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USD/CAD Outlook Clouded by RSI Divergence Ahead of FOMC Rate Decision

USD/CAD Outlook Clouded by RSI Divergence Ahead of FOMC Rate Decision

David Song, Strategist

Canadian Dollar Talking Points

The recent rebound in USD/CAD appears to be stalling ahead of the Federal Reserve’s first meeting for 2021 as it quickly pulls back from a fresh weekly high (1.2782), and key market themes may sway the exchange rate over the coming days as long as the central bank stays on track to “increase our holdings of Treasury securities by at least $80 billion per month and of agency mortgage-backed securities by at least $40 billion per month.”

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USD/CAD Outlook Clouded by RSI Divergence Ahead of FOMC Rate Decision

USD/CAD struggles to extend the series of higher highs and lows from the month low (1.2589) as the US Dollar weakens against its major counterparts, and the Federal Open Market Committee (FOMC) interest rate decision may keep the exchange rate under pressure as the central bank appears to be in no rush to scale back its emergency measures.

Image of DailyFX economic calendar for US

It seems as though the FOMC will largely endorse an outcome-based approach in 2021 as the central bank plans to “achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time,” and Chairman Jerome Powell and Co. may continue to lay out a dovish forward guidance as “some participants noted that the Committee could consider future adjustments to its asset purchases—such as increasing the pace of securities purchases or weighting purchases of Treasury securities toward those that had longer remaining maturities—if such adjustments were deemed appropriate.”

In turn, key market themes may continue to sway USD/CAD as the FOMC relies on its non-standard tools to achieve their policy targets, and the tilt in retail sentiment also looks poised to persist as traders have been net-long the pair since May 2020.

Image of IG Client Sentiment for USD/CAD rate

The IG Client Sentiment report shows 58.66% of traders are currently net-long USD/CAD, with the ratio of traders long to short standing at 1.42 to 1. The number of traders net-long is 10.17% higher than yesterday and 4.48% higher from last week, while the number of traders net-short is 7.82% lower than yesterday and 5.65% higher from last week.

The rise in net-short interest has helped to alleviate the crowding behavior in USD/CAD as 76.03% of traders were net-long the pair last week, but the rise in net-long interest suggests the tilt in retail sentiment is likely to persist even though the exchange rate struggles to extend the series of higher highs and lows from the monthly low (1.2589).

With that said, the Fed interest rate decision may keep key market themes in place as long as the central bank utilizes its balance sheet to support the US economy, and swings in risk appetite may continue to sway USD/CAD as the US Dollar still reflects an inverse relationship with investor confidence.

However, the technical outlook remains clouded with mixed signals as the Relative Strength Index (RSI) continues to deviate with price and tracks the upward trend established earlier this month.

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USD/CAD Rate Daily Chart

Image of USD/CAD rate daily chart

Source: Trading View

  • Keep in mind, USD/CAD cleared the January 2020 low (1.2957) following the US election, with the exchange rate trading to fresh yearly lows in November and December as the Relative Strength Index (RSI) established a downward trend during the same period.
  • USD/CAD started off 2021 by taking out last year’s low (1.2688) even though the RSI broke out of the bearish formation, with lack of momentum to hold above the 1.2770 (38.2% expansion) region pushing the exchange rate briefly below the Fibonacci overlap around 1.2620 (50% retracement) to 1.2650 (78.6% expansion).
  • However, USD/CAD broke out of the opening range for January following the failed attempt to break/close below the 1.2620 (50% retracement) to 1.2650 (78.6% expansion) region, with the RSI establishing an upward trend during the same period as the exchange rate bounced back towards the 1.2830 (38.2% retracement) region.
  • Nevertheless, lack of momentum to hold above the 1.2770 (38.2% expansion) area pushed USD/CAD to a fresh monthly low (1.2589), with the exchange rate showing a similar behavior ahead of the Federal Reserve’s first interest rate decision for 2020 as it struggles to extend the series of higher highs and lows from the previous week.
  • In turn, USD/CAD may continue to test the the Fibonacci overlap around 1.2620 (50% retracement) to 1.2650 (78.6% expansion) for support as the RSI retains an upward trend, but a close below the key region may open up the 1.2510 (78.6% retracement) region, with the next area of interest coming in around 1.2440 (23.6% expansion).
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--- Written by David Song, Currency Strategist

Follow me on Twitter at @DavidJSong

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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