Hank Cunningham, fixed Income strategist at Odlum Brown Ltd.

Hank Cunningham, fixed Income strategist at Odlum Brown Ltd.

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BOND MARKET OUTLOOK:

After the recent dovish comments from the U.S. Federal Reserve, the bond market rallied further, pushing yields lower at all maturities. Several Fed officials have been quick to douse the market enthusiasm for near-term reductions in the U.S. federal funds rate, conditioning investors to be patient. Too early a reduction in the rate could be counterproductive to the Fed’s inflation fight. What is more probable is a gradual move to a lower Fed funds rate, likely to settle in the three per cent to four per cent range.

Importantly, while inflation has steadily improved, it has become sticky at around three per cent and expectations have inched higher. Also, the labour market remains healthy with the unemployment rate low and wage growth has moved to the four per cent level. Belying recession forecasts, corporate bond spreads remain tight to government bonds. Besides this, the market must deal with the tsunami of U.S. Treasury bond issuances to fund the deficit, but also with ongoing quantitative tightening.

This argues against much further declines in bond yields, especially long-term bonds. At 3.9 per cent, the U.S. 10-year offers investors almost no premium over inflation. It will not fall in yield from here and could possibly move higher. The net effect will be a positive yield curve with three per cent at its base as two-to-six-year maturities fall below the 10-year.

Canada faces a weaker economy than the U.S. While the Fed and the Bank of Canada would like to reduce their bank rates, they are restrained by stubborn inflation and strong wage increases. Our mid-term rates should follow those of the U.S., thus permitting some badly needed relief in mortgage costs.

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Source

https://www.bnnbloomberg.ca/market-call