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Preview: Bank of Canada Interest Rate Seen on Hold Amid Rising NAFTA Concerns

Preview: Bank of Canada Interest Rate Seen on Hold Amid Rising NAFTA Concerns

2018-05-30 10:30:00
Justin McQueen, Analyst
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CAD Analysis and Talking Points

  • BoC likely to keeps rates unchanged amid rising global uncertainty, most notably from NAFTA
  • Focus on accompanying statement which will dictate CAD price action.

See our Q2 CAD forecast to learn what will drive the currency through the quarter.

The Bank of Canada will publish its latest interest rate decision at 1400GMT where the central bank is expected to maintain its policy rate at 1.25%, according to 26 out of the 29 surveyed economists. OIS (Overnight Index Swaps) markets also attach a 90% likelihood that the central bank will stand pat on interest rates, as such, focus will be on the accompanying monetary policy statement. As a reminder, there is no press conference scheduled for today’s meeting. In terms of future monetary policy tightening from the BoC, OIS markets fully price in a 25bps rate hike by October.

Preview: Bank of Canada Interest Rate Seen on Hold Amid Rising NAFTA Concerns

Source: Thomson Reuters (BoC rate hike expectations)

Canadian Data Supports Additional Rate Hikes

Economic data from Canada has been impressive as of late with economic growth remaining firm and above expectations of the BoC’s April MPR forecast, while recent Ivey PMI surged to a 5-year high. Alongside this, inflation is currently hovering around 3-year highs of 2.2%, above the central bank’s 2% midpoint of their 1-3% target range. The recent strong data had also been acknowledged by BoC Governor Poloz who stated that “economic progress makes the BoC more confident that higher interest rates will be warranted over time”. An upbeat statement highlighting a positive outlook on the economy given the recent data will likely provide support for the Loonie.

NAFTA Concerns Weigh on Hiking Cycle

NAFTA continues to pose the largest risk to the Bank of Canada’s outlook and ultimately will decide whether the central bank will deliver additional rate hikes this year. Recent actions by the Trump administration have placed further risk on NAFTA talks with Trump probing imports of auto parts under Section 232 (determines effect of imports on national security), consequently stalling negotiations. This uncertainty is likely to remain for the months ahead, potentially pushing back rate hike expectations given that it unlikely that the BoC will hike rates until it has greater clarity over the investigation, providing downside risks to CAD in the near term.

Trading the BoC

Given that market pricing only shows a 10% chance of a BoC hike, it is likely that the central bank keeping rates at 1.25% is unlikely to move the Canadian Dollar. Consequently, focus is on the accompanying monetary policy statement. The central bank highlighting unease over NAFTA and the recent cooling of the housing market, in which house prices have risen at its slowest pace in 9-years (following introduction of tougher mortgage financing rules in January) would likely be viewed as dovish, subsequently weakening CAD. However, if the BoC show confidence in the growth outlook, while also highlighting risks of an overshoot in inflation, this could push the Canadian Dollar higher as markets re-price a July rate hike (currently sits at 60%). Due to recent selling in CAD and increasing speculative short positions, the Loonie is vulnerable to a “hawkish hold”.

Option Pricing suggests that we could see some volatility over the event with vols indicating a break-even of 90pips.

USDCAD Price Chart: Daily Time-Frame (June 2016-May-2018)

Preview: Bank of Canada Interest Rate Seen on Hold Amid Rising NAFTA Concerns

Chart by IG

USDCAD Technical Levels

- Resistance: 1.3050-60, 1.3124 (2018 peak), 1.3132 (61.8% Fibonacci Retracement of 1.3793-1.2061 fall)

- Support: 1.2920-1.2900

IG Client Positioning Sentiment states recent changes in sentiment warn that current USDCAD price may continue to rise. For full client positioning click here

--- Written by Justin McQueen, Market Analyst

To contact Justin, email him at Justin.mcqueen@ig.com

Follow Justin on Twitter @JMcQueenFX

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

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