Fixed Income Monthly Monitor – November 2021

Market Update

The Bank of Canada set in motion a wild repricing of Canadian yields as they got undeniably more hawkish at their October meeting. The market was already aggressively pricing in sooner rate hikes with a quicker path to normalization than the U.S. Fed. The Bank supported that notion, by increasing their expectation for inflation in 2021 and 2022 (rightfully so), as well as pulling forward their expectation of when the output gap would close from H2-2022 to the middle quarters of 2022. Recall the Bank has communicated to the market that rate hikes are contingent on the output gap closing. 

The Bank essentially gave confirmation to the aggressive expectations for rate hikes, resulting in markets further pulling forward rate hike expectations. The result was a curve bear flattening, with the shorter-end selling off materially. 

The FTSE Canada Universe Bond Index return was negative 1.05% on the month. 2-yr yields moved higher by 56bps, 5-yr yields up 40bps, 10-yr yields up 21bps and 30-yr yields unchanged. 

Credit in Focus

Corporates fared better than their government counterparts by outperforming by 22bps at the composite level, but still delivered a negative return on the month. Spreads narrowed by 4bps, with all sectors contributing and across credit quality categories. Corporate A-rated was the worst performers across all maturity categories, suggesting investors favoured a barbell strategy of matching higher quality credits with higher beta opportunities. 

Provincial returns were negative on the month as rising yields across the curve was a headwind for all sectors. Provincial bonds, however, were the best performing government sector, owing to the spread narrowing out the curve, which was most pronounced in longer tenures. Alberta spread performance led the pack supported by the favourable oil pricing dynamics. Provinces across the board have benefited from the constructive backdrop that has enabled them to collectively reduced their expected deficits this fiscal year. 

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