Published On: Wed, Oct 26th, 2016

The Canadian Dollar Falls as Traders Start to Price in a Rate Cut

The USD/CAD currency pair, surged higher on Friday following the softer than expected Canadian CPI and Retail Sales reports.  At the same time yields in the U.S. remain elevated with the 10-year holding above the 200-day moving average.  Canadian yields dropped on the lack of growth in August retail sales, making the Canadian dollar less attractive. Given the close call this week at the Bank of Canada monetary policy decision, the softer than expected economics numbers are increasing the expectations for another rate cut.

Canadian Dollar Falls

Canada’s CPI increased at a 1.3% year over year in September from the 1.1% rate in August, slightly less than the 1.4% increase expected.  The total-CPI improved 0.1% month over month in September compared to expectations of a 0.2% climb after the 0.2% decline in August. But the Bank of Canada’s core CPI came in as expected, rising 0.2% month over month in September after the flat reading in August.

Sales values and volumes were more disappointing and the catalyst for the drop in yields and the decline in the Loonie. Canada retail sales slipped 0.1% in August after the revised 0.2% decline in July. X-autos, retail sales were flat in August after the revised 0.2% fall in July. Sales came in less than expected which was +0.3% and the ex-autos aggregate also missed. Total sales volumes fell 0.3% month over month in August.

The numbers were discouraging, and the currency pair is poised to break out.  The exchange rate hit a 7-month high and is poised to test resistance near the 1.34 level.  A close above this region would lead to a test of resistance near 1.36.

U.S. yields have remained buoyed, as traders await the results of the U.S. election which is keeping the Fed on the sidelines. U.S. Growth has remained subdued with some slack in the labor market, while inflation data have been mixed. There’s also been no clear set up from Fed officials hinting of action in November, though they continue to reiterate all meetings are live.  The Fed Fund futures market is forecasting a 65% chance that the Fed will raise rates in December.  Unless the payroll report tumbles, Fed speak has put in motion the likelihood of the Fed raising rates.

The dollar was also stronger against the Euro which broke through support levels near 1.09 and is poised to test the 107 level.  The move came as yields continue to move in favor of the greenback.  The 10-year yield differential is hovering near a break out level near 1.85.  A close above this would likely drag the EUR/USD through support.

This comes as confidence in the Eurozone improves despite the specter of a hard Brexit.Eurozone consumer confidence improved to -8.0 from -8.2 in the previous month, as expected. The negative reading suggests pessimists still outnumber optimists. The ECB’s survey of professional forecasters reflects a scenario where inflation estimates were reduced to 0.2% from 0.3% previously, while the 2017 forecast was unchanged at 1.2%. The 2018 forecast for inflation was reduced to 1.4% a small decline from 1.5%.  For the long term, inflation expectations were unchanged at 1.8%. Growth forecasts were revised lower to 1.6% from 1.7%.