Article / 12 January 2018 at 16:10 GMT

Stable genius downgrades Nafta risks for loonie

FX Trade Strategist /

  • Next week's focus is on regional economic reports; US data is second-tier
  • Bank of Canada rate hike should limit USDCAD gains
  • Rise in US core CPI fails to provide sustainable US dollar gains

Bank of Canada governor S. Poloz
  Bank of Canada governor Stephen Poloz is widely expected to raise 
rates next week. Photo: screengrab from BoC webcast

By Michael O'Neill

USDCAD traders are nervous. The Bank of Canada's monetary policy report (MPR) statement and press conference is on January 17. Markets believe there is a 75-80% chance that the BoC will raise the overnight rate to 1.25% from 1.0%. That’s because BoC governor Stephen Poloz has repeatedly said that “higher rates will be required over time” and moves will be guided by “incoming data.”

The incoming data has been stellar. The unemployment rate dropped 1.2% in 2017, while the economy created 423,000 new jobs, most of them full-time. Inflation rose 2.1% year-on-year, and new home construction is at its second highest pace since 2008. Oil prices have risen over 30% since October.

The stars are aligned, fortune is smiling. If you take BoC comments and statements at face value, a rate hike next week is a given. Yet, the market is only pricing in about a 75-80% chance of a rate increase.

Caution is warranted.  Poloz has a history of alluding to a course of action and then, when the time comes, taking a different tack. Before the September BoC meeting, most economists expected that Canadian rates would be unchanged. They were wrong. Rates increased to 1.0%, rationalised by stronger-than-expected economic data. The policy statement was hawkish, saying that future policy decisions would be determined with a focus on labour market conditions.

By December 1, Canada had racked up three more stellar employment reports for eleven consecutive gains in 2017. However, the BoC appeared to have lost its labour market focus. Once again, the overnight rate was left unchanged. The data-dependent, labour-focused, policymaker was nowhere to be found.

On January 10, a Reuters article, citing a couple of “unnamed sources”, injected a large dose of Nafta risk into next week’s BoC policy rate equation. The sources said that Canada believes the US will pull the plug on Nafta by the end of the month. The White House denied the story, saying that the president had not changed his mind on Nafta. On Thursday, President Donald Trump, the self-described "stable genius", appeared to give the negotiations a bit of a lifeline when he said he would be “leaving it a little bit flexible” until after the Mexican elections on July 1.

If accurate, the short-term erosion of Nafta concerns should give the BoC room to raise rates again, ensuring that USDCAD stays in a 1.2350-1.2750 range for the next month or so.

The week ahead

Major event: Wednesday’s Bank of Canada monetary policy report, policy meeting, statement, and press conference.

US markets are closed on Monday for Martin Luther King Day.

Major data:

Tuesday: UK inflation data is expected to tick down to 3.0%.

Wednesday: Eurozone December inflation data is expected to be 1.4% and Core CPI up 1.1%, y/y.

Thursday: Australia consumer confidence, new home sales and employment reports are released. Employment is expected to rise by 24,900, while the unemployment rate stays unchanged at 5.4%. China GDP, retail sales (forecast 10.1% y/y) and industrial production (forecast 6.0%, y/y) data are on tap.

Friday: UK retail sales and US Michigan consumer confidence are the only notable data events. 

The week that was

The week started quietly. The antipodeans consolidated gains near the top of their recent ranges in Asia and then retreated during Monday's European session. USDJPY was rangebound and opened in New York unchanged from Friday’s close. EURUSD was offered in Asia and traded lower until the end of the New York session, dropping to 1.1952 from 1.2045. In the UK, prime minister Theresa May announced a cabinet shuffle which had no impact on sterling.

