The Canadian bond market enjoyed good returns in November as positive long term bond results offset some weakness in shorter maturities. Initial bond gains faded following surprisingly robust labour market data, but bonds rallied again after dovish remarks by the Bank of Canada in the middle of the month. Canadian bond market returns beat those of the U.S. market, reflecting the somewhat weaker economic growth north of the border. The FTSE TMX Canada Universe Bond index returned 0.79% in November.

Canadian economic data received during the month was mixed. Unemployment edged up to 6.3% from 6.2% a month earlier, but the underlying details were positive as job creation was strong and the participation rate rose. Other positive news included stronger than expected manufacturing sales and housing starts that remained elevated. Less positively, wholesale and retail sales were weaker than expected and the trade deficit was larger than forecasts. The fifth round of NAFTA negotiations ended with greater pessimism about a successful conclusion. Inflation remained constrained at 1.4%, which allowed Bank of Canada Senior Deputy Governor Wilkins to suggest the Bank would be cautious about raising rates. Wilkins cited uncertainty about trade and the impact of recent changes to mortgage borrowing rules as reasons for the Bank to slow its rate increases going forward. Bond yields declined following Wilkins’s dovish remarks.

U.S. economic news was generally quite favourable in November. The pace of GDP growth in the third quarter was better than expected at 3.3%, an acceleration from the already robust pace of the second quarter. Unemployment fell to 4.1%, the lowest rate since 2000. Industrial production rose more rapidly than expected on increased factory and utility production, and business investment spending remained robust. Housing starts and new home sales were markedly better than forecasts. President Trump announced that Janet Yellen would be replaced as Chair of the U.S. Federal Reserve by Jay Powell when her term ends in February, but the news had little impact on the bond market. Efforts to pass tax reform legislation in the United States gathered speed, but neither the House nor the Senate versions appeared to be particularly stimulative from an economic perspective. Federal deficits, however, were likely to be larger with either plan.

The Canadian yield curve flattened in November as 2-year benchmark Canada yields rose 4 basis points, while 30-year yields declined 8 basis points. Demand for long term bonds at the end of the month was good, as investors anticipated the indices’ durations lengthening in early December due to coupon payments and short term issues being dropped. The U.S. yield curve also flattened in the month, but in a more bearish way. Yields of 2-year Treasuries jumped 18 basis points, while 30-year yields declined only 4 basis points. While Canadian yields were already below comparable U.S. yields, the differential improved in Canada’s favour during November by another 12 to 14 basis points across all maturities. There was negligible impact on the Loonie, however, as the exchange rate was little changed in November.

The federal sector returned 0.43% in the month. The provincial sector, which has relatively more long term issues, gained 1.24%. Provincial yield spreads narrowed 3 basis points on average. The corporate sector earned 0.68% in the period, as corporate yield spreads edged a basis point tighter on average. Supply of new, fixed rate investment grade issues was robust at $13.6 billion. The total was buoyed by jumbo 5-year deposit note deals for Royal Bank ($2.25 billion), Bank of Nova Scotia ($2.0 billion), and HSBC Bank Canada ($1.5 billion). High yield corporate bonds ignored weaker conditions in the U.S. high yield market and returned 0.69% in November. Real Return Bonds benefitted from their long average durations and gained 1.37% during the month. Preferred share returns, at 0.70%, were close to those of bonds.

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