Eric Lascelles - Managing Director, Chief Economist and Head of Investment Strategy Research

Hello and welcome to our latest video #MacroMemo. As always, there’s plenty to cover. And so as I record this in mid-April, I should warn, given how much is happening on the Iran war front, we'll talk precisely about that and a ceasefire and the extent to which it's holding and what the outlook is from that point on. We'll also step back and talk about the economy in the context of this war and inflation and growth and so on.

We'll also talk a little bit about energy infrastructure in the Middle East, the extent to which it's been damaged. Because, of course, if that damage was significant, the end of, let's say, constraints on the Strait of Hormuz wouldn't necessarily mean that energy production revived. We think those concerns are actually a bit overblown, so that’s the good news.

We'll talk about corporate earnings through the fog of war and just what that's looking like right now.

And then pivoting away from the subject of war, we'll spend a moment on artificial intelligence chip concerns in terms of the rate at which they depreciate.

They become obsolescent, essentially, and whether that means that the investments in them are poor or not.

We'll finish with a quick little discussion of Canada as a resource superpower at a time when that's actually becoming even more important.

All right. That sounds like a lot. I think it is a lot. And so let's just get going.

We'll start on this war with Iran, and I use the word ‘pendulum’. And I think that is still correct. We've had moments over the last six or so weeks that the war has extended, in which there has been great, great concern and extremely high oil prices. There have been other moments when the concern has partially abated and oil prices have partially retreated.

April 7th was a moment when there was a high level of optimism. A two-week ceasefire was agreed between the U.S. and Iran, and talks were proceeding.

April 13th, which is yesterday as I'm recording, this, was less promising as the U.S. blockaded the Strait of Hormuz and Iran made threats about attacking ports in the Persian Gulf.

And so, it's ebbed and flowed, with oil prices accordingly gyrating. I would still and maybe stubbornly, but I would still say I see reasons for a little bit of optimism here. One would be we are roughly a week into this ceasefire. It is seemingly holding. We are tracking the number of missiles and drones fired by Iran at other targets in the Middle East. That number has gone essentially to zero.

The U.S. is similarly not attacking Iran and so that is promising. The two countries are talking. They obviously didn't reach a deal last weekend so that's not perfect. But they're talking, they're exchanging proposals. They're agreeing even on a framework on which an agreement could be based. They've physically met. China is nudging forward.

China has particular clout over Iran. And when we look at the various demands, obviously there is a significant divide between the two parties. But we do think that there is a workable plan here. And when I look through the 10-point Iranian plan, I see eight of the 10 where there is a fairly clear compromise or answer that can be reached.

I think it's less clear on Iranian nuclear refinement. It's less clear on whether the Strait of Hormuz gets tolled by Iran or not. And there are some sort of wiggle points here where perhaps Iran continues the refinement, but under very close supervision again, as per 2015 to 2021.

It may be the Strait of Hormuz is tolled, but perhaps Oman shares in that duty, or perhaps the U.S. is involved in some administrative context.

Not perfect at all, but maybe a workable plan. And so, again, we think that there is a solution out there.

I think the markets actually broadly agree right now. When we look at betting markets, they would suggest it is more likely than not with about a 65% probability that the war is essentially over. And so we're hopeful that's the case.

It does, admittedly, even in that happy scenario, take longer to normalize after. So oil prices, of course, come down and the economy picks up and so on. But it does take time for production, energy extraction to restart, for ships to get to where they need to be, and for countries that have depleted their energy inventories to rebuild them.

So this is not a statement that oil prices or natural gas prices can fall as quickly as they rose or fall all the way back to where they were before the war. But there is room for a significant unwind, we think.

Let's turn then to war economics. And so just a couple of high-level thoughts. The first would be as we track recession risks.

Our model has always said that while the risk had gone up, it was still not particularly high for the U.S., at least. When we look at betting markets, they are now pointing to a diminished recession risk. It’s down from about a 40% chance for the U.S. in 2026, down to about a 30% chance, as we have seen some progress on negotiations.

So the risk arguably falling and not to too high at this point in time. When we look at global purchasing managers’ indices, they are proving fairly resilient even in March. And I don't doubt there could be some retreat in April, as businesses have had more time to absorb the impact of this temporary oil shock. But nevertheless, there is a degree of global resilience.

There are U.S. weekly jobless claims, which we're now five data releases into the war. So this is very much reflecting conditions on the ground in the war. U.S. jobless claims remaining fairly flat, remaining quite low.

And of course, conversely, we do see inflation going up. It's quite visible in the March numbers. April inflation will be hot again as prices more fully reflect the increases that really happened in March.

Just reflecting, again, a bit more fully across the span of a full month potentially.

But you know, really the question on inflation is this: at what point does the damage get hard to unwind? Because if you agree with the notion that the war ends at some point –whether it's now or two months from now – the answer is we should see a material reversal of the inflation increase and of any kind of economic damage that might be taking place.

I would say in theory or maybe more a rule of thumb, if there's been an oil shock lasting more than three months or call it three to six months, that's sort of the point at which you start to say, okay, this is going to start to bleed significantly – from energy costs into transportation costs, in a way that then affects the price of other products.

It gets a little harder to put the genie back in the bottle at that point. And so that's a time frame to think about. Here we are, a month and a half in, we think it’s likely to be resolved relatively quickly. But if we're wrong on that and it ends up taking three months or more, that's when you start to say, okay, we might not get inflation immediately fully back to where it was before.

