Canadian Public Sector Borrower Roundtable

Published January 14, 2019 | 3 min read

As 2018 closed out, RBC Capital Markets brought together key issuer and investor market participants for a roundtable discussion on the challenges and opportunities in today’s Canadian public sector markets, domestic and offshore.

Canada's Federal and Provincial Borrowers Remain Optimistic Amid New Challenges on the Horizon”
- RBC Capital Markets

The backdrop for this conversation was a slowing Canadian economy in 2018 compared to the previous two years, which nonetheless progressed at a steady pace. A reduction in global growth, uncertainty around slowing productivity across select provinces and a question of how heavily-indebted consumers will fare in a higher interest rate environment were some of the concerns that borrowers and investors in Canada’s public sector bond markets expect to face in the year ahead.

Top Takeaways from the Roundtable

1.2018 Saw Slower But Steady Growth

 
 

Canada’s borrowers faced a slower economy in 2018 compared to the more prosperous past couple of years, with domestic growth becoming less reliant on the consumer and household sectors - transitioning to business and export growth. Most provinces experienced 2% GDP growth year-over-year – weaker than expected, but healthy. Weaker stimulus from the commodity, housing and consumer sectors drove some of that slowdown.

2.Nail-Biting Trade Negotiations Impacted Investment Appetite

 
 

The year-long negotiations to revamp the North American free trade deal caused considerable uncertainty and angst among businesses, investors and governments, in no small part due to the “Trump effect”. The new United States-Mexico-Canada agreement (USMCA), reached in October 2018, brought a huge sense of relief that will drive confidence and investment going forward.

3.Watch for Rate Hikes and the Yield Curve in 2019

 
 

Markets will focus on Central Bank action and the future path of rates; interest rate increases are expected in the second half of the year as the Bank of Canada searches for the appropriate “neutral range” in response to economic data. RBC forecasts two rate hikes for 2019 to bring interest rates in the 2.5% to 3.5% range. Against this backdrop, there are serious concerns about how Canadians will fare in a higher interest rate environment.

Canada’s yield curve ended 2018 flatter than anticipated, but is expected to steepen due to US pressures – namely, the strength of the US economy backed by strong consumer demand. Recent credit deterioration has made investors cautious about credit spreads in 2019.

4.ESG Investing Offers Compelling Opportunities

 
 

While ESG issuance in Canada was robust and grew in 2018, that trend was not exhibited globally as issuer volumes were flat. This trend is expected to continue in 2019 as climate change, income disparity and other Environmental, Social and Governance (ESG) related issues draw media headlines, political attention and investor focus. Issuers have put in efforts around responsible investment strategies, especially Green Bonds. For the most part, pricing will continue to be important for investors.

5.Government Deficits Make Investors Cautious

 
 

In the long run, the growth of provincial deficits and debt is slightly unsettling for investors. While current provincial deficit levels may be warranted given the need for important infrastructure spending, there is a feeling that the provinces require further financial discipline. Nonetheless, provincial bonds remain a “defensive investment” – though the subsequent increases in provincial debt may trigger ratings downgrades and constrain the ability of domestic investors to absorb incrementally more debt.

6.Expect Lower Global Growth Amid Trade Tension

 
 

Escalating trade turmoil (US-China in particular) and higher interest rates around the world pose concern for a sustained global economic slowdown. For issuers that have a greater proportion of international distribution, this could mean heightened volatility going forward.

7.SSA Markets Will be in Focus in 2019

 
 

While the markets have been turbulent in recent years for sovereign, supranational and agency (SSA) borrowers, compelling spread premium is expected in 2019. With the winding down of the European Central Bank’s quantitative easing program, it is anticipated that SSA spreads may widen; greater price discovery may be needed in primary markets.

Interest rate differentials will continue to favour Canadian dollar investments globally and that is a trend that may in fact grow in 2019 as Canadian and US growth diverges from other developed markets.

The full report includes a complete list of the roundtable participants, the transcript of the discussion, a comparison breakdown of Canadian federal and provincial borrower profiles and highlights of select RBC-led transactions in this space.

Read the full report

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