CANADIAN DOLLAR OUTLOOK:
- USD/CAD pushes higher, breaks above the February peak and sets a new 2022 high around the 1.2900 level
- The Canadian dollar fails to capitalize on the vertical move in oil prices as cautious sentiment reduces appetite for riskier currencies
- WTI and Brent soar more than 6% as the U.S. and the U.K. ban Russian crude imports
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Historically, the Canadian dollar has had a positive correlation and high beta to oil. This relationship is due to the fact that Canada is a major exporter of crude petroleum and related products. However, the connection has recently broken down, with the loonie depreciating roughly 1.4% against the U.S. dollar in the last two weeks, despite the huge rally in the energy space (USD/CAD has moved from 1.2700 to 1.2900 during this period).
Recent events have one explanation: risk-off sentiment due to fears of stagflation. The crisis in Eastern Europe has created a significant supply-demand imbalance in the commodity market after the West began imposing severe economic sanctions on Russia for invading Ukraine. Numerous punitive measures have been levied on Moscow since the attack started, but today the United States and the United Kingdom have gone a step further by announcing a ban on Russian crude imports, a move that sent WTI and Brent up more than 6% in the morning trade.
With oil at its highest level since 2008, Canada’s terms of trade stands to improve substantially over the medium term, but investors/traders are not interested in this right now. At this moment, they appear more concerned with the rapidly deteriorating global economic outlook amid the energy supply shock. For instance, economic growth in the United States could weaken dramatically if prices for fossil fuels remain extremely elevated. This, of course, is a bad problem to have as the U.S. is Canada’s main trading partner (more than 75% of Canada’s exports go to the U.S.).
In short, as long as the military conflict in Ukraine continues to escalate and stagflation anxiety haunts the market, demand for safer currencies such as the U.S. dollar will remain robust, a situation that will keep USD/CAD supported. However, if tensions ease and a ceasefire is agreed upon, the pair could take a sharp turn to the downside as traders become less cautious and begin to focus on other factors, such as the hawkish monetary policy stance of the central bank (BoC) and its pledge to continue raising rates in 2022.
USD/CAD TECHNICAL OUTLOOK
At the time of writing, USD/CAD has breached the February peak (1.2877) and set a new high for 2022 near the 1.2900 handle. If the bullish breakout holds on a daily close basis, price could be on its way to retest the 2021 swing high near 1.2964 and then possibly the 1.3100 area.
On the flip side, if sellers return and manage to push USD/CAD lower, support is seen near the 1.2800 psychological level. If we see a drop below this floor, the exchange rate could head towards 1.2602, the 38.2% Fibonacci retracement of the June 2021/December 2021 rally.
USD/CAD TECHNICAL CHART
USD/CAD chart prepared using TradingView
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—Written by Diego Colman, Contributor
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