The honeymoon between investors and Canadian government bonds is over. Net foreign purchases of Canadian debt securities fell by a whopping $15.4 billion in June, Statistics Canada said last week. It was the largest drop on record, and government bonds led the plunge.
Admittedly, reality was better than the headline number let on, TD economists Sonya Gulati and David Tulk have noted in a recent report, as much of the outflow reflected maturing investments rather than outright selling. But there is little question that foreign investors’ appetite for Canadian bonds, particularly government ones, is moderating. The six-month moving average of net capital inflows is $2 billion versus $11 billion in October of last year, according to TD.
It’s no mystery why Canada has lost some of its shine: The U.S. has regained some of its own shine. Since the onset of the financial crisis, Canada has been particularly attractive destination for foreign money because a) our financial system was remarkably safe compared to almost everyone else’s; b) our economy was—largely as a result of a—in enviably good shape; and c) we promised a higher return than U.S. Treasuries.
In all three areas, our comparative advantage has now eroded. Our banks are still solid, but that’s less remarkable now that most foreign banks having repaired their balance sheets. Also, our economy is slowing. We’ve outdone Uncle Sam for five years, from 2007 to 2011, but now it’s the other way around. We’re also facing a number of headwinds, from a slowing housing market and over-indebted households, through trouble getting our oil to market, to cooling commodities markets. The U.S., by contrast, is enjoying a few tail winds, such as the energy revolution fueled by the shale boom and a steadily recovering housing market. Finally, the Federal Reserve is about to roll up QE south of the border, which will push up long-term interest rates and make U.S. Treasuries more attractive. As Gulati and Tulk put it, “Canada has been a significant beneficiary of Quantitative Easing (QE),” but the tables have turned.
We’re not alone in feeling the ground shift beneath our feet. Investor enthusiasm for Australian bonds, it seems, has abated even faster, due to concerns that country’s vulnerability to the current slowdown in China. And emerging markets, where money flowed in the past few years looking for fast growth and fat returns, are having a much rougher ride.
Besides, it’s easy to see how lemons turn to lemonade in this case for Canada. The same factors that are cooling foreign investors’ sentiment toward government bonds are also weakening the loonie, which will help exports. Plus, note Gulati and Tulk, tapering is a sign that the U.S. economy is back on track—and that is a big positive.