What to Expect from USD/CAD and Other Loonie Pairs with BoC Expected to Hike
- The Canadian Dollar crosses have shown little-to-no general enthusiasm for the Loonie recently despite the run up to the BoC
- According to swaps, the market is pricing in more than an 80 percent chance of a rate hike from the Canadian central bank
- Given this degree of anticipation and the lack of response to such conviction, it will be important to weigh trade scenarios
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We are coming on the major central bank rate decision of 2018 and it is already expected to be a remarkable one. The Bank of Canada is due to announce its policy assessment at 15:00 GMT Wednesday. And, according to overnight swaps, the market expects it to be the third 25 basis point rate hike from the group since it began its slow pace of normalization last year. This would further place the Canadian Dollar in unique strata. It is arguably the second most hawkish central bank amongst its major peers next to only the Federal Reserve. However, were the Fed is - and has been - uniquely hawkish for a few years now, we have seen its influence render less and less lift for the Dollar. That waring novelty seems to already be effecting the Canadian Dollar as well. Despite the remarkably clear speculation attached to the rate hike, the Loonie has floundered recently versus the Dollar, Euro, Pound and others.
Rate hikes in the traditional sense are a boon to a currency. It is like a dividend increase to the currency world. Yet, if that is the analogy we go with, we are currently in a world were dividends are essentially pennies across the board. Sure, some regions are offering a few more pennies than the others, but that is amplitude that is built near zero. Either there needs to be an all-consuming and desperate reach for all yield to be found or there needs to be an actual competitive rate of return to truly pull speculative interests back into the market. We certainly don't have the latter and traction is starting to fade on the former. Where speculative interest has instead fixated is the capital flow that is expected to follow any policy change. There is more capital flow in anticipation of change than the actual moves themselves. And the more novel the shift (from clear dove to clear hawk say), the greater the lift the move will have. For the Bank of Canada's effort, we are looking at a small step in an already speculated trajectory.
This anticipation discount is likely responsible for much of the tempered lead in we have recently seen; however, this does not mean this policy assessment is destined to be a non-event. Quite the contrary, this can generate very abrupt short-term price action but under different circumstances. If we consider a rate hike by itself, we already know that outcome is heavily priced in. If there were nothing else to this event, a 25 basis point (quarter percent) increase would simply 'meet expectations' and likely generate very little heat for the currency. Yet, there is more to this event in the form of the accompanying statement. If this is a 'hawkish hike' whereby the Governor plots out further moves through the year, there may be lift from the CAD yet. Alternatively, a 'dovish hike' where this seems another one off such that the next will require plenty of data to trigger, the already tepid Loonie could fall further. The most dovish outcome from this event would be a hold on rates. That would catch the most traders off guard and lean in the bias that the market seems to already carry. We discuss this event, scenarios and trading opportunities across the crosses (USD/CAD, AUD/CAD, CAD,JPY and more) in today's Strategy Video.
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