USD/CAD – BoC Loonie Question: Cut or No Rate Cut?

The market calls for a possible Bank of Canada (BoC) rate cut this Wednesday seems to be getting a tad louder. A percentage of the street are raising the possibility that Governor Poloz will cut the BoC’s policy rate by -25bp amid signs that the Canadian economy has not found any notable traction following lower crude prices and an impromptu rate cut last January from the bank for “insurance purposes.”

The CAD ($1.2760) has had a torrid time of late, and is even finding it difficult to find some risk on traction already this week, and this despite the markets positive response to Greece’s ‘last chance’ proposal.

Currently, fixed-income traders are pricing in a 100% chance of a -25 basis points cut by October (51.3), and they’re now starting to price in another cut in December (47.5), albeit a small chance. But the calls for moving further up the curve could be justified.

Will the BoC be proactive?

So, what about Wednesday’s rate decision? Despite the Canadian economy falling into possible recession territory, it’s a close call on whether the BoC will actually cut. Technically, the fixed income market is pricing in a +30% chance of a rate cut. The Banks credibility is very much at stake, easing now would be a hasty U-turn by the Governor, and call into question the institutions forecasting ability.

The combination of lower oil prices and a buoyant USD has hindered the loonie from making any sizable gains of late. If a cut is not presented, then Governor Stephen Poloz is expected to follow the dovish lead of central banks of other commodity-based economies like the RBA and Reserve Bank of New Zealand. If Canadian policy makers do happen to hold off this week, the markets will be expecting the Bank to at least deliver some strong signals that a cut is imminent.

Ideally, Governor Poloz would be relieved to see the Fed hike first. It would certainly make his job easier. However, the Fed’s first-rate hike timing is much more murkier than it has been for some time, mostly in part because of the twin global variables – Greece and China’s questionable growth.

On Wednesday, either a cut or no cut, peppered with dovish comments should have the CAD underperforming against most of its major trading partners. With the USD well supported across the board, expect the market to remain better buyers of USD/CAD on pullbacks. Significant market resistance remains at CAD$1.2800 and $1.2850, and through here, it should open up to a new “handle” relatively quickly.

The loonie bears medium term target remains close to CAD$1.3000. However, the Bank of Canada (BoC) rhetoric may get lost in Wednesday’s noise – the Greek parliament is expected to pass a number of legislation by day’s end before they can even start talks on further financing with its creditors.

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