The Canadian dollar continues to lead the race for the best G10 performer of the year. However, in May-June, USDCAD bears’ business deteriorated. What discourages them from going ahead? Let us discuss the Forex outlook and make up a trading plan
Weekly Canadian dollar fundamental forecast
Modern aircraft are capable of using only one engine if something happens to the second, but their maneuverability lowers. The main drivers of the CAD strengthening in 2021 were the oil price rally and the BoC’s intention to normalize monetary policy before the Fed. So far, the situation with oil is normal, but a slower recovery of the Canadian economy than the central bank expected deprives the loonie of its maneuverability. USDCAD has been in a trading range of 1.2-1.215 since the beginning of May, and it is difficult to predict when the pair will leave it.
In the first quarter, Canada’s GDP grew by 5.6% YoY, which is not in line with the regulator’s forecasts. In the second quarter, the economy is not developing as fast as the Bank of Canada expected as well. For example, the drop in employment in April-May by 275 thousand people did not let the labor market recover to pre-pandemic levels.
Dynamics of the Canadian job market
Source: Bloomberg.
It is unlikely that this negative news will force the BoC to abandon the monetary policy normalization. In April, the Bank of England reduced the scale of the QE program from CA$4 billion to CA$3 billion a week and is likely to reduce it to CA$2 billion in July and to CA$1 billion by the end of the year. The acceleration of inflation to its highest levels since the mid-1990s, overheating of the real estate market, rapid vaccinations (almost 71% of Canadians received at least one dose) and the associated expectations of an economic boom are forcing the central bank to adhere to monetary restriction.
Dynamics of asset purchases by the Bank of Canada
Source: Bloomberg.
The derivatives market expects with a 60% probability one overnight rate hike of 25 bps over the next 12 months. The three hikes are fully accounted for during 2022-2023, making Canada one of the countries with the highest borrowing costs among advanced economies. By comparison, investors do not expect the Fed to raise the federal funds rate in 2022 and expect the rate to rise by only 25 bps in 2023.
No major developments are expected at the June BoC meeting. However, due to weaker data than expected, there is a possibility of a change of the BoC’s stance regarding the exchange rate. Earlier, Tiff Macklem stated that he does not see any particular obstacles for the economy to contribute to the loonie strengthening. Indeed, do exporters need to panic if oil in terms of the national currency of Canada has grown by 40% since the beginning of the year, and the number of people willing to buy call options on WTI with a strike price of $100 per barrel in December 2022 is growing in the derivatives market?
Weekly USDCAD trading plan
In my opinion, it is extremely doubtful that the statements of the BoC head can seriously affect the Canadian dollar. Its medium and long-term prospects look optimistic against the backdrop of a bullish oil trend, a robust economy, and outstripping action by the BoC compared to the Fed. Moving of USDCAD price beyond the upper border of the trading range 1.2-1.215 with a subsequent return to its middle, or a confident breakout of support at 1.2 should be used to enter long trades.
Price chart of USDCAD in real time mode
The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.
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