USDCAD: Risks abound – RBC CM

George Davis, Research Analyst at RBC Capital Markets, suggests that the USD/CAD continues to be trapped in a narrowing trading range, as firmer crude oil prices are offset by a number of headwinds that are hampering the BoC’s growth rotation story.

Key Quotes

“Despite non-energy export volumes improving in July and August, they are only flat on a year-over-year basis and well off of the peak of +8.0%y/y that was registered in February. Weakness in US industrial production has been a factor here, as this has not been a favourable development based on the composition of CA exports. This loss of export momentum will linger as a bearish risk for CAD going forward.

Associated with this risk is the declining trend that has been present in capacity utilization this year. As this measure has a strong correlation with the output gap, declining capacity utilization points to a widening in the output gap – and we believe that this will increase the risk that the Bank of Canada pushes out the timing of the closure of the output gap from late 2017 to early 2018 in the October 19 Monetary Policy Report.

The upcoming US election in November is also noteworthy for CAD though after the first Presidential debate, the probability of a Trump victory has fallen.

As we aggregate all of these themes and risks together, we see USD/CAD near spot at year-end, with USD/CAD forecast at 1.33 (unchanged). From a technical perspective, we note that a daily close above 1.3281 would trigger a bullish breakout for USD/CAD that would shift the focus up to the 1.3402/46 region next.

6-12 Month Outlook – Raising our profile

We are raising our forecast profile for USD/CAD in 2017 as we reassess the implications of the various risks that are on the horizon. We now look for a move to 1.35 in Q2 2017 on the back of a 25bp Fed rate hike that our US economics team is forecasting, while we look for the BoC to leave policy rates unchanged through 2017. A mild pullback to 1.33 is forecast for Q4 2017, as our equity analysts expect WTI crude oil prices to average USD59/bbl in 2017. This should serve as an offsetting force to potential CAD weakness that may occur in H2 2017 if the Fed decides to move forward with another rate hike.”