Terminal! Terminal! Terminal! - Views from the North

Ben Reitzes:

Welcome to Views From the North, a Canadian rates and macro podcast. This week, I'm joined by Chris D'Onofrio, one of our Canadian dollar swap traders. This week's episode is titled Terminal, Terminal, Terminal.

I'm Ben Reitzes, and you're listening to Views From the North. Each episode, I will be joined by members of BMO's FICC, sales, and trading team to bring you perspectives on the Canadian rates market and the macroeconomy. We strive to keep this show as interactive as possible, by responding directly to questions submitted by our listeners and clients. We value your feedback, so please don't hesitate to reach out with any topics you'd like to hear about. I can be found on Bloomberg, or via email at Benjamin.reitzes@bmo.com. That is Benjamin.R-E-I-T-Z-E-S@bmo.com. Your input is valued and greatly appreciated.

Chris D’Onofrio:

Thanks for having me back.

Ben Reitzes:

You're welcome. It's been a few months.

Chris D’Onofrio:

Yeah. I just want to say, I'm glad the frequency of my appearances has picked up a little bit. Last time, I think the gap was over a year.

Ben Reitzes:

You earned it.

Chris D’Onofrio:

Thanks, Ben.

Ben Reitzes:

You earned it. Full disclosure for everybody, I walked into the room and I've actually been trying to think for two days what exactly am I going to talk about on this podcast, and I have yet to come up with anything. But luckily, Chris has wonderful ideas. We've already had a long discussion, before we even started. I decided, I told him to stop talking, to not waste the good conversation. We're going to go right into. We'll talk about the Bank, and the Fed, and pricing, and swap spreads, and all that good stuff.

Why don't we start with what we've been talking about before we started here? Bank of Canada pricing, Fed pricing, where you think it's right, where you think it's wrong, how much further we can go. Why don't we start with the Bank? We got them last week. They cut us, as expected. It sounded more dove-ish. Do you think we're priced right? There's 31-ish price for October at the moment.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

31 basis points.

Chris D’Onofrio:

Yeah, that's about right. I don't think they go 50, I think they go 25. But I'm not opposed to some cheap option of a 50 being priced into that. I don't have any issues with that.

I think the whites ... Well, maybe not all the whites. At least the early whites. The next, call it four to six meetings are fine. I think we're tapering off a bit too quickly later, call it late whites, early reds.

Ben Reitzes:

There should be more priced in there?

Chris D’Onofrio:

Yeah, yeah. It should be more, at least some of the ... It's probably just that there needs to be more, if I'm being honest. You and I were talking about this earlier. CAD US, in late 2025, doesn't make much sense to me here. I think the Bank of Canada, the curve just doesn't reconcile. If indeed they're going to keep going at least 25 at every meeting, which I think everybody thinks they are right now, which is fine. Then why is that trend only continuing for the next few months here, or for the next few meetings here?

We go out to something like U5, and U5 Canada US is in the high 20s. Again, this is what we were saying earlier. This could be more of a comment on the US being too expensive. But if the US is right, which I don't think it is, but if the US is right, and if the Bank of Canada pricing for the next couple of meetings is right, then we should be more expensive than we are out there. I don't understand why that's not the sweet spot. People are still fixated on the next few meetings, and not further out on the curve.

Ben Reitzes:

One of the reasons why they're probably fixated near-term, and particularly for Canada in the October. When we US CPI today, it was a little bit higher, so it pushes the needle toward 25 from the Fed in September. But I don't think the September meeting matters that much for the Bank. If they were to go 50, yes, it makes the Bank more likely to go 50 for sure. If they go 25, does it make the Bank less likely to go 50? I don't think so. If you get the right combination of GP being crap the way that it has been, honestly. Digital I Flash was zero, let's say it comes in at zero. If the August Flash is not very positive, and even it's a plus .2 for example, you're still going to have a struggle for Q3. You're still going to have growth so far below the Bank's forecast that there is a very low probability that the economy would be growing above potential.

