Bond Market Coming Around to Poloz’s One Rate-Cut Riff

Updated on

The bond market is starting to believe Stephen Poloz’s newfound optimism in the Canadian economy, resetting borrowing costs back to the day of his shock rate cut.

Traders have almost completely priced out another rate cut in banker’s acceptances contracts, a predictor of interest rates. Contracts due December 2015 reached 1 percent this month for the first time since Jan. 21, the day the Bank of Canada lowered its overnight rate to 0.75 percent to contend with the collapse in the price of oil, the nation’s biggest export.

So-called Bax contracts have settled about 20 basis points above the central bank’s target rate on average since 1992, data compiled by Bloomberg show. The yield has averaged 0.91 percent this year.

“Ever since he basically changed his tune and oil started to come back, logic only dictates he has to be on hold,” said David Love, an independent trader of interest rate derivatives at Jitneytrade Inc. in Montreal. “What futures contracts are telling us right now is basically no move from the Bank of Canada at least until 2016.”

The Bank of Canada Governor told policymakers two weeks ago there’s no need for another rate cut at the moment on signs of a rebound in the price of oil and global growth. Even the loss of 19,700 jobs from payrolls in April wasn’t enough to temper the market’s optimism, as the Canadian dollar, the best-performing major currency in the past three months, extended gains Friday after the jobs report.

Last week also saw speculators cut bets against the loonie, as the Canadian dollar is known, to the least in seven months. Bets against the currency outnumbered those in its favor by 10,080 positions May 5, the least since Oct. 10, data from the Washington-based Commodity Futures Trading Commission show.

‘Definitely Listening’

“Markets are definitely listening to what Poloz is saying,” Emanuella Enenajor, chief Canada economist at Bank of America Merrill Lynch, said by phone from New York. “He sounds very optimistic. He sounds like he’s comfortable staying on hold, and I think markets have taken that to heart.”

Should Poloz stop at just one rate cut, it would be a rare instance of a reduction of 25 basis points effecting enough stimulus. Since 1996, the Bank of Canada has always made successive cuts to its policy rate, according to data compiled by Bloomberg. Poloz has said he expects the damage from a drop in oil prices will start to be overshadowed in the second half of this year as “positives” including stronger U.S. demand for Canadian goods move to the forefront.

Seven of 22 economists in a Bloomberg survey, including Enenajor are expecting at least one more rate cut this year. David Watt, chief economist at the Canadian unit of HSBC Holdings Plc, also predicts further easing.

‘In Flux’

“As we adapt to lower oil prices, will other sectors step up?” Watt said by phone from Toronto. “We haven’t really seen that. We’re still dealing with the oil price shock. We’re still in flux. We’re not sure whether those that are more bearish like me or the ones that are more optimistic like the Bank of Canada are right.”

April’s job losses were led by declines in part-time work and coincided with layoffs by retailers Target Corp. and Best Buy Canada, a unit of Best Buy Co. They were less concentrated in Ontario factories, where Poloz has pinned his hopes for a manufacturing-led rebound.

Employment Watch

Economists had forecast a 5,000-position decline in a Bloomberg survey. Part-time positions dropped by 66,500, the most since March 2011, and full-time employment rose by 46,900.

“We continue to believe that the BoC will keep rates unchanged for some time and that the strength of non-energy exports is what matters the most for the BoC,” Charles St-Arnaud, senior economist at Nomura Holdings Inc., said in a note to clients Friday after the jobs report. “The six-month moving average of the change in employment remains modest at around 2,600.”

Poloz, who called his 25 basis-point cut in January “insurance” against the impact of falling oil prices, said he’s satisfied with how the economy is responding.

“The insurance amount was about right,” Poloz said April 28 in comments to the House of Commons finance committee in Ottawa. “Therefore, there is no need for us to take further action to offset the shock that has occurred.”

(Corrects average change in employment number in 13th paragraph. To receive Canada Credit column, click SALT CACREDIT. For more debt-related news, see TOP CM.)
Before it's here, it's on the Bloomberg Terminal. LEARN MORE