› USD/CAD bounced off 19-month highs. What’s next?

USD/CAD bounced off 19-month highs. What’s next?

The Loonie has been one of the strongest currencies among majors in first two weeks of 2019. USD/CAD fell sharply, topping at 1.3664, the highest levels since May 2017. Such a sharp drop raised many questions about the sustainability of the recent uptrend, and many analysts started to look at that performance as the trend reversal. However, there are lots of contrasting factors driving the recent market momentum, and I decided to figure out all of them, in both fundamental and technical side. As a result, I’ve got a mixed picture, pointing to a possible consolidation range with a slight bearish bias, and here is why.

I’ve seen a couple of analytical articles noting that the key reason for USD/CAD to bounce off the local market top so fast is related to the Bank of Canada changing the recent dovish rhetoric and predicting more interest rates hikes this year. I can’t agree. There were no major changes in macroeconomic data for the BoC to start hiking all of a sudden. Employment figures were more disappointing last Sunday rather than optimistic. The only positive data came in from the unemployment rate, dropping to 3.7% from 3.9% recently. But the number of jobs added in December stayed comparatively modest with lots of issues raised for the labour market. Trade balance did not surprise on the positive side as well. Ivey PMI was published with a mixed overall impression. The gross domestic product left lots of work to be done on the economic growth side.

The Bank of Canada left the interest unchanged at 1.75%, as it’s been widely anticipated. BoC governor Poloz did not surprise traders with too hawkish speech, pointing to a more data-dependance rather than underlying the urgent need for more tightening in the monetary policy. I remember 2017, when Poloz used preventive measures, hiking two times unexpectedly, just to cool off a potential bubble in the housing sector. That was hawkish! But last Wednesday showed a cautiousness, I’d say.

I suppose the reason for USD/CAD to drop so quickly was related to three key factors. First, is the price of oil. Look at the daily chart for WTI Crude, and you will see what I mean. The black gold price breached the level of $50 per barrel on OPEC and Saudi Arabia output cut announcement and surprisingly weak crude oil inventories in the United States. The Canadian economy depends on oil exports, and the Loonie demand is vulnerable to the fluctuations in oil price even more than to the macroeconomic data. The thing is those currency speculators, as well as US oil importers, always try to hedge themselves with the Loonie backup once WTI Crude jumps.

Second, US Federal Reserve Chairman Jerome Powell was extremely dovish last week during his unplanned speech. The power of political and equity pressure on the regulator worked well, and Powell confirmed that he’s ready to wait if needed. US Treasure yield futures started to price in even interest rates cut in 2019 instead of two rate hikes, as it’s been in December. What’s traditionally happens with the greenback in such an environment? Yes, it drops. Especially after a huge uptrend in 2018 driven by the growing differential in interest rates across the globe.

Finally, US stocks showed a strong willingness to recover, finding at least a local bottom. The strong and sustainable rally pushed major US indices far above the recent low rates. That created an additional demand for risky assets, lifting high-yield currencies, including the Loonie, across the globe. USD/CAD long-term traders started not only to take profits from recent bullish positions but also buying put options, looking at the speed with which the pair retraced from the market top.

Bullish Option Strategies

However, it’s too early to talk about the uptrend reversal, from both fundamental and technical sides of things. There might be further selling pressure in the nearest future, as the greenback does not look like a strong currency currently. Oil bulls might also support the Loonie, as the price of $50 is rather far from an average estimation from long-term investors. Technically, speaking the latest low level at CAD1.3178 represents strong technical support and bears would need an additional spike in trading volume to breach that defensive line. Moreover, the bearish momentum started to look exhausted which is a preliminary signal for the price to change its recent sharp decline. At least, we’re getting ready for a consolidation period slightly above 1.3200/50. A more positive for USD/CAD bulls scenario suggests the pair to pare some losses, surging back to 1.3350/3400.

One of the best medium-term scenarios is based on a sharp upside retracement towards levels mentioned above. That should give an attractive depth for the bears to renew selling pressure, adding more volume in the put-options portfolio. Moreover, such a bullish run would create lots of bearish continuation signals on daily technical indicators, including Bollinger Bands and RSI, which traditionally work well with USD/CAD. I would recommend having a wait-and-see position, staying out of the market for a while. A signal to come back to the active and aggressive trader would come from the price action which will be too sharp as for the choppy consolidation momentum. Any sharp rises or falls of the price would point to the momentum rising again, driving the traders’ activity. The overall technical outlook is rather bearish on the daily timeframe.

USD/CAD bounced off 19-month highs. What’s next?

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