Special Report

August 04, 2020 | 12:45

Provincial Credit Watch

Economist

Director and Senior Economist
Economics

Robert has been with the Bank of Montreal since 2006. He plays a key role in analyzing regional economic, fiscal... (Read more)

Robert Kavcic

Director and Senior Economist
Economics

Robert has been with the Bank of Montreal since 2006. He plays a key role in analyzing regional economic, fiscal... (Read more)

Spreads still narrowing
FY20/21 fiscal updates slowly rolling out
Chunky federal-to-provincial transfers supportive

Provincial Returns

Provincial bonds continued to post solid returns in July, outperforming Canadas as spreads continued to narrow. Over the past six months, long provincials are now up a solid 9% (total return), outperforming corporates, but still lagging Canadas. Long provincial spreads continue to narrow, and are now roughly 45 bps below their post-COVID high, helped by improved market sentiment and the Bank of Canada's purchase programs.

Relative Performance

All provinces saw spreads narrow over the past month as broader market sentiment remained healthy and all provinces progressed through various stages of re-opening.

At the longer end, Manitoba, Alberta and Saskatchewan outperformed slightly. Note that Alberta 30-year spreads, however, are still 32 bps wider than year-ago levels. Aside from Newfoundland & Labrador (+46 bps), that's the weakest performance across the provinces.

The Bank of Canada's Provincial Bond Purchase program has been very well received by the provinces. The program, along with the Provincial Money Market Purchase program, has helped maintain market functioning and contain spreads.

Fundamentals

Growth Forecast Steady; Fiscal Updates Trickle Out

BMO Economics' Canadian and provincial growth forecasts have remained steady. National real GDP is still expected to decline 6.0% in 2020. Newfoundland & Labrador (-7.5%) and Alberta (-7.0%) are expected to lag, while Atlantic Canada (mostly in the -3% range) should see the shallowest declines.

The combined provincial deficit is now tracking at $78.2 billion for FY20/21. Newfoundland & Labrador formally released a deficit projection for this fiscal year, pegging the shortfall at $2.1 billion, or 7% of GDP--that is roughly in-line with our earlier assumption. Nova Scotia, however, came in with a wider-than-expected shortfall of $853 million (2.0% of GDP), largely because of higher-than-expected COVID-related spending measures.

Total provincial borrowing requirements are currently pegged at a record $157 billion, with just over $41 billion (29%) remaining to be completed.

On the policy front, Ottawa increased the amount of transfers expected to the provinces this year under the Safe Restart Agreement, to a chunky $19 billion. Recall that this program was earlier pegged at $14 billion. Along with ongoing unconditional transfers (i.e., health, social and equalization), these transfers will continue to aid provincial finances. And, given that the vast majority of COVID-related relief is being pushed out at the federal level, we continue to see Ottawa absorbing much more of the fiscal shock than the provinces during this pandemic.