Short Sellers Get Notice as Bank of Canada Signals Rate HikeBy and
Wilkins say central bank to assess whether stimulus cut needed
Country’s currency is second-worst performing major in 2017
Count the Bank of Canada out as an enabler.
Investors betting against the Canadian economy lost a key support Monday when the country’s central bank indicated it’s turned bullish enough to consider raising interest rates -- a surprise policy change the Bank of Montreal called a “potential watershed.’’ Governor Stephen Poloz added to the bullish tone in a CBC interview Tuesday by saying rates have been “extraordinarily low,” and that rate cuts “have done their job.”
The comments Monday by Carolyn Wilkins, the central bank’s second-highest-ranking official, are a rebuke to pessimists who say unprecedented household debt and record home prices will trigger a disorderly unwind of Canada’s housing markets, some of which may have entered into bubble territory. The Bank of Canada may have contributed to the negativity. Until now, it’s been slow to acknowledge a sharp economic rebound, suggesting instead the economy wasn’t healthy enough to warrant higher interest rates.
“It was a painful day for those investors holding short positions in the Canadian dollar in the hope of a short-term gain,” said Matthew Strauss, a Toronto-based portfolio manager at Signature Global Asset Management.
The loonie surged after Wilkins’s comments, ending Monday up 1.1 percent to C$1.3350 per U.S. dollar in Toronto, the steepest increase since March and the biggest advance among Group-of-10 peers. The loonie added to gains Tuesday, rising 0.33 percent. Odds of a 2017 rate increase almost doubled to 59 percent, from 30 percent on Friday, based on trading in the swaps market. Yields on benchmark 2-year government bonds surged 11 basis points to 0.84 percent, and added another three basis points Tuesday to the highest since January 2015.
Short sellers betting against Canada’s housing market have been emboldened by several factors: price gains that far exceed incomes; the recent run on deposits and share collapse at mortgage lender Home Capital Group Inc.; and a downgrade of the nation’s banks by Moody’s Investors Service. Even while the economy has been on a roll -- with annualized growth of 3.7 percent in the first quarter -- the boom times in Vancouver and Toronto look to some investors like the debt-fueled housing bubbles that wrought havoc in so many Western countries last decade.
“I’m starting to believe that there could be some real problems with Canada,” Carson Block, an investor and founder of Muddy Waters LLC, said in a May 31 interview. Canada may be “the hottest market in the world for short sellers; if not, it could be.” The investor is shorting Canadian miner Asanko Gold Inc.
Famed short seller Marc Cohodes has been betting against Home Capital since November 2014 -- when the stock was near its peak. The California investor is also targeting mortgage lender Equitable Group Inc. Net short positions in the Canadian dollar meanwhile hit an all-time high going back more than two decades.
In a speech Monday, Wilkins highlighted how the nation has largely emerged from the oil price decline that prompted policy makers to cut interest rates twice in 2015, citing “pretty impressive” first-quarter GDP growth that was the well above any other G-7 economy. The recovery is also broadening across regions and sectors, giving policy makers “reason to be encouraged” about its sustainability.
She downplayed worries about Toronto’s housing market and, while acknowledging slack still remains in the economy, said policy makers need to keep their eye on the future evolution of growth, not only current economic conditions. The analogy she used was of a car needing time to brake ahead of a traffic light.
“As growth continues and, ideally, broadens further, Governing Council will be assessing whether all of the considerable monetary policy stimulus presently in place is still required,” Wilkins said. “At present, there is significant monetary policy stimulus in the system.”
Market sentiment had already turned more bullish on Canada before her speech. Short-interest positions of Canada’s six-biggest lender are down, with Toronto-Dominion Bank and Royal Bank of Canada -- the two largest -- now at about 1.6 percent of the free float, according to Markit data. That compares with about 5.9 percent at Royal Bank on April 25, and 5.5 percent in early April for Toronto-Dominion Bank, the data show.
Short sellers have also been easing pressure on Home Capital. Short positions on the shares dropped to 20 percent earlier Monday, the least since July 2015, according to Markit data. The alternative lender’s stock tumbled in April after Ontario’s securities regulator accused the company of misleading investors about mortgage fraud.
The sense that Canada’s economy is strong enough to overcome any vulnerabilities in the financial system was also the key theme last week at a press conference by Governor Stephen Poloz. The optimism is an about face from earlier this year, when he spoke about the possibility of another reduction in the bank’s benchmark lending rate, after cutting it twice in 2015 to 0.5 percent.
“This is a pretty glaring hint that policy is now biased to tighten, with the next move likely a lot sooner than many had expected,” Bank of Montreal Chief Economist Doug Porter said in a note to investors.
The Toronto-based bank moved up its call for a rate increase to January, from its previous call for an April move. The bank said an October hike is a “real possibility.”