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Biggest Rally Since ‘02 Drives Provinces to Bonds: Canada Credit

Bond sales by Canadian provinces surged in the third quarter to the highest in almost a decade as borrowers took advantage of record-low interest rates and steady investor appetite to raise funds.

Provincial and municipal borrowers sold C$25.9 billion ($25.2 billion) in 58 deals since June 30, the most since Bloomberg began tracking the data in 1999, except for the second quarter last year. Lower interest rates from a year ago translated into annual savings of about C$54 million for borrowers and taxpayers. Investors stand to make the most this year since 2002.

As provincial bond sales approach record levels, relative yields are tightening, indicating the increase in supply isn’t driving away investors. That’s a good sign for Canada’s credit markets, according to Trevor Thom, director of debt capital markets at Toronto-Dominion Bank’s TD Securities unit.

“Even with this backdrop of declining interest rates and continued volatility in equity markets, we’ve managed to have near-record issuance over a period where provincial spreads have actually narrowed,” Thom said by phone from Toronto. “This speaks volumes to how comfortable domestic investors are with the fiscal resiliency of the provinces.”

Ontario 10-year spreads narrowed between 5 and 7 basis points since June 30, and 30-year spreads are 3 to 5 basis points tighter, Thom said. The Bank of America Merrill Lynch Canadian Provincials & Municipals Index returned 3.7 percent, the most since the final quarter of 2008.

‘Big Deficits’

Provincial governments have reported higher deficits because of the recession last year and on stimulus spending to pull out of the slump, according to Michael Gregory, senior economist at Bank of Montreal’s BMO Capital Markets unit.

“With big deficits, you’ve got to do a lot of financing,” Gregory said by phone from Toronto. “Now you’ve got very low interest rates, which makes a tremendous incentive to do as much of that as you possibly can, as soon as you can.”

Yields on Merrill’s provincial index, which tracks 399 bonds with C$461 billion outstanding, dropped to 2.99 percent yesterday, from 3.27 percent on June 30. They reached 2.93 percent on Aug. 30, the lowest on a monthly closing basis since index data begins in 1992.

Elsewhere in credit markets, the extra yield investors demand to hold the debt of Canada’s companies instead of its federal government ended yesterday at 145 basis points. The spread has tightened 4 basis points, or 0.04 percentage point, in September and the same amount since June 30. Yields fell to 3.662 percent, from 3.953 percent at the end of June.

Beer Bonds

Bank of Nova Scotia sold $1.25 billion of 2.05 percent U.S. dollar bonds due in October 2015. The debt priced to yield 83 basis points over Treasuries.

Lloyds TSB Bank, a unit of Lloyds Banking Group Plc, issued C$350 million of 4.57 percent bonds maturing in October 2015. The so-called Maple bonds -- debt issued by foreign companies in Canadian dollars and named after the leaf on the Canadian flag - - priced to yield 260 basis points over government benchmarks.

Molson Coors International LP, the Denver-based brewer, sold C$500 million in 3.95 percent bonds maturing in October 2017. Caisse Centrale Desjardins sold C$600 million in 3.5 percent bonds maturing the same month, priced to yield 121.2 basis points over governments.

In the provincial bond market, relative yields tightened to 58 basis points yesterday, from 60 basis points on Aug. 31 and 64 basis points on June 30, the Merrill data show. Bonds in the index have returned 7.9 percent so far this year, on track for the best annual performance since the 9.9 percent gains in 2002.

Global, U.S. Returns

Canadian government bonds returned 0.3 percent in September, after reinvesting interest, according to another Merrill Lynch index. U.S. Treasuries were flat last month through Sept. 29, compared with a 0.3 percent drop for government bonds globally.

Ontario, British Columbia and other province have been able to borrow at interest rates near all-time lows to close shortfalls from record budget deficits for the fiscal year that ended in March. Manitoba, New Brunswick and Saskatchewan were also among provinces that borrowed in the period ended Sept. 30, along with Ontario cities Toronto and Ottawa, and the Trois-Rivieres in Quebec.

Canada Housing Trust, which raises money to purchase mortgage securities from lenders, accounted for C$9.8 billion of the debt sales in the period. Other borrowers included Canada Post Corp. and Hydro-Quebec.


“All-time historical lows in longer-term yields have presented an opportunity,” Mark Chandler, head of Canadian fixed-income and currency strategy at Royal Bank of Canada, said by phone from Toronto.

Canadian governments borrowed C$72.1 billion in the first three quarters of this year, down 5.3 percent from the C$76.1 billion in the same period a year ago. Borrowing accelerated from the first quarter, when C$20.6 billion in government debt was issued.

Demand for provincial bonds has been “pretty solid,” according to BMO Capital’s Gregory.

“It’s been lots of supply because of big deficits, but lots of demand because of the particular traction of the provincial bonds,” Gregory said.

Canadian provinces have completed more than two-thirds of their financings for the year, according to Gregory.

Once in a Lifetime

“Issuance may cool a little bit, but the attraction will probably be even lower yields, perhaps the lowest yields you’ve ever seen in your lifetime,” Gregory said. That “will be a very compelling case for provinces to test the waters.”

Canadian corporate debt sales rose by a third to C$16.3 billion in the quarter from a year earlier, including C$1 billion deals by Telus Corp. and Canadian Imperial Bank of Commerce.

Royal Bank of Canada’s RBC Capital Markets was the top arranger of company debt in the period, followed by CIBC and Bank of Nova Scotia’s Scotia Capital unit, according to Bloomberg data.

RBC Capital Markets ranked first in government debt sales in the quarter as well as year-to-date, followed by TD Securities and National Bank Financial, Bloomberg data show.

“The backdrop for a lot of provinces will remain very favorable,” Royal Bank’s Chandler said. “The primary driver is the reception in terms of longer-term yields and the opportunities there, and that part really shouldn’t change through early November.”

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