The Bank's whole forecast is predicated on growth moving above potential in the second half of the year, and the output gap closing. If it's going the wrong way, you are way more offside than you thought. Clearly, rates are way tighter than they need to be. Do you still need to be well above neutral? Arguably, you should already be in stimulative territory.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

If it takes 6, 12, 18, 24 months for policy to really have its full impact, you might need to be in stimulative territory now. We're at four-and-a-quarter. Stimulative is probably sub three.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Why wouldn't you go 50 in October? Again, this is all predicated on the data, 100%, because there's lots to go between now and then. CBI could be high, and then you get issues with upside risk to CBI and to inflation generally. Then that really does change the equation, even if growth is bad. If you have upside inflation risks, that's their job, so they'd be willing to ignore the growth side of it until you get the all clear on the inflation side. There could be more is what I'm saying in the first few meetings in Canada.

Chris D’Onofrio:

Yeah. I just think that's even an argument ... That's not mutually exclusive with what I'm saying, basically.

Ben Reitzes:

It doesn't hurt the Canada US. It's not, it's not.

Chris D’Onofrio:

Okay, sure. If we are in that dire of a situation here and they cut 50, guys, our reds should be 50 rich at least to the US, not 25 or 30 rich to the US.

Ben Reitzes:

I could not agree more. The problem is that, I feel like we've been saying this for ... I've been watching that core to SOFR spread for, I don't know, a while. Many months I've stared at it.

Chris D’Onofrio:

No, it's going to come back in fourth.

Ben Reitzes:

It's moved.

Chris D’Onofrio:

But yeah, the last few weeks, it's been painfully cheap.

Ben Reitzes:

It's moved, but it's come back here every time.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

If it's going to keep coming back here, then it's like, well, I don't know, what's going to move it? It almost feels like there's heavy positioning there.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

And that's what's kept it from going. That's probably why it's still here. At some point, the issue is it's so far away, that getting the actual moves from the central banks maybe isn't enough to actually move those spreads. That might be the problem, because you're looking out in 2025, a long way down the road. That's why there might be a little more focus at the front meetings for now. Especially with, I think there's 40 in the next two Fed meetings after September.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

In each of the meetings. If they're going to go 80 basis points in two meetings, one of those is obviously a 50. Again, it's hard to argue that the Bank may not be going the same way.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

The 50 is long.

Chris D’Onofrio:

On that note, can we talk about the US for a second?

Ben Reitzes:

Sure.

Chris D’Onofrio:

Yeah. That's part of, like I said, it might be a comment not solely on Canada. Probably, at least in part, on the fact that I think the US is a bit too expensive here.

I was saying earlier to you that I think some people, maybe a lot of people, that are active in the US are assuming we should be in crisis pricing mode. Or maybe not crisis pricing, but not, "Hey, monetary policy is working. We're a bit too tight, we're going to start cutting and see where it takes us mode," which is where I think it is in the US. I don't think it's, "Oh my goodness, we did way too much, and the data is quite dire," the way it perhaps is in Canada.

The fact that people are starting to obsess over the possibility of, yeah, 50, 50, 50 right off the bat from the Fed seems a bit extreme to me. That's why, yeah, you called the podcast Terminal, Terminal. That's one of the reasons why I think terminal is probably a bit too rich, at least where it's implied from the low points of the reds right now. Let's say the greens is the proxy. I think-

Ben Reitzes:

What's that level?

Chris D’Onofrio:

It's the high twos.

Ben Reitzes:

2.75-ish?

Chris D’Onofrio:

Yeah. 2.75, 2.80-ish, something like that. Yeah. Which I think, look, I'm not saying there's no world in which that happens. If you go back and look over the last bunch of cutting cycles, yeah, it's entirely possible. I'm just saying with the current information that we have about the US economy, I think the probability distribution should be a little more symmetric about some sort of, for lack of a better term, soft landing, which I don't think is 275 at the moment.

Ben Reitzes:

Okay. Riddle me this. The Fed believes neutral is 2.875. Just under 3%, let's just say, to make life easy. If they think neutral is around there, shouldn't that be where they're going to end policy at the end of the day?

Chris D’Onofrio:

That's the assumption that the Fed's right about stuff.

Ben Reitzes:

I agree. I don't like making that assumption.

Chris D’Onofrio:

I don't know about that.

Ben Reitzes:

On that, I do agree. However, the US economy has is arguable much less rate sensitive than most others in the world.

