The loonie has the ‘crude oil blues’8Dec15


The loonie has the ‘crude oil blues’

Michael O’Neill

FX Consultant / IFXA Ltd

Canada

  • Oil and loonie bears are in the driver’s seat
  • USDCAD at 1.4500 is not out of the question
  • Further surprise, price swings likely before year-end

Opec’s Saudi Arabia-favouring decision continues to empty out Canada’s energy sector and the Albertan economy. Photo: iStock

By Michael O’Neill

“What goes around, comes around”. On October 17, 1973, the Organization of Petroleum Exporting Countries, or Opec, implemented what it called “oil diplomacy”. The decree banned Opec countries from selling oil to all nations that supported Israel in the Yom Kippur War. Oil prices quadrupled to $12/barrel and led Jerry Reed to sing “Crude Oil Blues”. Today, oil-producing nations are the ones singing the crude oil blues” and for Opec, it is a self-inflicted trauma.

Last Friday, Opec made the decision to ditch its production cap which set the stage for a renewed selloff in crude oil. The 2015 low in the $37.75-80/barrel area shattered this morning, clearing the path to $34.75/b, at a minimum, and if the Goldman Sachs analysts are correct, $20/b.

USDCAD aims for 1.4500

For USDCAD, the break of major resistance in the 1.3450-70 area yesterday is significant in terms of Fibonacci retracement. The 1.3465 level represents a 61.8% retracement of the 2002-2007 range. The break sets a new target of 76.4% which comes in at 1.4500.

Unrealistic? Not at all. Canadian economic growth is sluggish at best. The manufacturing industry hasn’t recovered from the 2008 financial crisis. The closed factories and lost jobs are gone forever, replaced by coffee shops and Uber drivers.

The largest province in Canada, Ontario, has a provincial government dedicated to the destruction of the balance sheet. In July, the National Post reported that Ontario has the dubious honour of being the most indebted sub-sovereign borrower. Ontario has double the debt of California and only a third of the population. The current government plans a series of “revenue tools” (a public relations firm suggested they avoid the word “tax”) that will stifle growth. These include new taxes on taxes, road tolls and the sale of prime assets for short-term gain.

And Ontario is just one issue, as Opec has decimated the formerly oil-rich Albertan economy. Energy investments have evaporated and job losses are huge.

The drop in oil prices has put a serious dent in the government of Canada’s finances as well. But that hasn’t deterred incoming prime minister Justin Trudeau from his promised spending spree. Lower revenues and higher spending… what could go wrong?

Bank of Canada may favour a weaker loonie

The renewed plunge in oil prices will have a deflationary impact which will irritate the Bank of Canada. BoC governor Stephen Poloz expressed concerns about declining inflation many times over the past year. Last January, the mix of falling oil prices and deflation led him to cut interest rates and the planets are aligning for a similar move this January.

As a former head of the export development corporation, Poloz is well aware of the advantages of a weaker loonie. We will know more later today after his speech and press conference, scheduled for 1750 GMT.

Uncle Sam to the rescue

Canada’s economic growth is intertwined with that of the US but Canada is no longer America’s largest trading partner as that mantle has been passed to China. Regardless, an improving US economy in 2016 will lift the Canadian economy. Or not.

US economic growth, to date, has been sluggish and uneven but the Federal Reserve will still hike rates next week. That will set the stage for chatter about the timing of hike number two at the same time as Canadian rates risk going lower.

Uncle Sam will be exacerbating the weak loonie problem, not alleviating it.

USDCAD technicals

There is no getting around it, the USDCAD technicals are bullish in both the short- and long-term.

Intraday/short-term outlook: The USDCAD uptrend from Friday’s low remains intact while trading above the 1.3490-1.3520 area, a zone reinforced by support from prior support/resistance levels and today’s break above 1.3550. Resistance is hard to find and you need to refer back to 2004 where 1.3640 capped gains.

30 minute USDCAD noting bullish setup:

Create your own charts with Saxo Trader click here to learn more.

Source: Saxo Bank

Long-term outlook: The long-term outlook is bullish with uptrends from 2012 and 2014 still intact. The 2014 uptrend doesn’t even get tested until 1.2950-70 on a weekly chart, which happens to be where the long term downtrend from 2001 ended back in July.

The 1.4150-70 area capped short-term rallies in the second half of 2003 and will likely be resistance in 2016.

USDCAD weekly with uptrend lines and resistance:

Source: Saxo Bank

‘Tis the season to beware

December is both the start of the holiday season and the end of the year. Trader bonuses are paid (for those banks with a December year-end) on profits up to and including December 31… in theory.

Traders are always sure of two things at any given time: their positions and their profit year-to-date, usually down to the penny. Profitable traders are unwilling to risk their bonuses this close to payout and losing traders do not want to make it any worse. Neither group has any incentive to trade and they don’t.

The same holds true for traders at pension funds, hedge funds and the like. Corporate traders have learned over the years that slippage increases drastically as December wanes and as such they try to get all their FX requirements taken care of early in the month.

In December, liquidity dries up. FX price swings are exaggerated and moves occur on the most ridiculous fragments of speculation. Those moves also makes mincemeat out of intraday technicals, rendering them useless.

These are just a few of the reasons why December traders should look at intraday technicals with a jaundiced eye.

The slightest weather conditions can make any move hazardous. Photo: iStock

— Edited by Michael McKenna

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Author: Loonieviews

In the past 30+ years, I have been an FX interbank market making trader, a high performing FX and Derivatives Sales person, creator of simple and complex risk mitigation strategies and a manager of high performance FX teams. The Trade of the Day is a culmination of that experience. Retail FX traders have access to a well-crafted and carefully researched FX trade strategy designed to generate FX profits while mitigating losses.

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