Rate hold was expected, but uncertainties persist in Canadian economy for advisors to stay cognizant of
While unsurprising, the Bank of Canada’s decision to hold interest rates steady on Wednesday held a degree of insight for advisors and investors. The slightly dovish, cautious tone in the accompanying monetary policy report, with an emphasis on uncertainties around trade, showed a central bank very much in wait and see mode.
Economic forecasts were little changed from the October monetary policy report, GDP growth expected to hit 1.7 per cent for 2025, falling to 1.1 per cent this year, and rising to 1.5 per cent in 2027. Drop-offs in exports, the BoC says, are the primary culprit for this sluggish growth forecast, which will be outpaced by global growth at above three per cent over the next few years. In its inflation outlook, however, the BoC offered a touch more optimism, noting that "inflation has been slowing since September." Uncertainty was a watchword for the BoC, especially around the looming CUSMA renegotiations set for the summer, leaving advisors with a wide set of unknowns to navigate.
“I think there were broad expectations that the BOC was on hold for the rest of this year. Slight market pricing for a chance of a hike by the end of this year, which is not our base case by any means,” said Sam Acton, Portfolio Manager and Co-Head of Fixed Income at PICTON Investments. “So I think this reinforces this hold with some uncertainty on the direction of the next move. We think overall, given the uncertainty on the trade side, the bias would be for a potential cut if things don't go to plan in terms of growth.”
Acton noted that in the monetary policy report’s even-handedness, there may have been something downplayed about the growth impacts we may see from fiscal stimulus. He noted that the near-term impact on growth from new government spending may not be significant, though long-term there could be some growth tailwinds. There may also be long-term productivity growth from corporate adoption and implementation of AI, which Acton notes will be difficult for the BoC to forecast at this point. For his part, he’ll be watching earnings reports and CEO commentaries to determine if spending on AI is resulting in meaningful improvements to productivity and profit margins.
“The statement carried a subtle dovish bias, particularly with the addition that uncertainty has increased and risks are being monitored closely,” said Dustin Reid, Chief Strategist for Fixed Income at Mackenzie Investments. “When combined with the Bank’s explicit concern around upcoming USMCA negotiations and potential spillovers to trade and growth, the message is that the BoC is increasingly sensitive to downside risks.”
Given the uncertainty that the BoC highlighted around trade negotiations, Acton notes that there is a possibility for market volatility as the pace and noise of CUSMA dealing increases. Clarity on trade, conversely, could see some pent-up spending by corporate leaders unleashed.
Looking at fixed income markets, Acton says his team expects some further steepening of the yield curve as part of a broad global theme of large fiscal deficits and oversupply of government bonds. He argues that shorter-duration bonds, therefore, offer a better risk-reward metric. Given his, and Ried’s, view of central bank sensitivity to downside risks, the expectation is that there may be cuts if labour markets and GDP growth begin to weaken. Acton also notes that with credit spreads currently at the very tight end of their ranges, there can be upside in staying shorter duration and higher quality. There may even be opportunities for event-driven situations that could provide some idiosyncratic alpha.
Large fiscal deficits continue to be a risk for fixed income investors, in Acton’s view. Should markets demand a greater risk premium for government debt, yield curves could steepen further. There is also the risk that fiscal stimulus proves inflationary and forces rate hikes once again. Looking at credit, Acton sees little value in passive strategies because of how tight spreads are, though short-duration and high quality exposures may still be worth investors’ interest.
For advisors making sense of this latest outlook to their clients, Acton stresses the differentiation between economies and markets and the necessity of a more sophisticated approach.
“I would just emphasize that having more tools in your toolkit is especially important today. So so having long, short strategies or strategies that use hedging,” Acton says. “Tools to potentially dampen some of the volatility that could come from some of these macro risks would make sense in portfolios today, just given the macro setup.”
