Fears over the spread of omicron roiled global markets and slashed crude oil prices last week, sending the CAD into a defensive mode for the majority of the week. The new omicron variant discovered in South Africa has already been found in almost every major country in the world, threatening the reintroduction of global containment measures. Although early signs show that its symptoms are less severe, markets are in “risk-on” mode waiting for news of any new risks before attempting a rally. The S&P ended the week down 1%, its worst week since October 2020, while oil has dropped almost 25% since November 10th.
The USD has been steadily rising as markets anticipate a faster rate of Fed tapering, which might result in a Fed hike as early as the second quarter. Fed policymakers' recent comments suggest that the board will slow its monthly pace of purchases later this month, with net buys ending in early Q2. Traders are pricing in a complete 25bps raise at the June FOMC meeting. Expectations for a Fed move will certainly rise this coming week should US CPI data on Friday print above forecast.
The loonie’s outlook:
Several analysts continue to suggest that the markets are underpricing Fed tightening in 2022 which further suggests that the CAD's rate differential advantage is likely to be eroded in the coming months. A CAD-bullish argument for 2022 will be highly impacted if the Fed's first increase occurs in the same quarter as when the Bank of Canada begins its own hike cycle. Nonetheless, given a solid domestic labor market and steepening inflation, the Bank of Canada may choose to tighten more quickly. The Bank of Canada's decision on Wednesday will likely provide little additional rate guidance because it is too early to assess the impact of the omicron variant, and the bank may prefer to make a more significant shift in tone at its January meeting when it releases new forecasts in its Monetary Policy Report.
The loonie narrowly escaped a further weakening, thanks to Canada’s strong jobs report last week. Technically, the loonie remains poised to target 1.29 and possibly 1.30 as markets continue to brace for any omicron and covid related restrictions.
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