Forming positions in the USD/CAD based on the results of the BoC meeting 

The Bank of Canada is on the verge of continuing the cycle of monetary policy normalization. 14 out of 18 Bloomberg experts expect that at the June 11 meeting, it will raise the overnight rate from 1.25% to 1.5%. After two acts of monetary restriction in the second half of 2017 and one in January, the regulator made a long pause, however, at the end of the previous meeting, it expressed optimism about the prospects for the economy of the Maple Leaf Country and spoke about the need to avoid ultra-low historical interest rates, though mentioning the dependence of their decisions on the incoming data.

Before July, the statistics was not so great for the Canadian dollar fans. The economic surprise index fell to the very bottom, at least from the beginning of the year, which prompted the USD/CAD quotes to rise to the area of 12-month highs. Investors were seriously worried that the escalation of the Ottawa-Washington trade conflict would worsen the situation even ore.

Dynamics of the USD/CAD and the economic surprise index of Canada

Source: Bloomberg.

Indeed, by the end of May, exports to the US (three-quarters of all supplies from Canada) fell by 0.2%, which led to a decline of the aggregate indicator by 0.1% m/m. Total imports increased by 1.7% (American - by 1% m/m). As a result, the foreign trade deficit widened from CA $ 1.9 billion to CA $ 2.2 billion.

It would seem that the uncertainty about the outcome of the NAFTA negotiations will force the Bank of Canada to postpone the timing of the next overnight rate increase. But no! In one of his recent speeches, Stephen Poloz noted that the regulator is prepared to ignore the factor of the trade war and is concerned about inflation. After such words, the chances of the June act of monetary restriction rose to 70%.

They jumped to 80% after the publication of the report on the labor market of the Maple Leaf Country. Labor increased by 75.6 thousand (the best result for the last 6 years), employment increased by 31.8 thousand, and the average wages for six months does not fall below 3% (in June + 3.6%). It outpaces inflation, which is positive for GDP, and its dynamics increases the risks of CPI accelerating above the upper limit of the range of 1-3% targeted by the BoC. Moreover, favorable financial conditions and the devaluation of the loonie contribute to the growth of prices.

Dynamics of Canadian inflation and overnight rates


 
Source: Trading Economics.

How will the Canadian dollar respond to the BoC meeting? According to MUFG, it is unlikely that it will strengthen significantly, since the rate increase factor has already been priced in the quotations, and the central bank is unlikely to choose hawkish rhetoric. Scotiabank, on the contrary, believes that the risks of inflation growth above 3% will force the Bank of Canada to leave the door for a future rate hike wide open. Currently, the futures market assesses the chances of three acts of monetary restriction in 2018 as a fifty-fifty, and if they start to grow, the loonie will have a new reason to be happy. Thus, the tightening of monetary policy and dove rhetoric will help stabilize the USD/CAD in the range 1.3-1.33, but if BoC chooses hawkish hunting, the pair is fully capable of heading to 1.28.

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Central bank will impose a sentence on the Canadian dollar

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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