Fixed Income Monthly Monitor – October 2023

MARKET UPDATE

Canadian fixed income markets repriced to a higher-for-longer environment sending yields across the curve higher and returns negative. In September, the FTSE Canada Universe Bond Index posted a 2.6% decline, marking the harshest monthly sell-off since August 2022. The move also nudged the year-to-date performance into the negatives with the index delivering negative 1.5% over the three-quarter period. Higher than expected inflation, central bank hawkishness and economic data that refuses to concede to the higher rate environment (particularly in the U.S.) laid the groundwork for the march higher in rates across the curve. 

Canadian yields were decidedly one directional, moving higher and finishing the month close to peak. This despite a GDP reading that effectively confirmed that Canada’s economy has stalled under the weight of higher rates. However, inflation has not behaved, coming in higher than expected at 4.0% with core measures also accelerating. The BoC remained on the sideline as they assess the conflicting data and have made clear their goal is to restore price stability. 

The US has made progress on the inflationary front as core-CPI has moved to a two-year low of 4.3% y/y in August. However, the US economy is showing little signs of slowing down. The labour market remains tight with still healthy job creation, a low unemployment rate that has barely budged and rising real wages. In addition, fiscal policy is uber supportive running a deficit of 8% of GDP. The FOMC paused at their September meeting while signaling their desire to maintain restrictive policy for longer than expected. They maintained their expected endpoint for 2023 at 5.50% to 5.75% (one more hike) and reduced the amount of cuts in 2024. The result for 2024 is a projected policy rate 50 bps higher than previously expected and the market took note by pricing yields higher. 

Yield curves steepened in September. Although still inverted across many pairs, the 2-10’s curves in Canada and U.S. steepened by 23 bps and 28 bps, respectively. Most of the moves came in the longer tenures as the market repriced inflation uncertainties through higher term premiums. The severe repricing higher in rates has continued into October and has been particularly hard hitting in long bonds. 

CREDIT IN FOCUS

Corporate bonds have held in relatively well, with rates doing all the repricing while credit spreads were only 1-2 bps wider on the month. Provincial bonds experienced relatively more spread widening with 10-year provincial yields wider by 3-4 bps. Corporate bonds were generally the best performing sector across all maturity segments on the month. 

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