Fixed income markets a safe haven

June 30, 2012

North American yields resumed their downward trend in the second quarter of 2012, according to the Leon Frazer Quarterly Review

Canadian fixed income markets were a safe haven in the second quarter of 2012.

The DEX Short and Mid Term Bond Total Return Indices posted returns of 0.9% and 2.8% respectively in the second quarter, while the S&P/TSX Preferred Share Total Return Index returned 0.9% for the quarter.

North American yields resumed their downward trend this quarter. Yields on US treasury bonds are similar to the levels reached during the financial crisis in 2008, while yields on Canadian federal bonds are well below the levels reached in 2008.

“Real” yields in both countries remain negative as government bond yields are below inflation rates.

For the time being, concerns about European sovereign debt levels, the stability of the EU, China’s growth prospects, the US election and the likely effectiveness of any further quantitative easing initiatives in the US will continue to weigh on the market. Jittery investors and central banks’ commitments to ease monetary policy should ensure rates remain at extremely low levels in the near term. That said, we believe current yield levels are unsustainable in the long-term. In Canada, two-, five- and 10-year government bond yields were 1.01%, 1.23%, and 1.74% as at June 30, down 18, 34 and 37 basis points respectively since the end of March.

Jittery investors and central banks’ commitments to ease monetary policy should ensure rates remain at extremely low levels

Credit spreads widened over the quarter, particularly on securities with longer maturities, reflecting ebbing investor confidence. Both provincial and corporate bonds underperformed similar term federal bonds.

While trading was quiet in the quarter due to the credit spread widening that has taken place, the JOV Bond Fund will look to both increase its corporate bond exposure and lengthen the term of its corporate holdings given the strong credit fundamentals of many Canadian companies.

The JOV Bond Fund’s performance was hurt in the quarter due to a duration position that was slightly lower than its target, and the widening of credit spreads given the Fund’s high commitment to corporate bonds. While the term of the corporate bond holdings will be lengthened, the overall term of the Fund will be shortened as clearer resolution to sovereign debt issues becomes apparent.

The JOV Leon Frazer Preferred Equity Fund posted positive performance for the quarter, despite underweight positions in perpetual preferred shares. Given the decline in interest rates over the quarter, perpetuals were once again the strongest performing subsector, while floating rate preferred shares were the worst performing sector.