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Canada bonds end mixed, short end outperforms long

TORONTO: Canadian government bonds ended mixed on Friday, with the short end climbing higher in response to sliding equity markets and the long end tumbling lower as it gave back some of its earlier gains.

"On a relative basis, there's some firmness in the front end. It appears to be tied to equity market weakness," said Mark Chandler, senior economist with Goldman Sachs Canada.

Canada's two-year bond was up 6 Canadian cents at C$99.05, for a yield of 5.820 percent.

The Canadian benchmark long bond, due 2027, lost 95 Canadian cents to C$128.64 to yield 5.878 percent.

The US 30-year T-bond lost 7/32 to yield 6.153 percent. The negative spread between the two long bonds was at 27.5 basis points, from 31.7 at the previous session's close.

The long end's underperformance relative to shorter-dated bonds may reflect some reversal of its previous outperformance, analysts said.

"It may be associated with inflation fears after the stronger numbers that we've seen," said Goldman's Chandler.

It was reported early in the session that US gross domestic product growth was 6.9 percent in the fourth quarter, revised upward from the original 5.8 percent estimate.

Some of the short-end strength may reflect the strength in the Canadian dollar, which appreciated sharply in the last two sessions, bouncing off lows around C$1.4660 recorded on Wednesday to C$1.4485 late on Friday.

"I think there's been a further positive response to the improvement in the Canadian dollar, which is basically back to much more reassuring levels," said Frank Hracs, head of fixed-income research at T.D. Securities Inc.

Hracs attributed the currency's surge to its decisive break from its recent pattern of declining in tandem with the Australian dollar.

Strength in the front end could also reflect a continued response to news on Thursday that Canada's all-items consumer price index in January was up only 2.3 percent on a year-over-year basis, while core inflation, which excludes the volatile food and energy sectors, increased by only 1.4 percent.

The perception that Canada has less monetary tightening ahead of it than the US may also be contributing to strength in the short end, Hracs said.

"I suspect the US market is also keeping an eye on the equity market," he added. US equity markets slipped lower on Friday, with the Dow Jones industrial average closing below 10,000 for the first time since October.

Declining stock markets increase the probability of a minimal Fed tightening cycle, which is supportive for the short end of the yield curve, Hracs said.

Hracs agreed the weakness in the long end was consistent with that part of the curve relinquishing some of its earlier gains. "That end of the market did outperform significantly in the last few weeks, and I think funds are shifting out of the long end, which was probably fairly expensive, and back down the curve," he said.

Flows were said to be fairly light on Friday, with players keeping an eye on the release of Canadian fourth-quarter gross domestic product and current account data on Monday.

"We have quite a bit of information coming out on Monday, and this is all happening in positioning ahead of that in fairly thin markets," Chandler said.

The three-month when-issued T-bill was at a yield of 5.07 percent, down from the previous day's close at 5.10 percent.-Reuters