Loonie soars. Forecast as of 04.04.2022

Expectations of an overnight rate hike encourage USDCAD bears. Despite the high demand for the greenback as a safe-haven asset, sellers feel confident and believe that the Fed will aggressively tighten monetary policy. Let’s discuss the topic and make up a trading plan.

Weekly Canadian dollar fundamental analysis

While European currencies are struggling due to their proximity to the war zone, USD and CAD benefit from their territorial distance. Lack of dependence on Russian oil and gas, tens of thousands of kilometers from the armed conflict in Ukraine, a rally in global stock indices, and the BoC’s readiness to respond to the Fed have driven USDCAD price to 5-month lows. Should the bears count on the continuation of a favorable period?

Can anyone beat the Fed? After strong US employment data in March, expect an increase in the federal funds rate by 50 basis points at the May FOMC meeting. Officials are unanimous about the need for a rapid rise in borrowing costs to a neutral level of 2.4-2.5%. Against this background, resistance to the US dollar looks like a utopia, but in reality it comes true. The Bank of Canada has something to counter the Fed, which allows the USDCAD bears to go ahead.

According to BMO Capital Markets, Tiff Macklem and his colleagues will make two “big steps” at once at the meetings on April 13 and June 1. At the next meeting, the overnight rate will be increased by 25 basis points and reach 1.75%. By the end of 2022, it will reach 2%, which is not the most aggressive forecast. Bank of America and Citigroup expect this figure as early as July, for which borrowing costs should be increased by 150 basis points. The futures market is signaling that the rate will rise to 3% over the next 12 months. 

The reason for this is an overheated labor market and the highest inflation in thirty years at 5.7%. For the past 11 months in a row, inflation has exceeded the upper limit of the 1-3% range targeted by the central bank. According to BoC Deputy Governor Sharon Kozicki, bank officials will discuss issues of aggressive monetary restriction and quantitative tightening, that is, selling bonds to reduce the balance sheet, at the April meeting.

Dynamics of Canadian inflation


Source: Bloomberg.

The last time the Bank of Canada raised the overnight rate by 50 basis points was in 2000. The BoC also raised borrowing costs by 100 bps at once in 1998 to strengthen the loonie. However, this did not lead to anything good and this step was quickly canceled. The last time rates were above 2% was in 2007, on the eve of the global financial crisis. It took about three years to bring them to this level.

It should be noted that not only the expectations of an aggressive monetary restriction of the BoC move the USDCAD price down. The bears are supported by a rally in US stock indices, as the loonie is sensitive to changes in global risk appetite. At the same time, capital flows from American to Canadian stocks.

Weekly USDCAD trading plan

In my opinion, the proximity of the Bank of Canada meeting suggests that the USDCAD downtrend will continue. Use a price correction to level 1.258 followed by a rebound or a breakout of support at 1.247 to enter sales. The main risk of implementing this strategy is the fall of US stock indices.

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 LiteFinance. 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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