Mortgage Bonds Lure Yield Starved U.S. Buyers: Canada Credit

Mortgage Bonds Lure Yield Starved U.S. Buyers: Canada Credit
Construction continues on a new home outside Toronto. Photographer: Norm Betts/Bloomberg

International investors frustrated with some of the lowest yields on record for U.S. housing bonds are turning to Canada for higher returns.

Canada Housing Trust sold C$6.25 billion ($6.1 billion) of five-year bonds last week to yield 24.5 basis points more than benchmark rates, almost half the 42.5-basis-point spread it paid to issue comparable debt in June. Non-Canadians took 37 percent of the sale, versus an average of 25 percent to 30 percent over the past two years, said Mark Chamie, Ottawa-based treasurer of Canada Mortgage and Housing Corp.

At the same time demand is rising for Canada housing bonds, U.S. Federal Reserve data show the amount of so-called agency debt of borrowers including Fannie Mae and Freddie Mac it holds on behalf of foreign investors and central banks has shrunk by $35 billion since Aug. 4 to $796 billion. The spread paid by Canada Housing represents annual interest savings of C$11.3 million, or C$56.5 million over the life of the bonds.

“All kinds of new names are becoming interested in Canada and specifically in housing bonds,” Douglas Porter, assistant chief economist at Bank of Montreal’s BMO Capital Markets unit, said by phone from Toronto. “What we’ve seen is spreads come in quite markedly in recent weeks and months across the credit spectrum as conditions somewhat normalize.”

Relative Yields

The yield to maturity on Canada Housing bonds was 2.4 percent last week, according to Bank of America Merrill Lynch data. That compares to Fannie Mae’s most recent five-year benchmark bonds, which yield 1.71 percent. U.S. agency debt yields 1.27 percent on average, down from 5.44 percent in mid-2007, just before the start of the global credit crisis.

Foreigners bought a net C$5.48 billion of Canadian securities in July, Statistics Canada said today. The buying was led by C$5.17 billion of bonds, the 19th consecutive monthly net purchase for such securities. Non-Canadian investors purchased C$5.39 billion in June, the agency said.

Elsewhere in credit markets, the extra yield investors demand to own Canadian corporate bonds instead of government debt ended on Sept. 17 at 147 basis points, or 1.47 percentage points, a decline of 1 basis point on the week and the narrowest since Aug. 30. Spreads on Merrill’s Global Broad Market Corporate Index tightened to 4 basis points to 171.

Overall yields for Canada company debt were little changed at 3.83 percent, compared with 3.57 percent for the broad index. The difference reached 29 basis points on Sept. 15, the most since April.

Provincial Spreads

Provincial bonds’ relative yields were unchanged last week at 56 basis points. The debt of the 10 Canadian provinces, with about C$277 billion outstanding, has lost 0.6 percent in September, compared with losses of 0.9 percent for governments and 0.8 percent for corporates.

The yield on Canada’s benchmark 10-year government bond fell 4 basis points last week to 2.93 percent, as the price of the 3.5 percent security climbed 35 cents to C$104.76. The yield is up from 2.745 percent on Aug. 31, the lowest level since March 2009. The bond yields about 20 basis points more than the similar U.S. Treasury, down from 31 basis points at the end of last month.

The yield advantage of Canadian 2-year bonds over equivalent-maturity Treasuries stood at 100 basis points on Sept. 17, from 104 basis points the day before, which was the widest since July 15. The gap has expanded on speculation the Bank of Canada may keep raising interest rates while the Fed keeps its target rate costs unchanged.

Inflation Accelerates

The cost of living likely increased last month, Statistics Canada may say tomorrow. The agency’s Consumer Price Index rose 1.9 percent in August from a year ago, the most since January and compared with July’s 1.8 percent gain, according to the median of 16 forecasts in a Bloomberg News survey.

International investors accounted for about 37 percent of a sale of 10-year mortgage bonds by Canada Housing last month, the highest percentage since the agency began selling securities of that maturity in November 2008.

“This represents an ongoing improvement in markets overall, but also, we believe it’s due to the increased demand for high-quality Canadian dollar investments,” Chamie said Sept. 16 via e-mail.

Non-Canadians bought a net C$6.96 billion of Canadian bonds in June, the 18th straight month they purchased more bonds than they sold, the agency said. That’s the longest streak since at least 1988. The last time foreigners sold more of the nation’s bonds than they bought was in December 2008.

Investors in the U.S. accounted for 23 percent of demand for the debt in last week’s Canada Housing sale. Europeans represented 4.5 percent of the demand while buyers in Asia and other locations accounted for 9 percent, Chamie said.

Spreads on new five-year Canada Mortgage bond issues have ranged from a low of 8 basis points in 2005 to 65.5 basis points in September 2008, Canada Housing Trust data show.

“It’s a general increasing appetite for Canadian debt, and anything that carries a Aaa rating within Canada,” Porter said. Spreads have tightened in the last several months from levels that were distorted because of concerns over debt levels in Europe, he said.

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