Rational Advisor

TD’s, Satish Rai spoke about the Canadian Bond market.
The Good
Canada has good fundamentals,
- Moderate growth and low inflation. Inflation and interest rates are low and have fluctuated less.
- The Bank of Canada has told everyone what interest rates will be over the next 10 years. They plan to keep Core CPI in a target range of 1-3%, so that means interest rates will move to keep that range. When it hits 3% interest rates will increase to bring it back down.
- Short term interest rates will fluctuate, but will not see much movement in long term interest rates.
- Canada’s Debt/GDP has been reducing. What this means is that there is less debt needed to finance the economy. So, Canada needs to borrow less, and therefore create less Government Bonds. As an example if your credit improves you move from Store credit cards charging 30% to Regular credit cards charging 10% and then as your assets get larger you go to even cheaper lending options. It’s the same with Canada, so long term rates will probably remain lower because Canada’s credit rating is getting better.

China and India
- demand from China and India helps Canada, and Commodities have been favourable
- China is influencing our manufacturing sector- we are competing against them and losing.
- Commodities are likely to increase in volatility, as the demands from them will fluctuate a lot more.
The Challenges
Aging Canadian workforce.
- In 2005 Canada’s worker/retirees was 4.7 to 1, in 2025 it will be 2.8 to 1. We have fewer workers now, and more retirees. What this means is that they will require more income and stability and demand less growth out of their investments. Therefore there is a greater demand for Bonds.
US Housing
- This will take many years to recover. Many mortgage companies and brokerages wanted to make more money out of the housing industry so they bundled mortgages together into SIVs (Structured Investment Vehicles) - This was a mistake because instead of isolating the poor loans to a few banks they now shared it to the rest of the financial community.
How will we perform using Bonds?
- Firstly we get consistent out performance by our extensive credit research. We are one of the largest analysts in corporate debt. And we only buy bonds that we intend to hold to maturity. This way we get 100% of the face amount. Also we take less guesses on interest rates etc. We buy high quality corporate credits paper that again we hold to maturity.
- With corporate we are now seeing larger spreads, difference between corporate and government bonds, because people are fearing corporate bonds will default. Our credit analysis shows that holding the corporate debt to maturity, means that you will get all of your money back, meanwhile you get a higher yield.
- We have been affected in the short term because of this fear of corporate debt, but this will help us as the sub-prime issue becomes old news.
- Pension funds will continue to buy 30 year bonds to finance their liability, unfortunately as the government is in better shape there are less bonds being provided, so supply low, demand high, means good returns for bonds.
- We expect the 5 year term on bonds to be 3.5 to 5%, 30 year bonds to have an upper limit of 6%. The opportunity lies in having the higher interest rate corporate bonds because the balance sheets of the underlying companies are still strong.
- Our portfolio has never experienced a late payment from a bond or a default on payment, this is because of our analytics.
Comments on the markets
- Most Canadian should not be in the TSX, but instead invest in Bonds.
- Canada has a high risk because it is concentrated in a few sectors.
The markets are self correcting, when there is a problem they will do whatever to resolve it and carry on. So investor’s should not panic.
- Canada has some of the best run banks and utilities in the world
- The Canadian rating agencies are doing a poor job, and have gotten away with a lot by saying “This is our opinion”. Much of the sub-prime issues is because of them, their “opinions” and their rating practices. We have never relied on rating agencies, we prefer to do our own analysis and we look for the difference between what we have found and what the rating say.
- Canadian Real Estate is not as much of a concern, we did not lend to a lot of no-payment down mortgages, and there are pockets of problems these will primarily be in Edmonton and Vancouver
- When it comes to currency people only see the downside, we’ve been through a lot of the downside since 2002, now we need to plan for the other side of the curve.
- Canadian are much more conservative than they let on, when someone says growth they really mean balance, and so on.
- If you are risk averse then the manager would recommend not investing outside of Canada.
- China will have to adjust their currency. This will affect their trade balance since they have an advantage in keeping it pegged to the US, the problem is that it leads to high inflation in China, and high inflation is a BIG negative.
- Much of the recent problems in hedge funds and financials have been due to hedge funds and their margin/trading activities. When they get a margin call because the stocks they hold has gone down, they then have to sell their good companies to pay the margins, this leads to greater volatility.
- The key thing to note from recent events is that the C$ has fallen 10% in the last month. Currencies are self correcting.
- We will outperform over the next 12 months. By April 1st all off the bad stuff about sub-prime in the US will be out in the open and old news.

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