On Tuesday, AUDUSD gains on housing data were short-lived, but the big story was the news that the Bank of Japan reduced purchases of long and super long government bonds. Tapering, maybe? USDJPY dropped to 112.48 from 113.18.  Weak UK retail sales drove GBPUSD to 1.3506 by mid-morning in New York from 1.3570 at the European open. Prices rebounded to 1.3540 by the end of the day. EURUSD cracked support in the 1.1955-60 area because of bearish technicals and better-than-expected German trade and Eurozone unemployment data but found a bottom at 1.1915. Oil prices climbed in New York, in part because API was rumoured to be reported a large crude inventory draw-down at the end of the day. They did. Bond King, Bill Gross declared that markets had entered a new bond bear market. New York closed with the FX majors almost unchanged from the open.
On Wednesday, AUDUSD and NZDUSD got a lift following the release of China PP! and CPI data. USDJPY remained under pressure due to Tuesday’s BoJ action. In Europe, EURUSD soared, rising to 1.2016 from 1.1931 after a Bloomberg headline suggested China would buy fewer US Treasuries. Weaker-than-expected UK trade data drove GBPUSD to 1.3481 from 1.3525 but the losses were reversed on the Bloomberg story.  A mid-afternoon Reuters headline that the US would leave Nafta (see above) crushed the Canadian dollar and the Mexican peso. Oil prices remained firm below the previous day’s peak.

On Thursday, USDJPY bounced in Asia, rising to 111.84 and erasing Wednesday’s losses. The gains were not sustained, and USDJPY closed in New York just above the session’s 111.04 low. AUDUSD rallied after an upside surprise to retail sales, while NZDUSD inched higher on broad US dollar weakness. China denied the Bloomberg treasuries story, and EURUSD consolidated in a 1.1930-68 range until just before the New York open. The ECB meeting accounts were thought to be hawkish as they indicated a change in forward guidance would be coming in January. EURUSD soared. The US dollar finished the day with losses across the board. Initial jobless claims and November PPI reports were weaker than expected.

On Friday, the USD traded quietly in Asia and Europe but came to life in New York trading. The catalyst was US core CPI rising to 0.3% in December, m/m, beating analysts' 0.2% forecast and giving the US dollar a modest and short-lived bid.

NAFTA in building blocks
 Will the stable genius scatter these building blocks? Image: Shutterstock

– Edited by John Acher

Michael O’Neill is an FX consultant at IFXA Ltd.

12 January
fxtime fxtime
You have to admit none of us knew Trump had a sense of humour and his ''Stable Genius'' tweet was the funniest tweet of his ever LOL.
12 January
Michael O'Neill Michael O'Neill
LOL He is a true "Barnyard Bonaparte" with a flare for descriptive travel destinations
12 January
fxtime fxtime
LOL. I am going to call my dog a ''stable genius''....normally as you know I regard the hound insanely stupid but hey clearly he is ''stable genius''. Thankfully the hound isn't a racist though and will greet any type of hound regardless of their colour or where they are from so maybe my hound should be president ? :-)
12 January
ContraTrades ContraTrades
''Stable Genius'' comes to me less arrogant than latent Chinese propaganda rolling out everywhere around here recently.
12 January
fxtime fxtime
Very fair point but China isn't caught so blatantly on camera....even the USA ambassador in Holland showed the USA spectacular crass levels of ''truth'' that we can expect these days :-(
12 January
fxtime fxtime
Actually I am not trying to have a political dialogue @ContraTrades all I am trying to do is highlight the incompetences we endlessly seem to witness with the current administration. The USA is the major economic powerhouse for the West et al but there seems a general European (perhaps World wide who knows) disbelief over his racism; his ego; and general abilities currently. Hopefully he will prove us all wrong. Since his election SP500 has rallied hard. But the full employment and economic growth is something that takes years to build and the credit should go to his predecessor and especially the Fed despite Trumps self proclamations.
A great article Mike.
12 January
Michael O'Neill Michael O'Neill
The world will be saved. Canada's Prime Minister are meeting to "brainstorm". Now, if only there were brains available.....
12 January
fxtime fxtime
12 January
Market Predator Market Predator
Hello Michael. I'd like to ask you if housing prices (debt) is no more problem for BoC. What do you think please?
12 January
Michael O'Neill Michael O'Neill
Hi Market Predator. Nothing has changed (yet) to suggest that the BoC's concern with elevated household debt has changed. New mortgage rules went into effect at the beginning of the month, so too early for any impact. A side effect of the steps to limit housing market gains is that rents in Toronto rise 9.1%..
12 January
Market Predator Market Predator


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