The CAD fell sharply in response to the Bank of Canada's 100 basis point rate hike, which we had not anticipated. While market pricing was leaning towards a more aggressive move, swaps were clearly not pricing in a full one percentage point increase. A number of factors contribute to the CAD's underperformance. First, markets are concerned that aggressive rate hikes will cause a sharp economic slowdown, despite the BOC's assurances that a soft landing is still possible; the housing and consumer sectors are obvious areas of concern for investors. Second, the rate hike came after the release of higher-than-expected US CPI data, which fueled speculation that the Fed would also opt for the 100-basis-point hike at the end of the month.
Could the Canadian economy be in for a hard landing?
We disagree with the hard landing scenario for Canada. Slower growth is very likely—indeed, it is required for the BoC to gain price control—but there is some cushioning against a more adverse outcome; savings and the fact that rising mortgage costs will affect only a relatively small proportion of households. Nonetheless, the CAD's performance has been underwhelming. While equity market uncertainty remains high, the CAD will struggle to recover significantly; given the challenges for stocks—geopolitical risks, rising inflation/interest rates, slowing growth, and weaker earnings—volatility may remain high for some time, and the CAD rebound we expected in H2 is unlikely to materialize. Our overall outlook remains consistent with a slightly stronger CAD over the next few months, and we believe that the worst may be over for the CAD in the short run following last week's swings.
The week ahead:
The start of this week's data calendar is more focused on lower-tier data for Canada—consumer confidence and housing today—than on top-tier data such as CPI (Wednesday) and Retail Sales (Friday). The Bank of Canada did a good job of explaining why it thought higher rates posed no major threat to the housing market, but the Canadian economy's shift toward real estate will focus investor attention more intently on the consumer and housing sectors in the coming weeks and months. There will be a slew of construction and housing data in the US next week, but there will also be some new survey data to digest—the Philly Fed survey on Thursday and the manufacturing, services, and composite PMI data on Friday.
This week’s trading range: 12850 – 1.3250
Currency Chart
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