Portfolio returns: Q3 2024
| Total Return | 1M | 3M | YTD | 1YR | 3YR | 5YR | 10YR | Since Inc. (Jan 30, 2023) |
IG Graduation Portfolio F |
1.37 |
3.56 |
5.47 |
10.23 |
5.70 |
|||
Quartile rankings |
2 |
1 |
1 |
1 |
IG Graduation Portfolio Series F
Portfolio commentary
Q3 2024
Highlights
① The portfolio posted a positive return over the quarter as bonds rallied and yields moved lower across the curve.
② Corporate bonds had the greatest impact on the portfolio’s performance.
③ Bonds in the financials sector drove strong returns as yields fell in line with lower rate expectations.
Portfolio overview
The third quarter of 2024 was marked by slowing inflation and decreased economic growth in both Canada and the U.S. Interest rates fell substantially in both countries as the Bank of Canada continued to reduce its policy rate and the U.S. Federal Reserve (the Fed) finally began to do the same.
In terms of rate moves, U.S. 2-year rates fell a whopping 111 bps during the quarter from 4.75% to 3.64%. Yields on 5s, 10s and 30s fell 82 bps, 62 bps and 44 bps respectively, implying an aggressive re-steepening of the curve as is typical at the beginning of rate-cutting cycles. This price action was largely mirrored in Canada with 2-year yields falling 108bps, 5-year yields falling 78bps, 10-year yields falling 55 bps and 30-year yields falling 25 bps.
The similar shift in yields is not unusual for Canadian and U.S. rates, which are generally highly correlated, but strikes us as perhaps unrealistic in today’s environment. Economic data in Canada continues to be considerably weaker than in the more resilient U.S. While the job market has certainly loosened in both countries, the unemployment rate remains historically low in the U.S. but has risen to over 6.5% in Canada. Similarly, inflation continues to surprise to the downside in Canada and is close to the 2% target, whereas in the U.S., services inflation remains above 4% and “Super Core” – previously one of the Fed’s preferred measures – sits above 4.5%. Considering this, we think more of a divergence in yields, certainly in the short end of the curve, is warranted, making shorter-maturity Canadian bonds more attractive than similar-maturity U.S. bonds.
The FTSE Canada Short Term Bond Index achieved positive returns for the quarter.
The portfolio’s significant allocation to investment-grade corporate bonds positively impacted its performance. Specifically, holdings in corporate bonds within the financials and energy sectors contributed to gains during this period. Exposure to government bonds detracted from performance.
Market overview: markets rallied with expanding breadth
Investor sentiment shifted to a “risk-on” attitude in the third quarter, in response to changes in central bank monetary policy across key economies. It began with the Bank of Canada (BoC) and the European Central Bank (ECB) in the second quarter and continued into the third. The BoC was particularly active, making two additional cuts of 25 basis points (0.25 percentage points) to its overnight rate this quarter.
The U.S. Federal Reserve (the Fed) started its own policy easing with a surprise 50 basis-point (0.5-percentage-point) cut in mid-September, launching rallies in both bonds and equity markets. The Fed noted an increase in the unemployment rate and that the battle against inflation was no longer a primary reason to maintain a restrictive monetary policy.
Market outlook: attractive opportunities in Canadian fixed income
Credit spreads remain tight, and we prefer to be invested in high-grade (low beta) corporate bonds at the short end of the curve. We prefer the Canadian curve over the U.S. curve in this sector. Continued rate cuts are the base case for Canada and so there is still further potential for significant price appreciation of these securities. We remain negative on the long end of the Canadian market, with 30-year Canadian bonds offering almost no additional yield to 2-year bonds but substantially more price risk.
We remain cautiously optimistic on credit but prefer low beta, high-quality corporate bonds and are cognizant that the upcoming U.S. election and the uncertainties it may bring – from fiscal concerns to tariffs to the potential for a re-emergence of inflation – can quickly alter base-case outlook.
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