Crude oil clouds Loonie outlook


Crude oil clouds Loonie outlook

Michael O’Neill

FX Consultant / IFXA Ltd

Canada

· USDCAD retreat may not last

· Italian Referendum and Draghi will hog spotlight next week

· Lack of top tier US data won’t help traders in week ahead

By Michael O’Neill

The November 30 news that Opec agreed to cut production by 1.2 million barrels, effective January 1, 2017 sent oil prices soaring and USDCAD plummeting. Friday’s Canadian payrolls report did not damage the trend. That reaction shouldn’t surprise anyone. What will be surprising is if USDCAD will keep those losses.

WTI oil prices have rallied impressively in the past three days, rising from a low of $44.79 on November 29 to a top of $51.80 on December 1, a 15.6% gain. Prices have since retreated from the top but the intraday uptrend is still intact while prices are above $50.15/b. The steepness of the rally and the proximity to major resistance levels in the $52.20-$53.20/b area suggests a deeper correction could occur, precipitated by a move below $50.10/b.

The effectiveness of the 1.2-million-barrel production cut in the near term is questionable. Russia admitted that their November production was a record 11.21 million barrels per day. That is also the benchmark for their 300,000 barrel per day production cut. That 300,000-barrel cut is not in one shot, either. It will occur gradually over the first 6 months of 2017, sort of an Opec version of tapering.

It has been widely reported that a good part of the US shale industry is profitable when WTI is above $50.00. The breakeven for many projects are below this level. Higher crude prices would attract additional investment.

It is extremely unlikely that there will much progress in alleviating the current oil glut in the short term which should limit WTI upside and USDCAD losses. The Canadian dollar has more issues than just oil. The Bank of Canada has injected “rate cuts” into the interest rate dialogue. They are unhappy with the slow pace of export growth. An interest rate cut would lead to Canadian dollar weakens while supposedly helping to jump start the domestic economy.

Donald Trump and his anti-NAFTA rhetoric will be another source of USDCAD support. The softwood lumber can of worms has already been reopened which will add to the negative Canadian dollar sentiment. As will Trump’s rumoured “buy American” programme. Canadian products may be shut out of any US government infrastructure spending programs.

That’s not all. US rates are heading up in December and now a minimum of two increases are expected in 2017. The inflation implications of Trump’s infrastructure spending plans could lead to even more rate hikes. Canadian rates, may be heading lower thereby widening CAD/US interest rate differentials and adding further USDCAD support.

Widening CAD/US interest differentials, a dovish Bank of Canada and hawkish anti-trade US rhetoric suggests that USDCAD should be bought on dips to 1.3150.

Chart: USDCAD daily with moving averages

Source: Saxo Bank

The week ahead

To paraphrase Metallica’s latest CD (album, MP3, Opus, WMA lossy?) Hardwired-to self-destruct, the title of this week would be EU:Italian-wired to self-destruct. The Italian referendum results may not be available when Asia turns on their screens on Monday, leaving fallout from Friday’s nonfarm payrolls report and Chinese Services PMI to give direction. It is fair to say that not much will happen until the referendum results are known.

In addition to possible fireworks from Italy, the ECB policy meeting could light up the sky on Thursday. All eyes and ears will be on Mario Draghi to see if he extends or tapers the QE program. He has inferred that a decision would be made at this meeting.

Aussie and Loonie traders will be treated to policy statements from the Reserve Bank of Australia on Tuesday and the Bank of Canada on Wednesday. The US data releases should not inspire much of anything. They are second tier and too close to the FOMC meeting, the following week.

The week that was

This was one of those rare week’s that lived up to its advanced billing thanks to Opec and month end portfolio rebalancing flows.

Monday’s Asia session did not lack for volatility with poor liquidity getting some of the blame. A drop in US Treasury yields and jitters around the pending Italian Referendum spurred a rash of US dollar selling early on. USDJPY hit a low of 111.36 mid-session and then reversed course to climb steadily into the New York open.

The soft dollar sentiment pushed GBPUSD from 1.2421 to 1.2530 but that move ended abruptly when the OECD warned that business investment in the UK would decline because of Brexit. Sterling collapsed.

EURUSD was not immune. The early Asia rally that took the single currency to 1.0684 from 1.0587 was aided, in part, by OECD forecasting that US economic growth would accelerate in 2017.

Tuesday, FX markets were less frantic. Oil prices churned on rumours. USDJPY meandered higher, lifted by rising interest concerns. EURUSD traded sideways. New York opened to USD gains against the majors except for Kiwi and Cable. Talk of a larger than usual demand to sell US dollars at Wednesday’s 1600 GMT fix kept the greenback on the defensive until New York closed. Traders didn’t seem to care about data and awaited Wednesdays Opec announcement.

Wednesday was a trader’s market. It started early. AUDUSD was sold, helped by soft building permits data while across the Tasmanian Sea, Kiwi moved higher. That was thanks to positive inflation comments from the RBNZ governor.

EURUSD traded sideways and Sterling inched higher. USDCAD was a prime mover. All it took was a comment from the Saudi Oil Minister that Opec was close to deal and oil and the Loonie soared. USDJPY roared ahead. It started in Asia at 112.06 and was at 113.13 as New York opened.

Then it was New York’s turn to play. USDJPY added to its European gains supported by a rash of strong US economic data, hawkish Fed speakers and improved risk sentiment from the Opec deal. It hit 114.54, a nine-month high.

EURUSD chopped around in a 1.0620-1.0663 range before plummeting in New York, undermined by the strong US data reminding traders that Eurozone/US interest rate differentials will be widening.

The much ballyhooed US dollar selling for the fix proved to be true although it appeared that a large part of the order was completed well before 1600 GMT

WTI soared from an Asia low of $45.27 to $49.87 when Opec announced a 1.2 million barrel/day cut in production.

Thursday, the US dollar continued to retreat. Asia jumped all over the Opec news and drove WTI from $48.54 to $50.12. Early European trading erased that gain but by mid-morning, WTI started to rise. It never looked back until touching $51.27 at lunch time in New York. It drifted lower into the close but stayed above the European peak.

USDJPY topped out at 114.70 and then spent the European and New York session retreating and closed at 114.02

Sterling exploded higher in Europe. Brexit Minister David Davis suggested that the UK would pay the EU for access to European markets and when the dust had settled, Sterling was at 1.2695. But not for long. By days’ end in New York, GBPUSD was at 1.2585.

EURUSD drifted higher throughout Asia and into the New York opening, got smacked on the strong US ISM report and rallied on a report that tapering wouldn’t start soon. The single currency finished the day at 1.0610.

Friday, Asia and European markets were quiet with traders patiently awaiting the release of the nonfarm payrolls data. The NFP report was acceptable with the only wrinkle being the decline in hourly earnings.

– Edited by Clare MacCarthy

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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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