trading news reports

Canadian Inflation May Usher In Further BoC Rate Cuts And Loonie Losses

Thursday, 24 January 2008 21:50:51 GMT  |  John Kicklighter, Currency Analyst

Looking back over the market’s reaction to the Canadian CPI data after past releases, it is clear that the inflation indicator is a considerable market mover in its own right. However, in the past few weeks, the fundamental significance of this report has been stepped up by a few magnitudes as the Bank of Canada has followed in the footsteps of the Fed and cut its benchmark lending rate at the past two monetary policy meetings (the most recent of which was this past Tuesday).

Trading the News: Canadian Consumer Price Index

What’s Expected
Time of release:         01/25/2008 12:00 GMT, 07:00 EST
Primary Pair Impact : USDCAD
Expected:                  2.4%
Previous:                   2.5%






How To Trade This Event Risk

Looking back over the market’s reaction to the Canadian CPI data after past releases, it is clear that the inflation indicator is a considerable market mover in its own right. However, in the past few weeks, the fundamental significance of this report has been stepped up by a few magnitudes as the Bank of Canada has followed in the footsteps of the Fed and cut its benchmark lending rate at the past two monetary policy meetings (the most recent of which was this past Tuesday). This back-to-back easing perhaps shows a willingness to steadily lower rates to head off a route in growth that could develop hand-in-hand with the fear of a looming US recession. Of course, for the policy group, under the lead of the newly appointed Governor Mark Carney, to continue its easing trend; economic and inflation trends will need to ultimately confirm such a dovish move. Growth related data is already working against further rate cuts, as the policy group noted in the statement after the last rate cut that the domestic economy has been strong – though it may falter in 2008 with exports waning due to the high currency and fading demand from its largest trade partner. Therefore, inflation may be the key to the whole equation. Though headline price pressures have accelerated to an 18-month high last month (thanks largely to gas and food prices), underlying inflation has actually decelerated to its slowest pace in two years as retailers have had to discount their goods to compete with cheaper imports.

After two, consecutive rate cuts from the Canadian monetary policy, market participants have boosted the risk premium behind the possibility of further easing down the line. This will inevitably increase the fundamental impact a strong inflation number would have on price action. At it stands, the market is working with forecasts calling for a downtick in headline CPI and an uptick in the core number. Clearly, these modest expectations are breeding grounds for event risk. We will watch the broad inflation number closely; but in the event of contradictory releases, we will follow the headline number as that is the BoC’s preferred inflation gauge. For a short USDCAD trade, we will look for a better-than-expected reading from the core reading. A similar surprise from the headline figure would be optimal, as a disappointing reading could produce a fake initial move and disrupt a strong trade like it did last month. With the right fundamentals, we will take entry on two lots of USDCAD on confirmation of a red five minute candle. The initial stop will be set above the nearby swing high (or reasonable level) and this risk will equal the first target. The second target will be based on discretion and to preserve profit, we will move the stop on the second lot to break even when the first half of the trade reaches its objective.

Then again, a continued easing in inflation trends could easily send the market scrambling to take off their long Canadian dollar positions in fear of further rate cuts. Our main concern is a disappointing core reading and we will follow the same strategy as above, just in reverse.

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