Traders Raise Bets on Early Canada Rate Rise on Strong Data

The operators are increasing their bets that the Bank of Canada Governor Mark Carney will resume interest rates as early as next quarter on speculation that the pessimism about the global economic recovery is exaggerated.

The yield on the June 2011 contract bankers acceptances, a barometer of expectations of short-term rates, rose 16 basis points in two days after a report showed inflation in Canada grew faster than the 23 economists in a  survey predicted. That's the biggest two-day hike from the Bank of Canada policy makers, last raised its benchmark rate during the night of September 8. The agreement ended 1.73 percent today, the highest since July 14.

Investors may be "underestimating" the chances that the Bank of Canada will raise rates next quarter, according to Morgan Stanley. Carney kept its key policy rate unchanged in October after three consecutive increases, citing a weak U.S. perspective. Since then, U.S. and Canada, the indicators suggest that growth could be picking up, which increases more likely.

"Canada has been delayed this year largely due to concerns over the U.S.," said Yilin Nie, strategist at Morgan Stanley in New York, in a telephone interview. "What we're seeing in the margin is to lift U.S. growth this quarter and continues to recover from entering next year."

Nie said that while investors are anticipating an increase in June, the central bank will have to resume raising rates sooner than that. "To the extent that the Canadian economy upside surprises then the path should surprise rate head too," said Nie.

Keeping fees

The Bank of Canada kept its key interest rate to 1 percent by the end of the second quarter, according to the median forecast of 22 economists surveyed by us this month. The October median forecast was for target up to 1.50 percent by then.

Elsewhere in credit markets, the extra yield investors demand to hold the debt of companies in Canada instead of the federal government stood at 135 basis points, or 1.35 percentage points, according to Bank of America Merrill Lynch data. Spreads reached 134 basis points, November 16, the narrowest gap since May. Corporate yields ended yesterday at 3.92 percent.

the relative return on U.S. corporate bonds ended November 23 at 177 basis points, Merrill data show. Corporate world extends 169 basis points.

Canadian corporate bonds lost 1.3 percent in November, prepared for the worst month since October 2008. U.S. debt company lost 0.6 percent in November. Global corporations also were up 0.6 percent through Nov. 19.

Cara Operations Ltd. paid 667 basis points over benchmark government to sell C $ 200 million of 9.125 percent bonds due in December 2015.

Provincial spreads

In the provincial bond markets, the relative yields fell 1 basis point to 52 basis points. They reached 51 basis points on November 16, the tightest spreads since April, as wide as 71 basis points on May 21. Yields increased to 3.29 percent from 3.21 percent the previous day.

provincial bonds have lost investors 2.2 percent this month, the biggest drop since February 1994. Canadian government bonds have fallen 1.9 percent in November.

Quebec will offer C $ 250 million of its 4.5 percent notes maturing in December 2019, bringing the total outstanding of $ C $ 5 million. Debt with a yield of 75.5 basis points over benchmark.

The yield on the benchmark 10-year note rose 8 basis points to 3.19 percent yesterday, the highest since July 29 as the price of the value of 3.5 percent due June 2020 fell 69 cents to C $ 102.57 . The 10-year yield fell a basis point today to 3.18 percent.

Breakeven price

Canada equilibrium rates of 10 years, which measure the performance difference between inflation-indexed bonds and cash and expectations of price indicators, touched 2.31 percent yesterday, the highest since May 14 . Actual performance - production minus the annual inflation rate - widened yesterday to 0.74 percent from 0.3 percent in October. The difference touched 2.26 percentage points in June. The equilibrium rate was at 2.28 percent today.

Annual inflation accelerated to 2.4 percent in October from 1.9 percent in the previous month, Statistics Canada said on 23 November. The median forecast of 23 economists surveyed by us was for an advance of 2.2 percent.

Retail sales rose 0.6 percent to a seasonally adjusted C $ 36,400,000,000 in September, the fourth consecutive gain, led by automobiles and general merchandise stores. Economists surveyed  expected a 0.7 percent increase, according to the median of 22 estimates.

'Positive surprise'

The data are "having some influence" on higher expectations for rates, Mark Chandler, head of the Canadian currency and rates strategy at RBC Royal Bank of Canada Capital unit, said via e-mail. "Some positive surprises in the world, the decline of the Canadian dollar parity and the ability of commodities to keep still" are also contributing to the expectations.

Americans increased spending for the fifth month in October, the lowest amount of unemployment claims in more than two years last week and a measure of consumer confidence beat expectations, reporting U.S. showed yesterday.

Chandler said RBC is forecasting that the Bank of Canada to raise rates again in April, so "we believe that currency valuations are on the right."

The six months to a day rate of exchange index, a measure of what investors predict the central bank rate will average during that time, rose to 1.16 percent today, the highest since December 2008.

The March 2011 contract rose two bankers acceptance basis points to 1.55 percent today, the most since Sept. 24. Bax contracts have been established called an average of about 18 basis points above the target overnight central bank since 1992.

"We are basically pricing of almost 25 basis points of hiking in March," said David Love, a derivatives trader on interest rates at brokerage Montreal Le Groupe Jitney Inc., by email. "That's getting aggressive."