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Canadian bonds end mixed, but outperform US market

TORONTO: Canadian government bonds ended down across most of the yield curve on Thursday, but once again escaped the full brunt of the downward pull spilling out of the troubled US market.

In the United States, a badly received 30-year auction caused the long end of the market to collapse, further eroding the gains made when the long rallied last week.

Canada's negative yield spreads against the US, which eroded sharply when Canadian bonds trailed behind the US last week, widened significantly again at the long end on Thursday.

"Given the fact that it was the US auction dragging things, in some sense we have been less directly affected by it," said Marcel Kasumovich, associate economist at Goldman Sachs Canada.

The Canadian benchmark long bond, due 2027, lost 77 Canadian cents to C$123.84 to yield 6.180 percent.

The US 30-year T-bond lost 52/32 to yield 6.441 percent. The negative spread between the two long bonds was at 26.1 basis points, from 19.6 at the previous day's close.

The poor US long bond auction and subsequent deterioration at the long end suggest last week's surge higher was based largely on short-covering and panicked scrambling after the US long bond and is not sustainable, said one Toronto bond salesman.

Remarks on Wednesday from US Treasury Secretary Lawrence Summers, who said the Treasury would use the entire yield curve to hold down its borrowing costs, removed much of the incentive for chasing after long bonds, he added.

"The sure bet of just going out and hogging up on long Treasuries doesn't look so sure any more," the salesman said.

"Once you get all the shorts to cover and nothing fundamentally has changed, you're back to where you were at the beginning of the year...who are you going to sell them to?" he added.

"That was a just a big mountain, and the other side of the mountain, when there's no substance, is a cliff," he said.

Although last week's rally in the United States eliminated much of Canada's spread advantage, the market collapse there this week is restoring it, he added. "We're actually tightening back to where we were before," the bond salesman said.

New issues continue to be scarce, he added. "I don't think the market jitters are encouraging too many people to come forward and do issuance here," he said.

Trading volumes in Canadian bonds were moderate on Thursday morning.

Domestically, the front end outperformed the long, reducing the negative spread between two-year and 30-year bonds to 1.7 basis points from Wednesday's 7.1 close.

Canada's two-year bond was up 2 Canadian cents at C$98.41, for a yield of 6.197 percent.

The three-month when-issued T-bill was at a yield of 5.10 percent, unchanged from the previous day's close.-Reuters