Fixed-income investors glad for stability

By Simon Doyle | May 25, 2016 | Last updated on May 25, 2016
3 min read

Fixed-income investors are resting easy.

Stéphanie Lessard, vice-president of money markets for CIBC Asset Management, called the BoC’s statement on Wednesday “neutral” — a good sign for investors whose bond values drop on interest rate hikes.

“The outlook for short rates is not changing; [it’s] very stable, a few basis points maybe up and down, but nothing major,” Lessard said. “Stable rates are good. Low rates are not always very good if you’re a retiree and you’re looking for a big coupon for your revenues. But that’s the environment we’ve been living in for many years.”

The BoC held its benchmark lending rate at 0.5% on Wednesday, as expected, even as it forecast a contraction in Q2 on the forest fires and oil production shutdowns in Alberta, which had slowed production by more than a million barrels per day. The Bank said it expects a rebound in Q3 “as oil production resumes and reconstruction begins.”

Read: BoC holds steady on rates

Lessard said she’s watching Canadian and American economic data closely, such as inflation, payroll and jobs numbers. “Thirty percent of jobs created in services in the past year [were] in the tourism industry or restaurants. Maybe the Americans are coming back with the dollar weaker,” she said.

Darcy Briggs, fixed income portfolio manager for Franklin Bissett Investment Management, said he’s monitoring Canadian and U.S. macro economic fundamentals.

“That’ll frame the environment for interest rates. On the government side, we’ll pay attention to the fiscal policies of the provincial governments because that can affect spreads,” Briggs said.

He’s also watching industry sector data for indications of corporate health, and said he looks regularly at various types of corporate, municipal and provincial debt in Canada and the U.S.

“We look at the rate environment as being fairly benign and rather constrained in terms of rate moves,” Briggs said, noting that even the Fed’s hawkish language does not mean it’s a foregone conclusion that the U.S. central bank will hike rates in June. “We don’t anticipate the Fed to hike four times. It’s just not a high probability,” he said.

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David Lafferty, chief market strategist for NGAM, said he anticipates two 25-basis-point rate hikes by the Fed this year if the economy gains traction, one as early as June and another near December. He sees the BoC sitting on the sidelines for the remainder of 2016 if oil prices continue to improve.

For the BoC, hiking rates could hurt exports by strengthening the loonie, while cutting rates would exacerbate household debt levels. The BoC said the housing market shows “strong regional divergences,” alluding to high prices and affordability issues in Vancouver and Toronto, and that “household vulnerabilities have moved higher”.

Lafferty, who is closely watching U.S. GDP and payroll data, said a significant risk scenario is whether there could be a “disorderly unwinding” for the sovereign bond market as economies recover and investors choose riskier assets.

“The market seemed to digest the first Fed tightening OK,” he said, but noted there have been issues with bond liquidity. “We really have this experiment of global, super-low interest rates, and nobody exactly knows what the unwinding will look like. Not only is there a risk of an unwinding, [but] when it begins to happen we won’t know what the contagion would look like.”

Another risk scenario is China’s ability to deal with a potential debt crisis, he said.

The BoC’s next rate announcement is July 13. Statistics Canada releases growth figures for Q1 on May 31 and Q2 on Aug. 31.

Read: Snapshot: Canadian economic data

Simon Doyle