U.S. tariffs will put Canadian corporate spreads at risk

North America’s shifting political landscape is creating volatility in the fixed-income market, says Pablo Martinez, portfolio manager at CIBC Asset Management.

In a Feb. 12 interview, Martinez said U.S. tariffs on Canadian exports are expected to pressure corporate bond spreads and increase government debt.

“There’s been major changes in the political landscape in North America in the past few months,” he said. “And that has had many impacts on most markets, and also on the bond market.” 

Listen to the full conversation on the Advisor To Go podcast, powered by CIBC Asset Management.

Martinez noted that while both economies will feel the impact of tariffs, Canada is particularly vulnerable.

“Most of our exports are going to the U.S.,” he said. “The main impact of tariffs and counter tariffs will not be on inflation. It will be on growth.”

In the U.S., tariffs will likely drive inflation higher, leading to potential interest rate hikes.

“We might call it ‘tariffs,’ but this is a sort of taxation on consumers in the U.S.,” Martinez said. And if tariffs remain in place long-term, growth could slow as supply chains are disrupted.

For Canada, the impact will be more severe. With its economy heavily reliant on exports, Martinez said reduced trade with the U.S. will hurt growth and push yields lower. 

“We can expect Canadian yields to be affected downwards from inflation right off the start,” he said.

Less economic integration between the U.S. and Canada means corporate bond spreads are at risk. The effects will be industry-specific, hitting sectors like automotive, aluminum and transportation hardest.

“If there’s tariffs being imposed on aluminum and steel, well, that’s going to make cars more expensive to be built,” Martinez said. “Because the supply chain is so integrated, the imposition of tariffs may make it more difficult to get the end-product out of the assembly line.”

Similarly, tariffs on oil could raise gas and diesel prices, increasing costs across industries dependent on trucking.

With both countries preparing for economic fallout, Martinez said government debt could be a growing concern. 

“The Canadian government is at the ready to impose counter tariffs on U.S. imports to Canada,” he said. “That being said, it will have an impact on Canadian businesses and also on Canadian consumers.”

He said government support measures — similar to those implemented in 2020 to ease the economic impact of Covid — could drive debt levels even higher. And because the federal government is currently prorogued, the provinces may have to take the lead putting strain on provincial bonds.

Despite volatility, Martinez sees opportunities in corporate bonds — particularly in U.S. issuers and Canadian corporations with strong U.S. operations.

“If we want to increase our positions in Canadian banks, we might be favouring banks that have a higher percentage of profit from their U.S. branch,” he said.

Overall, however, Martinez is taking a defensive approach, holding less corporate bond exposure while keeping liquidity available to buy into weakness.

“We want to have ammunition to be able to spend if we realize that the market is punishing corporations too much because of current threats of tariffs,” he said.

Rates have been volatile, and Martinez expects this trend to continue. 

“The best way to approach this is being long when rates are moving up quite dramatically … and being shorter when the rates move down quite dramatically on bad news tariff-wise,” Martinez said.