The Loonie has been one of the top performing currencies year-to-date. Due to contagion fears in the euro zone, debt ceiling debates in the United States., and rising oil prices, the Loonie has managed to edge higher versus other major currencies. With those problems behind us now, we must ask ourselves, “Is the Loonie still a good bet?”
Arguments for a fall
1. U.S. economic woes may negatively affect Canada
In the past several days, speculations that the U.S. may plunge into a double-dip recession have been rising. You might say that Canada is not the U.S. and Canada has relatively better fundamentals, but the fact remains that roughly 70% of the country’s exports go to the U.S. In addition, it is estimated that around a fifth of all business funding comes from the U.S.
The economies of both countries are heavily linked, which means a recession in the U.S. could deal a painful blow to Canada’s economy. While a U.S. recession is not assured, the fear of one has left the Loonie vulnerable to a sell-off in the medium term.
2. Interest rate expectations have fallen
The most recent Canadian consumer price index showed that the country’s inflation rate has ticked down to 2.7% in July from 3.1% in June. This gave the Bank of Canada (BOC) much needed space to keep rates at current levels in an environment where the economic outlook is uncertain.
While this doesn’t completely rule out the possibility of a rate hike, it has significantly decreased the likelihood of a sustained series of rate hikes in the next couple of months.
3. Oil prices may soon fall
The conclusion in the civil unrest in Libya could mark the beginning of a slump in oil prices. As the rebels head to Tripoli, Libyan oil production and supply could come in much faster than anticipated. In fact, on Monday, Brent Crude oil experienced a $3 decline, weakening to $106 from $103.
If you’ve been reading the School of Pipsology, you’d know that the Loonie’s value is positively correlated to oil prices. A drop in oil prices usually means a decline in the Loonie, too.
Arguments for a rally
1. Canada is undoubtedly performing better than other G7 nations
From a fundamental standpoint, you can’t really do much better than Canada. Among the elite G7, Canada is the ONLY country that has fully recovered all the jobs and output lost in the global recession.
Truth be told, it had undone all its losses as early as Q3 2010. And as of Q1 2011, its real output, or output adjusted for inflation, was already up almost 2% from its previous high back in 2008.
2. Their government has a positive outlook
Canada is also well set to weather any global economic challenges if Minister of Finance, Jim Laferty, can be believed. “European debt problems? A U.S. economic slowdown? They don’t scare me!” is what Laferty practically said in a statement released late last week.
The finance head honcho is confident that Canada is better positioned than most industrialized countries, and that its low-tax plans will help keep jobs and growth healthy in spite of the volatile economic environment.
What do the technicals say?
You know as well as I do that fundamentals are only half the story. Technical analysis plays an equally important role in forex trading. On the charts, we see that even the markets aren’t certain as to where they’ll take the Loonie.
Though a bullish pennant has formed on the 4-hour chart of USD/CAD, we know all too well that pennants can break downwards just as easily as they can break upwards. Should USD/CAD rise and breakout, parity will probably be its next destination.
On the other hand, in the event of a downside break, the pair will probably find support in the .9500 area.