M fa ’ s c o r n e r the government bond landscape in canada
T
he Government bond market in Canada is a vital building block for fixed income investors. The Government of Canada, the provinces and agencies of those governments are the major constituents of this market (municipal issuance is only a small component. Debt issued by this segment is generally considered high-quality and liquid, making it desirable for various portfolio needs. Early in 2020 it became clear low oil prices and fallout from COVID-19 would have sizeable impacts on government finances. Uncertainty swirled around governments’ ability to refinance their debt, potential ‘ratings actions’ and the associated impact on the value of debt and ultimately the necessity to finance looming deficits. Aided by various support programs provided by the Bank of Canada, after a brief period of volatility in March/April 2020, investor appetite for Canadian government debt rebounded quickly and remains strong. The market absorbed an estimated $338.8 billion of new Federal/Provincial debt in 2020 along with $5.6 billion of municipal debt. The credit quality of Canadian government issuers, as measured by ratings, remains strong (Table 1). An equally weighted composite of provincial credit ratings remains near and above AA-, a level it has maintained since 2007. Meanwhile, on average, Canada continues to maintain its AAA rating. Although ratings remain high-quality, some governments’ ratings have been put
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on a negative watch or outlook, which can be interpreted as an intermediate step before a potential ‘letter-rating’ change. Rating agencies have indicated they are focused on medium-term financial plans, they will be closely following fiscal projections and core debt ratios. Due to that, investors can take some cues from the market’s reception to government fiscal policy announcements. Fiscal policy decisions which suggest debt levels in excess of ratios deemed acceptable at certain credit ratings or continued outsized deficits could lead to ratings downgrades. Despite the negative trend in core government credit measures, most investors believe outright defaults in the government bond space to be extremely unlikely, even for highly indebted and challenged provincial governments such a Newfoundland and Labrador who rely heavily on resources revenues.
