CAD is Expected to Appreciate in the Following Weeks
In the immediate term, the CAD has a decent chance of extending its recent rally. We believe the stars are aligning in favor of the CAD, causing USD/CAD to return to the 1.24 level (and possibly a fair bit lower in H2). Following its decision to hike 50 basis points, the Bank of Canada issued a hawkish statement, implying that domestic monetary tightening may outrun the Fed in the coming months. Policymakers are making it clear that large rate hikes are required to maintain credibility in the 2 percent inflation objective, and that policy settings may have to rise above 3% to achieve that goal. Policymakers have also opened the door to a faster rate of tightening, reigniting expectations that the Bank could raise rates by 75 basis points.
Interest rate differentials are shifting back in the CAD's favor. Meanwhile, commodity prices have remained high, owing to restricted supply in the energy sector. Although there is still a limited association between the CAD and spreads, positive yield differentials are definitely CAD-supportive. The CAD's link with commodities is increasing slightly, while its association with US stocks/volatility appears to be plateauing.
The Loonie is Primed to Soar
The CAD is expected to appreciate in the following weeks, based on yields, commodities, and seasonal tendencies. Given the strong economy, assertive central bank policy risks, and terms of trade developments in recent months that have yet to be completely reflected in the spot rate, the market's attitude of the CAD has been mixed. Fair value models show that CAD strengthening is ahead of schedule to some extent.
The Week Ahead
The week's schedule is light; Canada and the United States both release April trade figures. The US CPI and Canadian employment figures, including pay growth, are released every Tuesday and Friday. The Bank of Canada's narrative is indicating a lot more concern about very high and still increasing inflation, as well as a very hot economy, which may necessitate more aggressive policy measures. Meanwhile, remarks from Fed policymakers suggest that inflation has peaked, allowing the Fed to slow the frequency of tightening after July. The data from next week will help to shape these respective rate forecasts.
This weeks’ USD/CAD trading range 1.24 – 1.2650
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