Equity markets, though, were concerned with future economic growth rather than past growth. The possibility of tit-for-tat trade restrictions between the U.S. and its trading partners spooked equity markets, because historical precedence suggests that no nations win in a trade war. Instead, everyone loses, and global growth suffers. Following a strong start to the year, U.S. equity indices have dropped roughly 10% in value, the traditional definition of a market correction. Canadian stocks had not been as strong as U.S. ones at the start of 2018 but have still fallen more than 7% from their best levels in early January. In March, bond investors started paying attention to the equity gyrations, with plunges in stock prices leading to bond rallies the same day. In Canada, the only tape bomb that negatively impacted the Canadian bond market was the news that the U.S. was relaxing some of its NAFTA-related demands, suggesting greater likelihood of a successful renegotiation. If that were to occur, it would reduce trade-related fears about Canadian economic growth and increase the likelihood of future rate increases by the Bank of Canada. Canadian bond prices temporarily declined, and the Loonie rallied on the news.

Canadian short and long term yields moved closer together in March, thus flattening the yield curve. Yields of 2-year Canada bonds were little changed while 10 and 30-year bond yields fell 14 basis points in the month. The changes in Canadian yields were very close to the moves in the U.S. bond market in March.

The federal sector matched the overall market in the month, returning 0.75%. Provincial bonds’ longer average duration meant better gains as yields fell and offset a 6 basis point widening of provincial yield spreads during the month. Corporate bonds trailed government issues, earning only 0.51%. The lower returns of corporate bonds were caused by their yield spreads widening 8 basis points on average. Weaker equity prices were partly to blame for the spread widening, but new issue supply also was a factor. A total of $12.9 billion of new investment grade issues came to market in the month. While $4.2 billion were floating rate issues, the heavy supply of fixed rate issues pushed valuations of existing bonds lower. Generally, new issues during the month were offered with wider yield spreads than existing secondary issues (i.e. new issue concessions) and would be very well subscribed but, subsequently, secondary spreads would widen out to the new issue levels rather than the new bond rallying. Non-investment grade issues fared slightly better in the period, earning 0.66%. Real Return Bonds returned 1.49%, as their longer average durations more than compensated for a slightly lower breakeven rate. Preferred shares underperformed bonds, returning -0.66% in the month.

We believe that a global trade war is possible, but not probable. Trump’s recent tape bombs were nothing more than negotiating tactics, in our opinion. The U.S. president’s modus operandi for negotiations seems to be to pre-announce bold, punitive steps that will be forthcoming, then actually announce those steps but make them effective in a month or two. The purpose of the delay in making them effective is force negotiations in which the U.S. appears to have an upper hand. The delay also gives the U.S. administration the ability to backdown if its stance has not been well thought out. That every country save China and Japan have subsequently been given exemptions from the proposed steel and aluminum tariffs is an example of this. Similarly, Trump’s threats to pull out of NAFTA were designed to put pressure on Canada and Mexico, but increasingly it seems he has no intention of actually cancelling the trade agreement. With a view to his potential legacy as a “business-friendly” president, he is unlikely to impose tariffs that start a trade war.

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