Loonie at a crossroads 26Feb16


Loonie at a crossroads

Michael O’Neill

FX Consultant / IFXA Ltd

Canada

  • Upward US Q4 GDP revision lifts US dollar
  • Loonie strong, with USDCAD down from Jan peak of 1.4688 to 1.3506 this morning
  • USDCAD fighting competing influences and the loonie is at a crossroads
  • Domestic fundamentals and short-term USDCAD technicals point different ways
  • Month-end Monday may undermine greenback

Bloomberg’s CAD survey suggests that forecasters aren’t buying

the "Great Canadian Dollar Rally" theme. Image: iStock

By Michael O’Neill

The US dollar is ending the week on a mixed note, down against the commodity currency bloc while posting gains against Europe. GBPUSD is in its own "Brexit" world, and it is the only currency to have declined against the US dollar in the past month.

Loonie goes from dud to stud
USDCAD has fallen 0.1182 point from a January peak of 1.4688 to this morning’s low of 1.3506, and forecasters are taking notice. An analyst from Macquarie Capital Markets Canada made headlines in January with his "Canadian dollar will drop to 59 cents" forecast. (against US dollar). He hasn’t been heard from lately. Yesterday, RBC issued a “Special Report-USD/CAD: A Change in Sentiment”, noting a bearish long-term trend reversal below 1.3676. Arguably, the 0.1000 point drop suggests that the change in sentiment occurred long before yesterday.

The Canadian dollar forecast from Bloomberg, as of today, suggests that forecasters haven’t bought into the "Great Canadian Dollar Rally" theme.

USDCAD forecasts

Source: Bloomberg

Beware the hype

Happy Days are here again. Everything that was negative about Canada and the Canadian dollar at the beginning of the year has vanished. Oil prices will no longer fall, the US Federal Reserve won’t be hiking interest rates, the Canadian economy is rebounding robustly, rising Canadian budget deficits are not a concern and worries about China’s economic fortunes are no longer relevant.

I missed the memo.

OIL: How sustainable is this latest oil rally? WTI prices have rebounded from the February low and are in an intraday uptrend above $31.50/barrel. But that is a counter-trend rally as the downtrends from the November 2014 peak and the July 2015 peak remain intact and are guarded by additional resistance in the $34.20-70/b area. The fact that Opec and Russia are even talking about having meetings to discuss price stability seems to have put a floor in WTI at $26.05/b and got traders buying oil. For unknown reasons reports of planned "talks" carry more weight than Saudi oil minister Ali al-Naimi’s statement that “we can coexist with oil at $20/barrel”. Also ignored was Iran’s oil minister calling a production cap “laughable”. Oil traders looking for a silver lining in a black cloud determined that the Energy Information Administration report that US crude stocks rose 3.5 million barrels was a good thing, because it wasn’t as big as the 7.1 million barrel rise reported by the American Petroleum Institute a day earlier. This rally is fueled by "wishes" not reality.

CANADIAN ECONOMY: An announced federal budget deficit of close to $30 billion in the 2016-17 fiscal year barely raised an eyebrow in FX markets. Ontario, the most populated province in Canada, is indebted to the tune of $308 billion, making it the largest non-sovereign debtor in the world, and no one seems to care. Low oil prices are still decimating the western provincial economies and hurting federal revenues. Oil prices are close to January levels when the Bank of Canada was considering cutting interest rates. The Bank of Canada meeting and the Federal budget in March will be key to USDCAD’s direction.

US INTEREST RATES: Today, fourth-quarter US GDP data was revised higher to 1.0% from 0.7% previously reported. This data and Wednesday’s durable goods report are signs that perhaps the US economy isn’t at recession’s door. If next Friday’s US jobs report surprises to the upside, expectations for two or more Fed rate hikes in 2016 will be back on the table.

USDCAD TECHNICALS: Short-term USDCAD technicals turned bearish. Yesterday’s decisive break of 1.3650 snapped the uptrend that had been in place since May 2015. The down move also broke the 38.2% Fibonacci support level from the same period, which opens the door to a 50% retracement at 1.3301. For now the downtrend has stalled at the major support zone in the 1.3440-1.3500 area, which is derived from the confluence of prior resistance areas.

