Corporate Canada’s penchant for issuing bonds in euros - into the open arms of Mario Draghi – is creating a drought of new supply at home, pushing down companies’ borrowing costs.
Canadian banks have been taking advantage of low rates in the eurozone, having borrowed €13.4bn ($14.9bn) in the region so far this year, up from $6.41bn for the same period last year, according to data compiled by Bloomberg.
The European Central Bank (ECB) said in March that it was cutting rates further below zero and that it will start buying investment-grade corporate bonds, which has made it much cheaper for companies globally to borrow in euros.
In Canada, the impact is clear: issuance has fallen by more than 20% to C$31.2bn ($23.94bn) from the same period in 2015, Bloomberg data show.
“What the European Central Bank is doing in its quantitative easing program is buying corporate bonds in Europe and that’s having an impact of making it more attractive for Canadian Corps to fund themselves outside of Canada,” said Aubrey Basdeo, head of Canadian fixed income at BlackRock in Toronto.
Supply may have fallen, but demand is still strong in part because of rising oil prices, which helps Canada’s economy. That’s sent prices higher, narrowing the gap between yields on corporate bonds and government debt. That gap is near the narrowest in about eight months. It stood around 154 basis points on Wednesday, compared with 167 basis points at the end of last year, according to Bank of America Merrill Lynch data.
“The Canadian corporate market has been pretty healthy along with the global market for risk assets,” said Ed Devlin, who manages about C$17bn ($13bn) in Canadian fixed income at Pacific Investment Management Co in New York. “You’ve seen a very good rally in the US corporate market, high yield, and other stock markets.”
The strong demand for Canadian dollar-denominated debt is evident when new issues are sold, Devlin said- orders often exceed the supply for sale, he added. Issuance is falling in Canada at a time when it should otherwise be relatively high.
There are C$12.8bn of corporate bonds expected to mature in June, the most in seven months, according to RBC Capital Markets data. That debt should have been refinanced in recent months – companies usually issue new bonds to refinance debt about three to six months before notes mature, Devlin said.
Even after the recent rally, Canadian dollar-denominated debt is a good investment, said Pimco’s Devlin. He particularly likes financial companies, which he is overweight.
He bought deposit notes in February and March. His allocation to Canadian banks relative to international competitors is near the highest it’s been in years. He also likes long-dated utility bonds.
People are concerned that banks have too much exposure to energy and housing as the economy slows, so that’s put a bit more pressure on Canadian bank bonds, Devlin said. “Usually Canadian banks look very, very expensive but with the recent sell-off they look, I wouldn’t say they look super cheap, but they look reasonable,” Devlin said. Canadian corporate bonds are closer to fair value and Devlin’s starting to think about selling some of his holdings, he said.
Banks are also being more cautious about lending to Canada’s highly leveraged consumers and energy companies, which may lower lenders’ issuance requirements to fund that debt, BlackRock’s Basdeo said.
Any issuance outside of financials and energy will be in high demand as investors look for diversification, Chris Kresic, partner at Jarislowsky, Fraser Limited Global Investment Management, said by telephone from Toronto. In times of poor market liquidity, new issuance is the best chance for investors to get large volumes, Kresic said. He helps manage C$6bn in fixed income, a majority of which is in Canadian investment grade corporate bonds.
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