Trouble Brewing in Canada…

Just when you thought USD/CAD was about to dip below parity again, the Bank of Canada (BOC) spoils the fun! In a surprising turn of events, the market turned bearish from bullish on the Loonie as the BOC came out with some very dovish comments with regard to the Canadian economy.

Two days ago, the BOC announced that it had decided to keep interest rates unchanged at 1.00%. Even though market participants widely predicted this, they did not expect the central bank to make extremely bearish comments.

As it turns out, the BOC was unimpressed by the recent string of positive reports released from Canada. Yep, unlike silly teenage girls who go head over heels for Justin Beiber’s lackluster songs, BOJ Governor Mark Carney and his crew didn’t think that the stellar improvement in consumer spending and the labor market warrant a rate hike.

If you remember, retail sales came in at 0.5% for August, erasing its decline in July. Meanwhile, the employment change report printed at 60,900 in September and the unemployment rate ticked lower to 7.1% from 7.3%.

According to the bank’s statement, the possibility of a recession in the euro zone and slowing growth in the global economy could weigh on Canada. In fact, central bankers are pretty worried about the global outlook that they revised their growth forecasts! Canada’s GDP was initially anticipated to print at 2.8% for 2011, now it’s down to 2.1%. In 2012, growth is expected to print at 1.9% after previously being estimated at 2.6%.

Finance Minister Jim Flaherty also braced investors for disappointment when he said that Canada may not print a budget surplus in 2014 or 2015 as promised before. Yikes!

As an effect of the BOC’s dovishness, the Loonie took a hit across the board, with USD/CAD bouncing off parity and rallying to test the 1.0200 handle. If you look at the 15-minute chart of the pair, you’ll see that it moved roughly 200 pips in just an hour and a half.

15-minute Chart of USD/CAD

Does this mean that we should be bearish on the Canadian economy and short the Loonie too?

Whoa, whoa! Hold your horses! In this old man’s humble opinion, Canada is still in a much better shape than the other major economies.

And it’s not just me who thinks so too! Credit rating agency S&P affirmed the country’s AAA rating despite the central bank’s pessimism, also retaining its outlook for the country. But, as with all things forex related, there is also the other side of the coin. One thing that should keep the Loonie bears going is that the possibility of a rate hike any time soon is close to nil.

So, given all these things, what’s your take on the Loonie? Buy or sell?

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