Chris D’Onofrio:

Okay.

Ben Reitzes:

Given their mortgage structure, and others. And it's proven to be that way, with how much higher rates had to go there than elsewhere. Shouldn't the same be true on the way down? That when they cut 25, it's not going to do a whole lot. Who cares? That's a decent argument for 50. From their perspective, if they think long run is just under three, maybe neutral should be right there as well over the long term. Maybe it's slightly higher than that at the moment, I think it's 350.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

You're still a long way between here and there. Why wouldn't you?

Chris D’Onofrio:

Okay, I want to say two things here.

One, I agree with you. But if it is indeed slightly above there ... I think too many people are like, "Oh, yeah, the expectation is three." Or, "The expectation is three-and-a-quarter." But there's this tail risk scenario that something blows up and we need to cut an extra 100, so we assign 5% probability to that. Therefore, our pricing should be 275, instead of three.

Ben Reitzes:

Okay.

Chris D’Onofrio:

Which I don't think is right.

Ben Reitzes:

You're saying, effectively ... Actually, I don't mind this at all, personally. But there's two tails.

Chris D’Onofrio:

Yeah. That's exactly my point.

Ben Reitzes:

There's at least two tails.

Chris D’Onofrio:

That's exactly my point.

Ben Reitzes:

There's two tails. The other one is inflation comes back.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Which is one that I don't mind, because I do think it will at some point. I just don't think it will right now. That makes it much more difficult to get down.

Chris D’Onofrio:

Yes.

Ben Reitzes:

Yeah.

Chris D’Onofrio:

Again, not a super likely scenario, but I think at this point, "Well."

Ben Reitzes:

I think it's better than you think, over the, I don't know, three to five year horizon. Again, cyclical versus secular. On a cyclical basis, inflation is coming down, rates are coming down, everything's coming down. Don't fight it. That is my firm view. On a secular basis, when we're through this downturn that we're seeing in Canada, China, Germany, broader Europe. The US, I could make a good argument that things have slowed there pretty meaningfully as well. When that is through, inflation, I do think probably picks back up. The trough on inflation, again, it's going to be something two-ish. If that's the trough, what happens when it bounces back? You end up back in the two-and-a-half to three-and-a-half area. Things don't look quite as friendly. Then you get that higher rate.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Then you're out in 2027, eight, nine. It may not be '27, it might just be '29.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Rates need to be four, not 2.875.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Sure.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Then I agree with you.

Chris D’Onofrio:

Yeah. That's the crux of my argument is that, guys, there's two, to your point, there's two tails here.

Ben Reitzes:

But which one's more likely to come in the near-term?

Chris D’Onofrio:

Oh, that's why you shouldn't sell the reds. You should sell at least the greens. Greens or blues, I think, in the US.

Ben Reitzes:

But in the meantime, that higher inflation tail, it's not going to even be a thought for most people until we're at the bottom of this cycle. We're not there yet. I think that's the problem. It's like, "Okay, yeah, I might think that three years from now." Me, 15 years ago, with my economist hat on, when I did that all day, would have said, "Yeah, that doesn't make any sense. We should have that priced in further out, because fundamentally that's wrong." But the market doesn't work that way. They don't care about what's going to happen four years from now, because whatever, whatever, whatever.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

In the meantime, it's like momentum is clearly one way, right across the board. Why would I fade that? If anything, the market's thought is, "I'm going to be wrong because things are going to worse than I thought."

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Because that's the way it's been forever. Until they're proven wrong, which needs to happen, I don't think you get that reversal. I would be uber cautious. Unless we rally more. If you get into, jeez, you get to the low twos, then I'm sure I think that can be a pretty clear sale because then Canada would be sub-two.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Then, sure. Yours all day.

Chris D’Onofrio:

Again, this goes back to reds, greens, Canada, US.

Ben Reitzes:

Yes.

Chris D’Onofrio:

If you're long in Canadian reds, but short the US greens or the US blues, you're probably okay. Even if the world goes up in the meantime, and then we over-cut.

Ben Reitzes:

Probably okay.

Chris D’Onofrio:

That's our scenario of inflation returning comes.

Ben Reitzes:

Yeah, I don't know if it's my favorite.

