Today, the main event will be the BoC policy meeting, and the forecast is for the Bank to raise its benchmark interest rate by 25bps. Indeed, at the time of writing, the probability for such action – according to Canada’s Overnight Index Swaps (OIS) – rests at 87%, suggesting that a hike is almost fully priced in.
Having said that, we stick to our non-consensus view that the BoC could remain on hold today, although we admit it’s a very close call. We do expect a hike soon, but we think that this meeting is too early. Even though the Canadian economy is strong by almost all metrics, inflationary pressures are still absent.
The nation’s core inflation rate has declined for 3 consecutive months and now rests at +0.9% yoy, a low last seen in 2011. In our view, it would be very strange for the BoC to hike while underlying inflation is trending lower, even if the Bank expects it to pick up soon. The only reason we see for the BoC to want to raise rates immediately is to curb rapidly rising housing prices, but even then, we are not convinced that the interest rate instrument is the appropriate one to use amid low inflation.
If we are right, the Loonie is likely to sink on the news. USD/CAD is likely to surge back above 1.3000 (R2), something that could change the outlook back to neutral (from negative) as this will bring the rate back within the sideways range that contained the price action since the 9th of September.
Even if we are wrong though and policymakers do raise rates, that does not necessarily imply a stronger CAD, as a hike is practically fully priced in. If the hike is not accompanied by strong signals that further rate increases are on the table soon, this may turn out to be a sell-the-fact event, as investors take the opportunity to lock in profits on their prior long-CAD positions. USD/CAD could rebound on that, but we expect such a move to remain limited below the psychological zone of 1.3000 (R2). In this case, the outlook would remain negative and the 1.3000 (R2) territory may be a good point for the bears to take charge again.
For CAD to rally after this decision, the BoC would need to hike and simultaneously signal further hikes in the months to come. USD/CAD may come under renewed selling interest on the news and perhaps break below the 1.2860 (S1) barrier. Something like that may initially aim for the next support of 1.2820 (S2), where another dip is possible to target the 1.2770 (S3) territory.
Concluding, we view the risks surrounding the Loonie from this decision as likely being asymmetrical, and tilted to the downside.
USD takes a dive after Trump Jr and Brainard; Focus turns to Yellen
The US dollar tumbled yesterday, following the release of some emails from President Trump’s eldest son. The emails suggested that the Trump campaign was aware that the Russian government wanted to get Trump elected. The dollar took another hit a few minutes later after the Fed’s Brainard said she wants to monitor inflation carefully and to move cautiously on further rate hikes.
Today, investors are likely to turn their eyes to Fed Chair Yellen’s semi-annual testimony on monetary policy before the House Financial Services Committee. Usually the Fed’s semi-annual monetary policy report is released on the day Yellen testifies, but this time around it’s already out. Thus, focus may be primarily on the Q&A session. If she reiterates that one more hike this year is likely, USD could recover some of its latest losses. On the other hand, any deviation from that could lead to renewed USD selling. Overall though, we think that the nation’s CPIs on Friday may play a bigger role in shaping market expectations regarding the Fed’s next move.
EUR/USD edged north on Tuesday, after it hit support near the crossroad of the 1.1380 (S2) level and the short-term upside support line taken from the low of the 22nd of June. The pair emerged above the resistance (now turned into support) of 1.1450 (S1) to hit the 1.1485 (R1) hurdle. The price structure still suggests a short-term uptrend and thus, even if Yellen boosts the dollar and the pair slides, we would treat that as a corrective phase.
As for the economic data today:
As for the indicators, we get UK employment data for May. The forecast is for the unemployment rate to have held steady and for average weekly earnings to have slowed, something that could curb some speculation regarding a BoE hike soon and thereby, weigh on the pound.
USD/CAD
Support: 1.2860 (S1), 1.2820 (S2), 1.2770 (S3)
Resistance: 1.2940 (R1), 1.3000 (R2), 1.3080 (R3)
EUR/USD
Support: 1.1450 (S1), 1.1380 (S2), 1.1300 (S3)
Resistance: 1.1485 (R1), 1.1530 (R2), 1.1615 (R3)
