The recent surge in global bond yields to levels not seen in decades has brought attention to a typically quiet sector of the financial industry on Wall Street. This development has implications for Canadians, as it could lead to higher borrowing costs for items like mortgages and auto loans but also result in increased returns on products like guaranteed investment certificates (GICs) and money market funds.
When individuals purchase bonds, they are essentially loaning money to the issuer for a specified period. This could be the federal government, provinces, municipalities, or private companies. Investors typically receive interest payments until the bond matures, at which point they receive the bond’s face value.
So, what exactly is a bond yield? It represents the annual return that an investor earns from holding a bond, expressed as a percentage. Following their issuance, bonds can be traded on the open market, leading to fluctuations in their prices. When bond prices decrease, yields increase because investors receive the same interest payments for a lower initial investment.
Until recently, the global bond market had been relatively quiet due to central banks worldwide maintaining near-zero interest rates for over a decade following the 2008 financial crisis. However, a growing number of investors now anticipate rate hikes as central banks aim to address persistent inflation concerns.
Higher inflation levels are placing pressure on central banks, resulting in a significant sell-off in the bond market globally. Yields in countries such as the United States, Germany, Japan, and Canada have risen to multi-year or multi-decade highs.
Bank of Canada Governor Tiff Macklem mentioned that multiple factors are at play when substantial movements occur in the bond market. Inflation fears and worries about increasing government debt are contributing to expectations for central banks, including the Bank of Canada, to raise their benchmark interest rates.
According to recent Statistics Canada data, rising gas prices were a key driver of higher inflation in July. The Bank of Canada also highlighted the persistent high global oil prices, attributed in part to the ongoing U.S.-led conflict with Iran disrupting crude oil transport in the region. U.S. benchmark oil prices have surged nearly 60% year-to-date.
Simultaneously, the bank noted that the trade tensions between Canada and the U.S. are elevating costs for businesses, which could eventually impact consumer prices. Macklem pointed out that the increased demand for new corporate bond issuance due to AI infrastructure development is lowering prices for previously issued bonds, collectively contributing to the rise in global bond yields.
On Wednesday, Canada’s 10-year government bond yield hit a two-year high following signals from the Bank of Canada regarding escalating inflation risks. As Canadian banks can invest without risk with the government, government bond yields establish a baseline for all other lending rates. Fixed-rate mortgages, auto loans, and various forms of credit are tied to five-year and 10-year government bonds, meaning that higher bond yields prompt banks to increase their interest rates on these loans.
For savers seeking to invest their funds, the upward trend in bond yields obliges banks to raise their GIC rates to remain competitive, ultimately enhancing guaranteed returns for investors.
True North Mortgage founder and CEO Dan Eisner advised that prudent borrowers are securing rates given the current market conditions. Eisner highlighted that fixed mortgage rates are unlikely to decrease significantly until bond yields do so. He suggested that it is a favorable time to lock in mortgage rates for prospective homebuyers or individuals looking to renew their mortgages, as rate movements are expected to remain turbulent until there is more clarity on geopolitical developments and U.S. trade policies.
Google Trends data revealed a substantial surge in Canadian interest in the bond market upheaval over the past month. Searches related to the bond market have increased by 5,000% compared to the previous year, according to Google.
Although there has been some impact from the surge in global yields on Canada’s bond market, Bank of Canada officials emphasized that Canada’s yield curve remains below that of U.S. government bonds. Senior Deputy Governor Carolyn Rogers reassured investors that while Canada’s bond market is influenced by global trends, it is not currently exhibiting signs of dysfunction or instability.
Rogers differentiated between volatility and dysfunction in the market, emphasizing that the real concern emerges when leveraged investors rapidly unwind their positions, leading to a liquidity crunch. She highlighted that the current market conditions do not indicate such risks materializing at present.