Chris D’Onofrio:

Okay.

Ben Reitzes:

I hear you.

Chris D’Onofrio:

We'll see.

Ben Reitzes:

I understand fundamentally. I just feel like what happens if the Fed cuts 50 next week? Then you're getting your face ripped off.

Chris D’Onofrio:

Yeah, that's true.

Ben Reitzes:

That's the risk. It's a non-trivial risk that the Fed goes 50 next week. I don't know how many, but several thought last meeting, they should have cut. Maybe those same guys are like, "Okay, we got another mediocre employment report." Maybe the unemployment rate didn't go up again, it went down a little bit. Great. But household employment is still barely, or close to flat, on a year-over-year basis. That's not great. Payroll employment is clearly slowing. Momentum, broadly, appears to have slowed down.

The second quarter was pretty good. But that doesn't look sustainable, with the way employment growth is going. Rates are well above neutral.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Do they need to be? That's what I keep coming back ... If I was a policy maker, that would be the question I'd continue to ask myself. The only reason you'd want to stay here or anywhere close to here, and only go 25s at a time, is because you thought and you were worried that there's still this upside inflation risk lingering in the background. You don't want to rush to that neutral point, because if inflation picks back up, you're in deep trouble.

That the main reason to wait. Other than that, let 'er rip, man.

Chris D’Onofrio:

Okay, this is the other thing. I said I wanted to say two things. This was the other thing I wanted to say and it's more of a question to you. Well, two things.

One. Do you think cutting 50 off the bat sends the wrong message, or induces, for lack of a better term, panic in certain parts of the market? One, does it? And two, do they care if it does? Because if pricing goes off the rails, then now we're pricing hundreds and hundreds of basis points of cuts over the next year-and-a-half. Does the Fed care?

Ben Reitzes:

What's the negative impact of that, though? If anything, that'll cause exuberance in a way that they don't necessarily want. Then they could pause afterwards. You can message what you want to message. You can be like, "Yeah, we've moved this time. Rates are going to fall further. This is no guarantee," and you could say it explicitly. "We'll look at every option every meeting." On the face of it, we're going to go down-

Chris D’Onofrio:

Yeah, but people aren't going to ... The market's not going to focus on that.

Ben Reitzes:

Yeah.

Chris D’Onofrio:

The market's going to focus on ...

Ben Reitzes:

Okay.

Chris D’Onofrio:

If Powell said we're not in trouble, but he also cut 50.

Ben Reitzes:

Yeah.

Chris D’Onofrio:

I don't know, I'm not saying that is the case.

Ben Reitzes:

There's two things.

Chris D’Onofrio:

I'm asking you if you think it's the case.

Ben Reitzes:

I'm thinking about it as we work through it here. In my mind, there's two ways I look at it.

One would be, okay, is the market going to react like, "Does the Fed know something we don't? Oh, no. Things have gone terribly wrong. It's an emergency! Run!" And stocks and risk just get absolutely annihilated. That's possible. I don't think that's likely, though. I think it's the other way where they're trying to get ahead of this, things are going to be okay.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Maybe the rate market prices in too much. I don't think the stock market goes crazy high.

Chris D’Onofrio:

Yeah, stocks are rock solid. Yeah.

Ben Reitzes:

They're already expensive. I don't think they go crazy high, or they do okay. And risk does pretty well, I guess broadly, on the back of that. Is it a great outcome for the market to price in even more easing? Probably not. But we're already most of the way there, aren't we?

Chris D’Onofrio:

I thought so.

Ben Reitzes:

We have 100-ish basis points priced by the end of this year.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

And whatever, two weeks ago, there was 120-ish basis points. If we go back to where we were, was the world a terrible place?

Chris D’Onofrio:

No.

Ben Reitzes:

Have things melted down? Was there an emergency?

Chris D’Onofrio:

Yeah.

Ben Reitzes:

They can say, "You know what, we've decided that we wanted to get to neutral in a relatively quick manner because we think rate policy is tight and there's no reason to be tight anymore. When we get to where we believe neutral is, then we'll reevaluate." Is that bad policy?

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Or is that the right policy? Is that really the way you should do things? If you're waiting until the signs are clearer that you shouldn't be at neutral anymore, then you've already waited too long.

