CIBC World Markets sees Canada’s bond market outperforming the U.S. in the long run.

In latest Canadian Financing Quarterly economist Warren Lovey concedes that “Canada/US spreads have ballooned to levels not seen in years.”

However, he argues that “longer term, the relative scarcity of Canadian sovereign debt—compared to a rising supply of Treasuries—will be a powerful force supporting the outperformance of Canada’s bond market vis-à-vis the U.S.”

Lovey says that no other G-7 country has made more progress than Canada in paying off government debt in the last five years. “From its mid-1990s peak, Ottawa has shaved more than 20%-points from its net debt-to-GDP ratio, with that closely watched figure slipping below 50% last year.”

CIBC forecasts that $5-billion annual surpluses would leave the federal net debt-to-GDP ratio at less than 35% by the end of the current planning horizon in 2007/08. And, by 2012, the debt-to-GDP ratio could be slashed to 25%, “turning the debt clock back to the 1970s”.

With debt heading down, so are new bond issuances. ” After controlling for maturities, net new Government of Canada issuance has been held in negative territory during the past four full fiscal years.” Canadian buybacks are strong, too. “Indeed, relative to the share of bonds outstanding at the start of a given fiscal year, Canada’s buyback program has consistently surpassed the U.S.”

“Despite today’s divergence in central bank policy, Canada’s well-established fiscal discipline—along with associated declines in gross issues and an aggressive buyback program that has kept net issuance consistently negative—means supply forces will be providing material underlying support for Canadas versus Treasuries in the coming years,” Lovey concludes.