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What’s up, forex friends? Did you know that the Loonie has been one of the strongest currencies year-to-date (as of March 1, 2016)?

Heck, it’s now winning out against pretty much all its major forex rivals, as y’all can see on that there table below.

Loonie Forex Pairs (As of March 1, 2016)
Loonie Forex Pairs (As of March 1, 2016)

In fact, the Loonie’s only losing out to the safe-haven Japanese yen, which is quite understandable since safe-haven flows have pretty much been streaming towards the yen.

And even then, the Loonie has actually been fighting back bitterly against the yen in the past couple of weeks. So, what are some of the major factors driving the Loonie higher against its forex rivals? Time to find out!

1. Steadier Oil Prices

As y’all learned from our School’s lesson on How Oil Affects USD/CAD, the Loonie is positively correlated to oil since oil products account for more than 20% of Canadian exports.

Having said that, oil prices have now stabilized and are even climbing higher.

The most recent oil rally is generally being attributed to the mid-February deal between Russia, Saudi Arabia, Qatar, and Venezuela to freeze output at January levels in order to slow down or outright stump the slump in oil prices.

And confirmation that another meeting in mid-March has been scheduled between OPEC and non-OPEC oil producers has been keeping the rally alive.

Loonie vs. WTI Crude: 4-hour Forex Chart
Loonie vs. WTI Crude: 4-hour Forex Chart

Of course, oil ain’t the only factor that’s pushing the Loonie higher since USD/CAD has actually sort of decoupled from oil, as y’all can see on that there chart above. On to the next factor sustaining the Loonie rally!

2. BOC Unlikely to Cut Rates

If you look at that overlay of Loonie pairs below, you’ll notice that the Loonie began to broadly gain strength against most of its forex rivals on two separate occasions: (1) the latter half of January and (2) early February. What happened then?

Loonie Overlay: 4-hour Forex Chart
Loonie Overlay: 4-hour Forex Chart

Let’s tackle the January period first. The major catalyst at this time was arguably the Bank of Canada’s (BOC) decision to maintain the overnight rate at 0.50%.

If y’all can still recall, pundits were split 50-50 on whether the BOC would cut rates or not. However, the BOC actually refrained from cutting rates and even sounded a bit upbeat, causing the Loonie to give its forex rivals the boot a full day before the intraweek oil rally (at the time) even started.

As for the Loonie’s forex price action during the February period, that was likely being driven mainly by climbing oil prices, although BOC Deputy Governor Timothy Lane did deliver a speech on February 8 wherein he implied that the BOC is reluctant to cut rates further since BOC officials “knew that lowering the policy rate could worsen vulnerabilities related to household debt.” He then said:

“One thing is clear, though: monetary policy cannot take primary responsibility for maintaining financial stability. Other, prudential, tools are required to build a resilient financial system and, where needed, to address increasing vulnerabilities.”

3. Speculators Are Unwinding Their Loonie Shorts

Pop Quiz! Who makes up the vast majority of all trading volume in the forex market and plays mainly for the Benjamins? Well, the answer’s already in the title, but if you didn’t know, then head on over to our School’s lesson on Market Players.

Anyhow, if you’ve been following Forex Ninja’s weekly write-up for the COT report from the CFTC, you may have noticed a trend in forex positioning on the Loonie. If you haven’t then check out that nifty table and that swanky chart below.

CFTC COT Forex Positioning on the Loonie (Nifty Table)
CFTC COT Forex Positioning on the Loonie (Nifty Table)
CFTC COT Forex Positioning on the Loonie (Swanky Chart)
CFTC COT Forex Positioning on the Loonie (Swanky Chart)

What that shows is that non-commercial forex traders, which include the ginormous hedge funds being run by 1,000-year-old immortals like George Soros, have been unwinding their short positions on the Loonie after peaking at 108,385 contracts during the week ending on December 29, 2015.

Unfortunately, the COT report only shows us how the large forex traders are positioned – it doesn’t tell us why. But if the big boys (and girls) are unwinding their Loonie shorts, then something must be up, right? At the very least, the Loonie could keep going higher if they keep unwinding their Loonie shorts.

Looking Forward…

Looking forward, the oil rally is still fundamentally weak and driven mostly by speculation since Saudi Arabia has vehemently refused to consider cutting back on oil output, and the same can be said of Russia. Also, oil inventories are currently at record-high levels, which highlights the fact that the oil glut is still here.

Not only that, U.S. oil production continued to ramp up and even managed to hit a 43-year high in 2015. And as I mentioned in my Quick Primer and Some Updates on Crude Oil, the U.S. has just shipped its first “Liquid American Freedom” overseas, so the U.S. is likely here to stay, which tips the scale in favor of more downside risks for oil prices, and hence, the Loonie.

Regarding the BOC’s reluctance to cut rates further, we’ll know soon enough when the next policy decision rolls around on March 9, so make sure to mark your forex calendars for that.

However, the Canadian Imperial Bank of Commerce (what an awesome-sounding name) or CIBC concluded in its Monthly FX Outlook that the “Loonie Has Seen Its Worst,” explaining that:

“The use of deficit spending by the Liberal government to stimulate the economy means that the pressure on the currency from potential monetary easing has been significantly reduced. Indeed, according to a technical report by the Bank of Canada, $10 bn worth of fiscal stimulus has more of an effect on GDP than a reduction of 100bps in the overnight rate.”

In short and in connection to BOC Deputy Governor Timothy Lane’s speech that I mentioned earlier, the next likely move from Canada would be fiscal (taxes, government spending, etc.) rather than monetary (rate cuts and all that), which is gonna be good for the Loonie since it reinforces the idea that the BOC won’t be cutting rates again anytime soon.

As for the unwinding in Loonie shorts by non-commercial forex traders, I don’t really have anything more to add to that except that you may wanna check out Forex Ninja’s blog from time to time in order to see if there are noticeable shifts in positioning.

Although I should also note that the large speculators are not loading up on the Loonie, so we may be seeing a top soon enough if or when non-commercial forex traders finish dumping all of their Loonie shorts.