Chris D’Onofrio:

Yeah. I don't know.

Ben Reitzes:

Canada's a great example.

Chris D’Onofrio:

I just feel like the market is really jumpy. Everybody's been waiting so long for this, for the last couple of years, that it's just going to be out of control.

Ben Reitzes:

Give it to them, it couldn't hurt.

Chris D’Onofrio:

I don't know. I don't know. I think the reaction will be more outsized than you think, if they do cut 50.

Ben Reitzes:

It'll be big. It'll be a massive day.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

It'll be out of control, wild.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

You won't be able to leave your seat. I, on the other hand, can leisurely get a coffee.

Chris D’Onofrio:

Yeah, exactly.

Ben Reitzes:

That's the luxury of my position.

Chris D’Onofrio:

Yeah, exactly. Okay, fair enough.

Ben Reitzes:

It'll be fun. I don't think it has to be out of control. We lived through a cycle with 50, 75, I can't even remember if they did 100 rate hikes, 100 basis point rate hikes.

Chris D’Onofrio:

Yeah, yeah, yeah. Yeah.

Ben Reitzes:

Did the world end?

Chris D’Onofrio:

No.

Ben Reitzes:

I'm asking. I'm saying, it's a question.

Chris D’Onofrio:

No, the world did not end.

Ben Reitzes:

Three weeks later, we were fine.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

There was a lot of vol, and there was. You know what? In our side of the business, that's great. That helps the dealers, generally, if you're able to manage it. I don't mind it, I don't think. It does make life challenging, for sure. But it also makes life interesting, which is nice. Which I don't mind at all.

Chris D’Onofrio:

Sure.

Ben Reitzes:

Versus just the predictable-

Chris D’Onofrio:

Sure.

Ben Reitzes:

Boom, boom, boom, boom. I don't know. Well, I guess we'll see. I understand 100% where you're coming from. Fully, completely, absolutely. But at the same time, I'd rather them just do what's right for a change, instead of trying to placate markets.

Chris D’Onofrio:

Pander to ... Yeah. Okay.

Ben Reitzes:

Doing whatever the market is maybe not the best thing for the economy. I want them to do what's optimal.

Chris D’Onofrio:

Right.

Ben Reitzes:

I think that'd be more fun.

Chris D’Onofrio:

Okay.

Ben Reitzes:

Would you like to tell us about swap spreads, Chris?

Chris D’Onofrio:

I can say a thing or two about swap spreads.

Ben Reitzes:

Okay. Why don't you tell us three things? No, I'm just kidding. As many as you'd like.

Chris D’Onofrio:

I think we've lost the plot a little bit, over the last week or so.

Ben Reitzes:

How so?

Chris D’Onofrio:

There was a bit of a repo scare in the two-year bond space, so that richened everything up. Twos led the way higher, in the swap spread space at least, over the last week or so. Then we saw some offshore issuance. Anyways, now we're multiple, three or four basis points wider than we were a week ago, I believe. Which I think is wrong. I think-

Ben Reitzes:

More positive?

Chris D’Onofrio:

Yes, correct.

Ben Reitzes:

Okay.

Chris D’Onofrio:

I don't think the narrative has changed. Somebody made the argument to me today that, "Wow, your rates are so low. Something's got to give." That might come from flawed threads, because our lowest forward rate is 2.4-ish.

Ben Reitzes:

Yeah, it's two-and-a-quarter, 2.30.

Chris D’Onofrio:

2.3, yeah.

Ben Reitzes:

Yeah.

Chris D’Onofrio:

Yeah, maybe. Yeah, 2.30. Yeah. "Okay, something's got to give, some spreads should widen." I don't know if I buy into that argument, number one.

Ben Reitzes:

Why does something have to give? That's just too rich?

Chris D’Onofrio:

I'm not even convinced that that's too rich in Canada.

Ben Reitzes:

That's just too rich, is that?

Chris D’Onofrio:

Yeah, yeah.

Ben Reitzes:

It's not too rich.

Chris D’Onofrio:

Yeah. Anyways, that doesn't make sense to me, but maybe I'm missing something. Truthfully, I think the thing is, nothing's changed in the narrative. We talked about this last time I was on the podcast.

