian econ­omy, but rather a by-product of the demand for what we pro­duce. Its ter­ri­ble for our non-commodity exports. So, bal­ance works for us too, in the long run.

Kathy Lien: The Cana­dian Dol­lar tum­bled against the green­back as investors took prof­its ahead of G20 meet­ing. Oil prices also fell more than 4 per­cent while gold prices closed below $1000, pro­vid­ing no sup­port for the com­mod­ity cur­ren­cies. The Cana­dian gov­ern­ment returned to eas­ier mon­e­tary pol­icy after Cana­dian Finance Min­is­ter Jim Fla­herty pro­posed an expan­sion of mort­gage buy-backs to C$125 Bil­lion or $116.4 Bil­lion. The pro­posal comes on the midst of yesterday's com­ments by Gov­er­nor Mark Car­ney who claims the recov­ery is not "self-sustainable" and is a mere con­se­quence of uncon­ven­tional mea­sures. If they pro­ceed fur­ther with this, we could see a turn­around in the Cana­dian dollar.

In What is Gold to China?, we dis­cussed the idea that gold is a safer long term bet as a result of the "Bei­jing put," the notion that when­ever gold falls to lower lev­els, the Chi­nese come in as strong buy­ers, bid­ding gold back up, as they are con­tin­u­ally out to diver­sify their reserves into other cur­ren­cies. Its all part of a sym­phony of inter­ven­tion that is chore­o­graphed between the US, Europe, the IMF, Japan, and China to keep the dol­lar in a fun­da­men­tally sta­ble range. Hav­ing said that, this too, ben­e­fits Canada as one of the world's biggest gold pro­duc­ers, despite the fact the price of gold is sub­ject to the manip­u­la­tion of cen­tral bankers.

In that vein, Canada, as impor­tant as it is in today's world, is along for the ride. Our recov­ery will depend upon a sta­ble global recov­ery deter­mined by steady inter­est rate pol­icy and coör­di­nated cur­rency balancing.

Herein lies the oppor­tu­nity; we just need to rec­og­nize it, and get our (long-term) peas lined up.

Canada really is the best thing going in the G7. We've writ­ten about this in the last two weeks in Canada: There's no place like home, and Canada's Uni­ver­sal Appeal and Advan­tage.

The long-term ratio­nale for invest­ing in Canada

Canada has what the world needs (resources), a sound fis­cal posi­tion, and a strong bank­ing sys­tem — So why haven't the dol­lar reservists cho­sen to invest in Canada bonds, as an ultra-safe alter­na­tive to US Trea­suries? Simple.

Canada has so much of what the reservists (BRICs and other emerg­ing economies) need and want in order to build out their own economies, that invest­ing in our debt would raise the price of the very things they want to buy from us, such as wheat, oil and gas, met­als, and min­er­als. They are not just inter­ested in import­ing com­modi­ties from us; more impor­tant, they have their eyes on buy­ing the com­pa­nies that pro­duce the com­modi­ties, as well. Despite this, Canada's bond mar­ket may per­form well in the near term, as a by-product of today's con­tin­ued price weak­nesses. And, the time will come, though not in the near future, when for­eign investors will alter­na­tively opt to buy Canada bonds.

Among the great inef­fi­cien­cies that have plagued Canada is our con­ser­vatism (or rather the reluc­tance among Cana­di­ans to invest risk cap­i­tal in the most strate­gic areas of our econ­omy), and our com­pla­cency. Cana­dian com­pa­nies have his­tor­i­cally faced short­ages of domes­tic investor cap­i­tal, and that issue has forced them to look first to the US, and now glob­ally for sub­stan­tial sources of cap­i­tal. This has meant that Cana­di­ans have fore­gone the own­er­ship of our home­grown com­pa­nies to for­eign inter­ests. Its this inef­fi­ciency that makes the oppor­tu­nity to invest in our own com­modi­ties pro­duc­ers, and other com­pa­nies so attractive.

By the way, every time some­thing cre­ative comes along to make it easy to raise money in Canada, for exam­ple, income trusts, some­one in gov­ern­ment comes along and shuts it down. There's no doubt that there was some abuse and stretch­ing of the rules which led to the leg­is­la­tion shut­ting them down, but then again, it was also one of the most suc­cess­ful equity financ­ing peri­ods in Canada's cap­i­tal mar­kets his­tory. At times it feels as though the Cana­dian gov­ern­ment would rather help for­eign investors take over our indus­tries, rather than police the tax incen­tives that make rais­ing cap­i­tal eas­ier, more fairly. Then again, this too, is part of our con­ser­vatism as a soci­ety, isn't it?

For­eign investors are more inter­ested in our com­pa­nies than we are. As a coun­try and as investors we need to real­ize that our assets are worth far more to for­eign­ers right now than they are to us. We take our great­est assets, our nat­ural resources, water, oil and gas for granted, because we have always lived in a state of sur­plus and exported most of what we pro­duce, mainly to the US.

