Canadian Dollar and Bank of Canada Outlook: Analyst and Economist Views

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The Canadian Dollar remained one of the best performing major currencies for the period in the final session of the week but analyst opinion about the outlook for it has grown more divided after the Bank of Canada (BoC) signaled a possible end to its interest rate cycle.

Canada's Dollar wasn't quite able to keep pace with an outperforming Australian Dollar this week but it did rise against the remainder of the G10 contingent while notching gains over all G20 counterparts barring the Brazilian Real, Indonesian Rupiah and Mexican Peso. 

This is after the Bank of Canada lifted its cash rate for the eigth time since last March on Wednesday and warned that further increases shouldn't be ruled out if the economy outperforms its upgraded forecast for the year, or if inflation does not fall as fast as new projections anticipate. 

But the BoC also said it intends to hold borrowing costs at current levels while observing the economic effect of its strongest monetary tightening cycle for decades  and this had led some analysts to turn more cautious on the outlook for the Canadian currency. 

Source: Bank of Canada, Youtube.

Financial markets have followed Wednesday's decision by continuing to bet on the cash rate ultimately being cut before year-end, although other analysts see a resilient Canadian economy as likely to wrongfoot these wagers.

For some, this and other factors mean the Canadian Dollar has scope to remain an outperformer among major currencies in the weeks and months ahead.

But with the interest rate outlook tied closely to how the economy holds up and whether inflation declines as far as the BoC expects, Canadian economic data is likely to remain an important arbiter of how the Loonie fares.

Below are partial selections of the latest remarks on how analysts and economist see the outlook for the economy and currency as it stands. 

Mazen Issa, senior FX strategist, TD Securities 

"Clearly, the BOC has emphasized a slowdown in the household sector, and given the economy's debt imbalance on household balance sheets, the market may need to tread more cautiously on the CAD. What the BOC has effectively done is emphasize data dependence with a dovish tilt."

"In doing so, the risks around the CAD particularly on curve pricing for the BOC may now become asymmetric. That is, it will be harder for the BOC to cajole the market into pricing in tightening (even if the data surprises to the upside) than it will be to price in cuts." 

"We would pay particular attention to Jan/Feb data as that is likely to motivate asymmetries in curve pricing around the BOC later this year. For now, we think CAD is likely to lag on most crosses."

"USDCAD is anchored by broad USD dynamics but note here that the USD and broader FX complex has seen an increased sensitivity to risk dynamics. With disappointing earnings guidance, there may be room for risk to extend lower. That leaves USDCAD at risk of a test into 1.3500/25 near-term, where we see a lot of technical significance."

Bipan Rai, North American head of FX strategy, CIBC Capital Markets 

"The CIBC house call is now for the Bank to remain on hold until the end of this year. As such, we think the 2023 cuts should eventually migrate out to early 2024. This should support the CAD in the months to come." 

"The length of speculative net CAD shorts in the futures market tells us that the pain trade is in favour of USD/CAD downside." 

"The macro story is still in favour of a stronger CAD. Policy pivots in China will continue to support commodities (with the CAD/oil price correlation strengthening) while the USD downside narrative is still compelling given the passthrough from debt ceiling channel (via TGA drawdown)." 

"Finally, for the BoC, despite the progress made on inflation the risk is still skewed to the upside going forward. As such, over the coming months, the odds of the next move being a hike are still subjectively higher than a cut. However, the markets aren’t pricing it that way." 

"In the near-term, watch for support at the 1.3330/50 area [in USD/CAD] to give way at some point – though this may need a catalyst from today’s US data or next week’s FOMC."

Brad Bechtel, global head of FX, Jefferies 

"Hard to form a strong opinion on CAD here given its lack of correlation to Oil but the divergence, although slight, from the Fed may at the margin keep the CAD on the back foot." 

"[USD/CAD] remains stuck in the middle of the 200dma below around 1.3205 and the 50dma/100dma above in the 1.3505 zone. Crosses like EUR/CAD remains near cycle highs while GBP/CAD is 'surfing' the 50 day moving average higher since the start of 2023 with 1.6591." 

Lee Hardman, senior currency analyst, MUFG

"It makes sense for the BoC to take a breather and assess how the economy performs at least through the 1H of this year before adjusting the policy rate again especially given that monetary policy hits the economy with a lag and the full impact of tightening has not yet been felt." 

"The BoC has been leading other G10 central banks in the current tightening cycle and has done so again by becoming the first to officially announce a pause. The decision has understandably reinforced market expectations that other major central banks including the Fed will soon follow the BoC."

"The price action highlights that the US dollar remains vulnerable to a further dovish repricing of Fed rate hike expectations." 

"Overall, the developments support our outlook for the US dollar and Canadian dollar to underperform this year."

Elsa Lignos, global head of FX strategy, RBC Capital Markets

"The BoC hiked 25bps this week and made clear, if things evolve as expected, it’s done. But in isolation, that doesn’t say all that much for CAD."

"We have seen a lot of interest in topside USD/CAD mostly from outside Canada and mostly with housing as the rationale. But Canada’s housing market is less interest-rate sensitive than most others in G10 and housing is a shaky foundation for a bearish CAD view." 

"Why CAD might actually suffer in the weeks ahead is more to do with developments outside Canada in our view." 

"We are using CAD as a funding currency (short CAD/MXN in our thematic trades, long AUD/CAD on China re-opening). But we’re conscious that the latter in particular is a very consensus trade."