One, there are too many bonds, to put it bluntly. The cash buying, except for the last week, particularly in the front end is not there. Which should be, I think, another slow grind lower over the next little while here. That, plus the fact that ... Again, this is repeating ourselves from the last time we talked about this. The housing story hasn't changed. I don't think we're in stimulative territory. People aren't rushing to buy houses here because they're getting great mortgage rates. A five-year mortgage is still, I believe, in the high fours.

Ben Reitzes:

Mid-fours.

Chris D’Onofrio:

Maybe in the mid-fours.

Ben Reitzes:

Mid-fours.

Chris D’Onofrio:

Yeah. I don't think that's a deal by any means.

Ben Reitzes:

No.

Chris D’Onofrio:

I don't think we're going to say a pay party from the bank treasury community over the next six to 12 months. I don't see the catalyst for them to stay here or go wider, really. I think this is an opportunity to sell the pop, rather than stop into being long. I don't know how you feel about that.

Ben Reitzes:

Bigger trend, I'm with you. More bonds. We'll see what happens with our government after the NDP back out of their deal with the Liberals.

Chris D’Onofrio:

Fair.

Ben Reitzes:

We'll see on that front. That is a wild card, for sure. As much as it makes it appear that an election might be imminent, we'll see. I'll believe it when I see it.

Chris D’Onofrio:

Well, that's a year away.

Ben Reitzes:

It could be a month away, it could be a year away.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

It could be a little bit more than that away. I think you have to put that aside because I don't think an effective way to predict what's going to happen on that front.

In the meantime, more bonds. If anything, going into next year, assuming status quo on the political side, there's probably more stimulus, not less.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

We're running a larger, not smaller deficit, year-to-date.

Chris D’Onofrio:

Yeah, exactly.

Ben Reitzes:

Again, more bonds, more bonds, more bonds. As long as that's the theme, I don't understand how spreads could go higher. It doesn't make any sense. That's why we're here in the first place.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

I don't see any other real catalyst. The flows on the swap side, the flows out of bank treasuries are a driver, but they are not the driver. They have added to the bigger theme. They are a secondary theme for me. The bigger theme is too many bonds.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

You can say the same in the US as well. Too many Canadian bonds.

Chris D’Onofrio:

And actually, on that note, from a global perspective, it's not even like our swap spreads are cheap.

Ben Reitzes:

Exactly.

Chris D’Onofrio:

It's not like, "Oh my God, there's so much juice on these assets swaps now." No, they just look like more in line with the rest of the world.

Ben Reitzes:

Exactly. That's why they could actually keep going. I'm not even convinced they're necessarily based. The day that issuance stops going up, then I'll believe that they've started to base.

The other side of things is the housing. Where does housing take off? I grapple with this all the time. I still don't think it's ... It's not north of 4%, I don't believe.

Chris D’Onofrio:

You're talking in mortgage rates here?

Ben Reitzes:

Five-year mortgage rates.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

I still don't think it's north of 4%. I'm not even sure that it is 4%. I think you'd have to crack four, so you'd need at least a three handle to make people feel better by just seeing the three in the first place. Even then, it might not be until 3.75. Or 3.50 even. That's 75 to 100 basis points from here is a long way down. We might get there. You said six to 12 months?

Chris D’Onofrio:

Yeah.

Ben Reitzes:

I'd say six months more than six to 12 months, because the next six months, what is it?

Chris D’Onofrio:

Yeah, that's what I was going to say. Maybe next season.

Ben Reitzes:

Yes.

Chris D’Onofrio:

Maybe next season, it picks up.

Ben Reitzes:

Exactly.

Chris D’Onofrio:

We got six months here.

Ben Reitzes:

That's a long way.

Chris D’Onofrio:

There's no more live spreads now.

Ben Reitzes:

It's a long winter. Don't buy spreads through winter, when housing is dead.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

I think especially now, if you know the way the Canadian housing works and the seasonality to it, most of the activity is April, May, June, July, in there. Usually more like May, June but…

Chris D’Onofrio:

There's a bit of a lag because the activity picks up in maybe March.

Ben Reitzes:

Well, no. It's the big months for sales are-

Chris D’Onofrio:

Yeah, for sales.