The intraday technicals are also bearish and appear to be taking a breather at the 1.3500 support area before heading lower to test support at 1.3440. If this level gives way, the 200-day moving average at 1.3257 is in play.

Canadian dollar conundrum

Pick your poison. In my opinion, the domestic fundamentals and the short-term USDCAD technicals point in different directions. I believe the Canadian economy is still a basket case and there is a real risk of additional monetary stimulus to complement the Federal government’s soon-to-be-announced fiscal stimulus plan. If the Canadian economy wasn’t in such dire straits, why would the Feds be spending the money to boost it? And if the Canadian economy needs such a boost, why would the Bank of Canada stay on the sidelines?

I think the US will raise interest rates at least twice this year, and this week’s US GDP and durable goods data support that view.

I don’t think the oil price rally is sustainable due to the persistent over-production amid declining demand. Constant reports of future oil producer talks is just “verbal intervention”, especially if you believe that Iran and Saudi Arabia will stick to their stated views.

So my poison is bullish USDCAD. This view is wrong if USDCAD falls below 1.3440.

USDCAD daily chart with Fibonacci and support shown

Source: Saxo Bank

The week ahead

Fall-out from the G20, if there is any, will be felt on Monday, which also brings Eurozone CPI data, a key number ahead of the March 10 ECB meeting. It is also month-end portfolio rebalancing day, which could see US dollar selling. The Reserve Bank of Australia steps to the plate on Tuesday. As of February 25, the RBA indicator of market expectations for a rate cut on March 1 was a mere 6%, suggesting a rate cut is unlikely. There is plenty of top-tier data from the Eurozone and the US which, due to the proximity of the ECB and FOMC meetings, should boost their impact. The week will close with a bang thanks to the US employment data on Friday.

The week that was

This week the UK-EU summit result was expected to be the marquee event for sterling traders, and it was.

Monday’s Asia session started on an upbeat note with news that China replaced the head of the securities regulating agency, giving a “risk-on” tone to markets. Sterling wasn’t part of this rally. GBPUSD dropped over 0.150 point in early trading on news that the UK and EU had reached an accord, setting the stage for a UK referendum on June 23. GBPUSD and EURGBP trading dominated the European session, with traders ignoring Eurozone PMI data. It didn’t get any better for sterling in New York where it ended the day as the worst-performing G-10 currency.

Tuesday, Asia traders had a yen to buy yen, driving USDJPY to 111.97 from 113.05, is partly due to what were viewed as pessimistic remarks from Bank of Japan governor Kuroda. Traders also had a yen to sell sterling due to Brexit concerns. The European session kept the pressure on USDJPY while trying and failing to drive EURUSD below 1.1000 support. Risk aversion ran rampant through New York, for no good reason, though weak oil prices, mixed to soft US data and falling US yields shared some of the blame.

Wednesday’s Asia session received the risk-aversion handoff from New York though it was a fairly subdued session. GBPUSD didn’t suffer from risk-off but was engulfed in Brexit aversion, and it hit a seven-year low in European trading. EURUSD finally broke 1.1000 support, but not with conviction and was back at 1.1015 when New York opened. Sentiment changed by mid-day in New York, spurred by a rally in WTI and equity indices.

Thursday’s Asia session was choppy with USDJPY gaining and AUDUSD retreating. The upcoming G20 meeting was a major distraction but not a trading influence. EURUSD remained rangebound in Europe, while GBPUSD was offered. It was a good day for commodity currencies in New York, led by the Canadian dollar, which soared on a spike in oil prices. A stronger-than-expected US durable goods report offset much of the softer data seen earlier in the week, which helped US equities close on a high note. Even GBPUSD managed to close in New York with a modest gain. Brexit be damned.

Friday’s US fourth-quarter GDP report and profit-taking ahead of the weekend helped the US dollar post gains across the G10 by mid-morning in New York.

— Edited by John Acher

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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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