Renewed turmoil in global commodity markets is hammering Canada's corporate bonds, pushing them to the worst performance in the industrialized world -- with little relief in sight.
Investors in Canadian corporate debt lost 1.1 per cent during the third quarter, compared with an average return of 0.12 per cent among Group of 10 countries, according to data from the Bank of America Merrill Lynch Global Corporate Index.
The plunge came amid a collapse in commodity prices as China faces its slowest pace of expansion in 25 years. And with the leaders of the world's second-largest economy shifting emphasis to the service sector from debt-fueled capital spending, that doesn't bode well for global suppliers of raw materials.
"There still is a sense that growth is still biased to be weak and vulnerable," David Tulk, chief Canada macro strategist at Toronto-Dominion Bank's TD Securities unit, said. "From a corporate perspective, you don't have the surety of stronger demand to really invest and expand."
The price of crude oil, Canada's leading export after motor vehicles, is trading around $45 a barrel, down nearly 60 per cent from June 2014 highs. The Canadian dollar tumbled more than 20 per cent against its U.S. counterpart in that same time period, adding to the headwinds as the country's economy contracted in the first two quarters of the year, meeting the textbook definition of a recession.
"All of those factors added to the negative sentiment" toward corporate bonds, Jason Parker, head of fixed-income research at Bank of Montreal's BMO Capital Markets unit, said.
Global concerns about liquidity led to negative bond yields in the spring, which combined with investor anticipation of a Federal Reserve interest-rate hike, trickled down to a reluctance to trade corporate bonds, Mr. Parker said.
Within the domestic market, Enbridge Inc.'s rating downgrade in June by Standard & Poor's increased the proportion of BBB-rated bonds to 34 per cent of the Canadian investment- grade corporate bond market at $132-billion in debt, according to Bank of America Merrill Lynch data. The jump put pressure on BBB-rated bonds as investors re-evaluated their portfolios, Parker said.
The lower Canadian dollar has also hit corporate bonds as foreign investors see less relative value for Canadian debt. Investors buying new debt are now asking for 10 to 15 basis points of extra yield because there's not enough cash to soak up new issuance and there is worry spreads will widen further, Mr. Parker said.
The loonie, as the Canadian currency is known, "is probably about 5 per cent below any semblance of fair value," David Rosenberg, chief economist at Gluskin Sheff & Associates, said Wednesday at Bloomberg LIVE's Canadian Fixed Income conference in New York.
Despite the headwinds, not all investors are giving up on Canada.
"The fundamentals of the Canadian corporate-bond market remain strong," James Redpath, a portfolio manager at Mawer Investment Management Ltd., said by e-mail. "We continue to find value in individual companies, and the overall diversification that the Canadian corporate bond-market provides for our balanced portfolios."
Prospects for Canadian debt investors may look better by the middle of 2016, said Mr. Tulk, who foresees energy prices increasing, the Fed raising interest rates and Chinese economic stimulus buoying the market for corporate bonds -- all of which underscores the Canadian economy's dependence on outside factors.
"Canada at the end of the day is a small, open-market economy that does need international trade to grow over a sustained basis," Mr. Tulk said.