Ben Reitzes:

May, June.

Chris D’Onofrio:

Yeah. Yeah, yeah. Okay.

Ben Reitzes:

Let's say April to July, just to add a little extra. Things do ebb and flow a bit other than that, but those are the biggest months. Right now, if you look at the market, you can see that there's gobs of supply and it just continues to come. Houses that are priced right at the moment still go. There's still underlying demand. That hasn't changed. It's not going to change.

But I do think people are aware that there is all this supply out there. If you're a little bit patient, you can actually do a little better than where you are. You don't have to come in at the full offer side. You can bid a little bit lower and see if they hit you. If they don't, you can just wait. You can probably wait them out. If you miss that house, there's probably three more that you can get that look pretty similar, probably at a similar price range. You don't need to buy the first thing that comes up. It depends on where you are.

A great example is I looked for a cottage in, I don't even know, whatever, six, seven years ago. Could not find one for the life of us. We went to look at a lot of them. They went in under a week, all of them, even though you have to drive two-and-a-half hours to go look at it. Somehow, people bought them immediately. We could not get one at the price that I was willing to pay. I'm pretty cheap, so that didn't help.

Then now, I look on MLS, and I see all these cottages around the lakes that we looked at. I'm like, "These are great! I would love any one of these." We're no longer in that market. We've gone away from that. But, too bad. It just means that there's just that many more things available now than there were in the past. I think the cottage market reflects that. I think the Toronto single-family market is a little bit more challenging, because there aren't more houses coming online. But it's still looser. Much, much, much looser than it was. Condos, there are just way too many.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

That is a potential problem. The rest of the country, some shades of that. I think not as bad as the Toronto condo market, not as good as the Toronto single-family market, but somewhere in between. It'd be more like the cottage market, where there are more supply than there has been and there's more choice. You can be a little bit patient. You don't need to worry about it getting away from you. The market's just not going to run away and be like, "Oh, you missed it. And now, you're offside 20%. Sorry."

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Spreads, from that perspective, with mortgages, probably not picking up this year for sure, can continue to go. On the provincial side, Ontario came with their five-year deal and that pushes spreads higher. But, Ontario and Quebec are-

Chris D’Onofrio:

Yeah, that's a good point, actually. I forgot to say that.

Ben Reitzes:

90-ish percent funded now.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Yeah, they could come with another deal, but then they're going to be 100% funded.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Or even close to it. You're going to get more limited offshore issuance. I don't think it's done, but I think much more limited. Smaller size, probably. That's one less reason for spreads to push higher.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

On any pops, I'd still be a seller, personally.

Chris D’Onofrio:

Agreed.

Ben Reitzes:

That's me.

Chris D’Onofrio:

Agreed.

Ben Reitzes:

Well, that's good that we agree.

Chris D’Onofrio:

Glad to agree about something today.

Ben Reitzes:

Can't agree on terminal. We agree on U5 core to SOFR. We agree on swap spreads, on wanting to sell spreads on pops. You think you need to wait for the pop to sell them.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

Even if I think the trend might be lower, there's just no way of knowing how much lower and when they'll base.

Chris D’Onofrio:

No.

Ben Reitzes:

They'll base at some point, but there's no way of knowing where that exactly is. It is pretty challenging there. Should we get ourselves in trouble and talk about politics?

Chris D’Onofrio:

I'm listening.

Ben Reitzes:

Or leave that to people that can't get ...

Chris D’Onofrio:

Go on.

Ben Reitzes:

Well, just for the benefit of people out there. I don't think everyone follows it that closely because, I don't know, I'm not even sure anyone cares until the election gets called. But Parliament comes back on the 16th September. The Conservatives have said that they'll probably put forward a non-confidence motion, which they can do. The Bloc Quebecois have said that they're willing to work with the Liberals for the right price, if it benefits Quebec, effectively.

While there could be an election, it seems like the other parties, and the NDP probably the same. As much as they ended their agreement, if the Liberals give them enough, they'll probably be like, "Sure. We'll probably you up for another few months at least."

Chris D’Onofrio:

Yeah.

Ben Reitzes:

As much as it appears that the polls say that we should be having an election, given the low approval level of the current governing party, I'm not convinced that we're going to get there in the very near future.

