Invesco Senior Portfolio Manager Avi Hooper comments on the latest Bank of Canada announcement.
The Canadian economy hit a large pothole left over from the pandemic. Second quarter Canadian GDP contracted at a rate of -1.1% on an annualized basis1. The global supply chain remains fractured. The ‘K-shaped’ recovery has meant the shape of demand for goods and services today has structurally changed. Shipping line adjustments and geo-political trading relationships will take time to evolve. Growth projections are being brought lower, while spots of inflation will remain.
This week, the Bank of Canada (BoC) announced it will keep the purchases of government debt via quantitative easing (QE) operations at $2 billion per week and will maintain its target for the overnight rate at the effective lower bound of 0.25%2. BoC Governor Tiff Macklem suggested the plan remained to continue tapering from the current $8 to 9 billion per month to $4 to 5 billion per month. With the growth backdrop waning, the BoC has plenty of cover to maintain the current pace of extremely loose monetary policy. With an upcoming federal election, it’s not an appropriate time for any material changes in policy.
Domestic demand and export strength were the main drivers of the Canadian economic recovery. Both are set to moderate as residential investment is hampered by rich valuations and supply shortages, while commodity prices retrace previous strength. Amidst a mixed external demand backdrop, growth expectations will likely be reduced at the next Bank of Canada meeting on October 27.
We continue to believe market expectations of a BoC rate hike in 2022 are premature. Household debt levels have grown even further, leading to an increase in interest rate sensitivities on consumer spending. Disappointing demand trends from the U.S. and lower commodity prices soften the outlook for exports.
Relative interest rate differentials in fixed income and a strengthening external trade balance provide fundamental support for our positive outlook on the Canadian dollar. Given the slope of the credit curve, we remain overweight Canadian investment grade corporate bonds.
1 Source: Bloomberg
2 Source: https://www.bankofcanada.ca/2021/09/fad-press-release-2021-09-08/