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Canada bonds rise and take US rate hike in stride

TORONTO: Canadian government bonds ended higher across the curve on Tuesday as the market took the widely expected 25-basis-point rate increase from the US Federal Reserve in its stride.

"This move was so well telegraphed. I don't think there's anybody in the world who should be surprised," said Sheldon Dong, fixed-income strategist at Merrill Lynch Canada.

Demand/supply dynamics, technical factors and slipping oil prices all combined to create a positive tone for North American bond markets on Tuesday, market watchers said.

The Canadian benchmark long bond, due 2027, gained 67 Canadian cents to C$131.66 to yield 5.695 percent.

In the US, the 30-year T-bond gained 18/32 to yield 5.964 percent. The negative yield spread between the two long bonds was at 26.9, from 26.8 at the previous session's close.

Market players were virtually unanimous in expecting the Bank of Canada to match the US central bank's move at its 9 a.m. (1400 GMT) window for announcing policy changes on Wednesday.

"Everyone expects the Bank of Canada to go 25 basis points tomorrow," Dong said.

With a fairly hawkish statement from the US Federal Reserve accompanying the rate move, most market players expect further rate increases from the US central bank in coming months.

There's a widespread expectation there will be another two or three increases from the Fed in coming months, Dong said. "The market is sort of convinced that the Fed is getting closer to the end," he said.

Merrill Lynch does not believe the Bank of Canada will necessarily follow the Fed step-by-step in the coming months, Dong said.

Another month of Canadian inflation statistics will give an indication of how the Bank of Canada will respond to a May rate hike from the Fed, he added.

Despite the relatively small amounts involved, the US Treasury Department's buyback of Treasury bonds is proving to be an important positive for North American bond markets, Dong said. "I think it's a psychological effect it has on people," he said.

Generally, sentiment is very positive in the bond market, he said. "People are looking for buying opportunities. Any time you get any sort of correction in the US, I think you'll get a tremendous number of buyers coming in," he said.

The fact that the yield on the benchmark 30-year US Treasury bond has broken below 6.00 percent is psychologically and technically significant for the bond market, and argues for continued market gains, Dong said.

"I would say the concern now is no longer how high will rates go, it's how low will bond yields get," he said.

A decline in oil prices is also proving helpful to bond markets by removing at least some of the pressure on the inflationary front, other market watchers said.

News early in the session that Canada's trade surplus rose to a record C$4.53 billion in January from C$2.74 billion in December appeared to be somewhat supportive for both the Canadian dollar and the Canadian bond market, although the currency did not react strongly to the news.

The increased surplus, the result of a 4.0 percent increase in exports and a 1.8 percent decline in imports, exceeded the previous record monthly balance set in May 1996 by C$60 million.

In the United States, the trade deficit ballooned by more than 13 percent to a record C$28 billion in January.

Canada's two-year bond gained 7 Canadian cents to C$99.58, for a yield of 5.952 percent.

In money markets, the three-month when-issued T-bill yielded 5.23 percent, down from 5.26 percent at the previous session's close.-Reuters