Then the next hurdle will be the Fall Economic Statement in November.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

When we get an update on where things are, where the budget is, and however much more money, more or less money, but probably more, that they want to spend.

Chris D’Onofrio:

Yeah. To be honest, on the election front at least, I'm not convinced from a market perspective, or from a market pricing perspective rather, it much matters. I think most people's assumption is that, in the next year, there's going to be change in our government, whether it's a few months from now or a year from now.

Ben Reitzes:

If you look at the polls, it does say the Conservatives will win an election at the moment. What I'm not sure everyone fully realizes, and our Chief Economist Doug Porter has highlighted this to me a few times. If the Conservatives do win, keep in mind, we don't really have their full platform at the moment, but a couple things they want to do. They want to get rid of the Carbon Tax. That one's pretty straightforward. Temporary downward movement in inflation. One-time move, the price level goes down, blah, blah, blah. The end on that.

But the other thing we know they want to do is balance the budget. How do you do that?

Chris D’Onofrio:

Allegedly.

Ben Reitzes:

That's what they say, so let's say they stick to their guns on that one. It just means less spending.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

They're not going to raise taxes, that's not consistent with their beliefs and their ideology. So that means less spending. Less spending means weaker growth. Weaker growth means lower rates. One more reason to think that rates might stay a little bit lower for ... Again, it is cyclical, again. You can get easily into the low twos and stay there for a while, if fiscal policy is going against the economy for a little while.

Chris D’Onofrio:

Yeah. Yeah, I can see that.

Ben Reitzes:

Oh, he likes that now. See? Didn't think about that, did you?

Chris D’Onofrio:

No, no. Yeah, it's a good point.

Ben Reitzes:

It's far enough out.

Chris D’Onofrio:

To be clear, I never said Canada wasn't in a bad situation. The Canadian economy is trash right now. Let's call a spade a spade. And probably will be for quite some time.

Ben Reitzes:

Sadly.

Chris D’Onofrio:

But, yeah. I see that, for sure, as an argument for lower for longer. This side of the border, at least.

Ben Reitzes:

Just for a while. I don't know how long that lasts. Maybe a year or two, it depends on how revenue growth is. If we get decent nominal GDP growth, you can grow your way out of it relatively quickly.

Chris D’Onofrio:

Yeah.

Ben Reitzes:

The current government has opted to spend most of that nominal GDP growth, and that flows through into revenues. It's disappeared pretty quick. That's where we are.

We've talked for a long time. What are your favorite trade idea, as we wrap things up here?

Chris D’Onofrio:

I think we touched upon them a little bit. Yeah. Long Canada US in the late whites, early reds, call it U5.

Ben Reitzes:

At what level? Because that is my struggle.

Chris D’Onofrio:

Anywhere ...

Ben Reitzes:

I think the mid-20s is a no-brainer.

Chris D’Onofrio:

Even high 20s, I think.

Ben Reitzes:

Okay.

Chris D’Onofrio:

Yeah. Yeah. You buy that anywhere north of 30, you sell that anywhere in the mid-40s if it gets there. Even low 40s, I guess. Which is pretty good.

I think there is a trade in there, some sort of reds, greens, or reds, blues. I realize I keep just saying colors and not maturities, which depending on who's listening to this, might not be useful. One year, one year, two year, one year. One year, one year, three year, one year. That's probably a better trade in the US. Or one year, one year Canada versus three year, one year US, something in there I think is pretty good.

Then, yeah. We touched on swap spreads. On pops I would sell, particularly the front end of the spread curve, two-year spreads. Those two-year bonds, every time we roll a new two-year bond, it's uber rich. I think to the extent that you can, sell those near zero or about negative five, let's say. You probably should be, at least for the next call it four to six months.

Ben Reitzes:

Okay. Awesome. Chris, thank you very much. I appreciate you coming on.

Chris D’Onofrio:

Thanks for having me.

Ben Reitzes:

It'll only be a few months again next time, I promise.

Chris D’Onofrio:

Oh, we'll see.

Ben Reitzes:

Thanks for listening to Views From the North, a Canadian rates and macro podcast. I hope you'll join me again for another episode.

Speaker 3:

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