Canadian bonds sag as BoC remains optimistic on economic growth, Fed rate hike expectations strengthens

The Canadian government bonds continued to trade lower Monday after the Bank of Canada maintained its key interest rate on hold at 0.5 percent as the central bank continues to anticipate a sound economic growth in the second half of 2016.

Also, investors moved away from safe-haven buying following a rise in rate hike speculation post the hawkish comments from the United States Federal Reserve policymakers.

The yield on the benchmark 10-year bond, which moves inversely to its price, rose 1 basis point to 1.164 percent, the yield on long-term 30-year note also climbed 1 basis point to 1.782 percent and the yield on short-term 2-year bond jumped 1/2 basis point to 0.588 percent by 12:10 GMT.

Bloomberg’s implied portability for a rate hike increased to 30 percent for the September FOMC meeting, up from 25 percent calculated at the end of last week.

On Friday, the Boston Federal Reserve President Eric Rosengren (a voter in 2016) said that he sees a reasonable case for gradual rate increases and a failure to continue the path of gradual rate normalisation could shorten the recovery; history shows the difficulty of slowing the economy after waiting too long to tighten policy.

He further added that payrolls growth has been somewhat choppy of late, but the United States economy is performing quite well, has proven resilient to international risks, and is at/close to full employment. Additionally, comments from fellow officials Tarullo and Kaplan were more balanced.

Last week, the Bank of Canada maintained its key interest rate at 0.5 percent yesterday during the policy meeting. The Canadian central bank continues to anticipate a sound economic growth in the second half of 2016 as the economy rebounds from the setback suffered in the second quarter. The BoC seems to be highly worried regarding the global growth backdrop, especially the outlook of U.S. The central bank appears to be less certain about the outlook for U.S. business investment, underlining the weaker-than-anticipated second quarter performance.

Moreover, the Bank of Canada also raised concerns about Canada’s economic outlook. The exports in the second quarter were described as weaker than expected. Even if the same special factors and infrastructure activity are likely to stimulate growth in the second half of 2016, the central bank noted that “the ground lost over previous months raised the possibility that the profile for economic activity will be somewhat lower than anticipated in July”, noted TD Economics in a research report.

The BoC sees a rise in financial vulnerabilities in spite of preliminary signs of ‘possible moderation in the Vancouver housing market’. Even if inflation continues to be roughly consistent with the central bank’s projections, the balance of risks around the inflation profile are witnessed as skewed to the downside relative to earlier projections, said TD Economics.

In addition, the Canadian bonds have been closely following developments in oil markets because of their impact on inflation expectations, which are well below the Bank of Canadas target. Crude oil prices fell nearly 2 percent after a number of rigs digging for oil in the US rose again last week. The International benchmark Brent futures fell 1.94 percent to $47.09 and West Texas Intermediate (WTI) dipped 1.92 percent to $45.00 by 12:10 GMT.

Lastly, Canadian stocks may struggle to continue its winning track Monday morning amid sluggish commodities.

The S&P/TSX Composite Index fell 1.78 percent at the close of the trading session to 14,539.88 on Friday.