Now that the bal­ance of demand is com­ing increas­ingly from the large emerg­ing economies who face mas­sive future short­falls of mate­ri­als, water, food, and energy we need to pre­pare for the geo­met­ric growth of demand com­ing in the next sev­eral decades. We sin­cerely owe it to our­selves to exer­cise our right to own and nur­ture these pre­cious assets, before they pass into the hands of for­eign cor­po­rate interests.

David Rosen­berg states in his lat­est report, out today, that Canada is in the sweet­est of spots because we are in the midst of a sec­u­lar com­modi­ties boom. He cites Chin­dia as the key dri­ver of demand over the next decade, but ini­tially 2009 and 2010, where it is shown that China and India will lead the world in GDP growth, and cur­rently com­mand 21.4% share of Global GDP. This is no big sur­prise to any­one fol­low­ing com­modi­ties, but rather, more confirmation.

We believe that com­modi­ties are in a sec­u­lar bull mar­ket, and this is where Cana­dian out­per­for­mance rel­a­tive to the United States comes into play — nearly 45% of the TSX com­pos­ite index is in resources; almost triple the share in the U.S. Almost 60% of Canada's exports are linked to the com­mod­ity sec­tor, roughly dou­ble the U.S. expo­sure. This explains how it is that the Cana­dian equity mar­ket has man­aged to out­per­form the S&P 500 this year by a cool 2,000 basis points (in this sense, Canada is basi­cally a low-beta way to play the emerg­ing mar­kets via com­mod­ity exposure).

This by no means indi­cates that the US and the West­ern con­sumer will cease to be the world's top con­sumer, but rather that we will have to line up with the new con­sumers from the devel­op­ing world, to buy the same stuff. That is ulti­mately infla­tion­ary, but not for some time.

Rosen­berg points out very nicely that com­modi­ties prices bot­tomed last year at the high­est reces­sion lev­els ever.

And, that prices bot­tomed at lev­els above his­tor­i­cal peak prices.

This last chart is remark­able, because it illus­trates how strong demand has got­ten dur­ing the last ten years with the rise of China and India. Even after last year's blow-off, prices are fun­da­men­tally higher because of the surge com­ing from the devel­op­ing world' grow­ing appetite for food, shel­ter and commerce.

For­get about infla­tion, at least for now, as a rea­son to buy com­modi­ties. There are two over­rid­ing themes, that should be front and centre:

1) demand for com­modi­ties — For­eign inter­ests wish to lock up sup­ply which means the com­modi­ties them­selves will be bid up.

2) demand for pro­duc­ing com­pa­nies - For­eign inter­ests, par­tic­u­larly China and its rapidly devel­op­ing and mutu­ally rich peers have their eyes squarely focused on our busi­nesses and our nat­ural resources. Merg­ers acqui­si­tions and hos­tile takeovers will bid up the prices of Canada's most desir­able com­modi­ties pro­duc­ers, and it won't be only China which comes knock­ing, though they will likely turn out to be the most aggres­sive. The onslaught of foreign-sourced cap­i­tal mar­kets activ­ity is likely to come well in advance of peak prices for the com­modi­ties themselves.

What do pol­i­cy­mak­ers think of, in the now wealth­ier, fastest grow­ing coun­tries of the world, whose nations are fac­ing short­ages of mate­ri­als, oil, water, and food that would be dev­as­tat­ing to their eco­nomic progress? "What will we need, and what do we have to do to get it?"

Let's come back to the notion of com­pla­cency. Cana­dian com­pla­cency. We have taken our most valu­able assets for granted, because they are abun­dantly avail­able in our back­yard. Also, the last year's tur­moil has also made it more dif­fi­cult for investors to com­mit long term cap­i­tal out of fear.

In the period ahead, it is not so much infla­tion, but rather pure and sim­ple demand for the future sup­ply of com­modi­ties that will take cen­tre stage. Infla­tion, when it re-appears will be the icing. Cana­dian investors should view any mar­ket cor­rec­tions as oppor­tu­ni­ties to accu­mu­late mean­ing­ful over­weight posi­tions in their port­fo­lios in the com­modi­ties com­plex in some com­bi­na­tion of com­modi­ties and com­modi­ties producers.

This period rep­re­sents Canada's big chance to get out in front of for­eign inter­ests in our own back­yard. We have the right to par­tic­i­pate in the growth that will come Canada's way as a result of the mas­sive global eco­nomic trans­for­ma­tion that is under­way or we can choose to be bystanders.

We will con­tinue to write and drill deeper into this sub­ject in the com­ing weeks and months.

Sources: Kathy Lien | Bloomberg | Gluskin Sheff

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