Now, here’s one concern and maybe one argument that we do need to be concerned about oil prices staying high for longer. There has been damage done to energy infrastructure in the Middle East. In fact, the International Energy Agency estimates more than 40 energy assets have been hit. That's not trivial. It's certainly not good. And it does again flag that risk of ‘what if energy production can’t restart even if the Strait of Hormuz becomes unblocked?’

And so that is a risk. But we think the concern is mostly overstated. Oher than Qatar's LNG operation, which is probably enduringly reduced by about 17%, so there is some enduring damage, most of those 40 energy assets that have been hit, it's quite minor.

Some of them, there's no fixing required at all. For many, they should be able to restart quite quickly, even those with worse damage – maybe other than that Qatar facility. You're talking about months or maybe quarters, not years to get this re-going. And so not to downplay that, but equally, we don't think that there's a scenario where energy prices have to stay extremely high for an extremely long period of time.

Now what about earnings, corporate earnings, through this so-called fog of war? Again, I’m focusing on the U.S. as our bellwether economy. Fascinatingly, earnings estimates for the S&P 500 continue to rise across this war. And it should be noted that it is in significant part due to the tech sector is unrelated essentially to the war.

And so just greater optimism on that front. But a significant part is energy companies, of course, with rising earnings as they enjoy higher energy prices. And so that's  not a surprise, I suppose.

Interestingly, you know, you look at all the other sectors, many of which would be hurt by higher energy costs. And you think of airlines and others.

Of course they are broadly down. But on the net, and even setting aside the tech sector, you're seeing earnings estimates that are holding up and if anything, even rising earnings estimates even ex-tech sector. That's not quite as crazy as it sounds, because for the U.S. economy and specifically the stock market, the modeling we've done and the modeling we've seen others do argues that actually higher oil prices equal higher U.S. S&P 500 earnings.

There's a positive correlation there, not a negative correlation when push comes to shove. Now that's controlling for the economy. If the economy is hit badly, well that's not good. But we're not tracking that much weakness in the U.S. right now, and we don't think it lasts long enough to do too much damage.

And so it’s not quite that we're actively upgrading our earnings forecasts because of this war. But it's not so automatic that you need a downgrade is the point that I'm trying to make.

Okay, two more things from me. Let's switch over to artificial intelligence a bit more firmly. And you can talk about the computer chips and just concerns about obsolescence.

And so, of course, there's been such extraordinary capital expenditures on AI in recent years. And the expectation is, and the reality so far, is that 2026 is going to be even bigger than the rest and is tracking more than 60% growth versus the amazing numbers that the five hyperscalers spent just last year.

And so of course, your big questions around that are, well, this will be a good investment if the quality of the AI analysis just keeps getting better.

Which it is. But another question is the extent to which the costs of doing all this investment are reasonable. And so a big part of that is just the cost of computer chips. And a big part of the evaluation of whether it's reasonable is whether those computer chips end up being useful for six years or three years.

In other words, what is the appropriate depreciation rate? When do they become obsolete or when do they break? And so that's being debated. And of course, pessimists would say these will only last a few years and therefore the return is much reduced. And optimists will say they last for many years and therefore there's quite a good return.

Current trends are actually reasonably favorable. The older chips are still finding a purpose. They're still being rented out or purchased at quite an elevated price, even as they become less useful for building new models.

Keep in mind, an increasing fraction of the data centre usage is for inference. It's for just running the models, which doesn't take the same kind of cutting-edge chip.

And so I guess the takeaway is right now it looks like these investments in chips are reasonable. And the depreciation rates aren't too rapid. When you recognize, again, there's more than just building the models. There's also using them – and chips can do that for many years it would appear.

 Finally, Canada as a resource superpower.

Now this is not exactly a surprise or a secret. Canada's widely recognized as being a resource power. I would just say a couple of things just to underline that idea.

One is that it's becoming more important, we think. This is a more dangerous world. Countries, particularly with the Strait of Hormuz on their mind, are becoming increasingly focused on resource security and getting resources from reliable, stable partners.

Canada being one, of course, it seems good for Canada itself to have a great deal of resource independence within its own shores. But other countries also may take a renewed interest in Canada on this front. And of course, Canada is already a global leader across so many products, but you don't often hear it said out loud. And so we were just revisiting and I'll give you the stats here.

This is Canada's ranking in terms of global production for each resource. Canada is ranked fourth globally for oil production, fifth for natural gas, first for potash and fifth overall for fertilizer. So it really is almost all potash.

Second for uranium, of course, with something of a nuclear power boom underway, third globally for diamond production, fourth globally for gold production, with seemingly renewed interest in that asset, fourth globally for aluminum production, also fourth for nickel, seventh for lithium and cobalt, eighth for iron ore.

And then you shift over to the agricultural assets and it’s sixth in global wheat production, eighth in soybeans and tenth in corn. Of course, the world is almost 200 countries, and as you're seeing, Canada is often second, third, fourth, fifth kind of thing across all of these. It is quite remarkable for a relatively small population on the global stage.

Of course, the ability to grow this is there. And so this is not a static concern. You have a Canadian government that quite literally, a few hours ago as I'm recording this, became a majority and so able to act more forcefully and with greater coherence and seemingly is focused on growing the economy and growing the resource sector and getting rid of barriers for resource and infrastructure investment.

And so this is quite supportive. And you would think there's room for further strengthening of Canada's resource power in the future.

To reiterate the main point, this is at a time when that particular strength is maybe becoming more important on the global stage.

All right, that's it for me. And so I hope you found that useful and interesting.

Please tune in again next time. Thank you.