Nayaz G

As we discussed in our previous post, the market perceived the Fed’s recent comments as less hawkish, implying a reduced likelihood of further tightening. This interpretation suggests that the Fed might be unofficially shifting towards a more dovish stance, favoring the maintenance of current rates. This perception has rejuvenated risk assets, including global equity markets and the Canadian dollar. In essence, stable interest rates imply that long-term bond yields will decrease, making riskier assets a more attractive investment opportunity.

The Canadian dollar has been treading water against the US dollar after descending to a 2 ½ year low. Action in the USD/CAD pairing has been muted both overnight and into the morning, with investors on the edge of their seats awaiting the Fed’s rate decision. While there’s widespread agreement among Fed enthusiasts that a pause is on the cards, intrigue lies in the post-announcement statement and press conference. All ears will be tuned in to see if Fed Chair Powell gives the ‘rate hikes are not off the table’ declaration a bit more oomph than usual.

After staging a brief recovery against the USD on Monday, the Canadian dollar is once again losing traction against the US dollar on Tuesday morning. Also of note, the Canadian government’s 10-year bond yields have declined by 3.6 basis points, settling at 3.997%. In line with U.S. government benchmark debt which dipped to 4.8498%.

The Canadian dollar continued its downward trend on Tuesday morning, slipping to just under 1.3740 (USD/CAD). This latest slide was due to Canadian government 10-year bond yields rising by 1.1 basis points to 4.024%.

The Canadian dollar is holding steady to start the week, having climbed about half a penny to close last week. This comes after the Canadian dollar touches a seven-month low against the US dollar earlier in October. The primary driver for the USD/CAD pairing continues to be US Treasury yields, which recently hit their highest level since 2007.

This morning, the critical Canadian inflation number was reported at 3.8 percent, coming in below the projected 4 percent. Given that inflation is among the most delayed of economic indicators and considering the overarching trend of a weakening Canadian economy, it seems unlikely that the Bank of Canada will raise rates in the upcoming week, and it appears that the BoC has now hit its terminal rate.

On Thursday, the Canadian dollar faced significant downward pressure following the release of the US Consumer Price Index (CPI). The report recorded inflation levels that were higher and more persistent than the already adjusted upward expectations of investors. This strengthens the notion that the US Federal Reserve might either persist with its rate hikes or keep them at high levels for a prolonged duration, especially when benchmarked against most other developed economies. In general, higher interest rates in the U.S. amplify the attractiveness of the U.S. dollar to international investors, making it more enticing relative to other assets, including the Canadian dollar.

Growing concerns about interest rates remaining high for extended periods are dampening positive global economic sentiment. This is aiding the US dollar in outperforming most other major currencies, with the exception of the NZD and the Canadian dollar.

A flurry of positive economic developments globally has helped change global market sentiment, leading to a more optimistic outlook and lifting equity markets so far this week. On Monday, data from China showed lending has stabilized and perhaps even rebounded, which is a positive sign as Chinese authorities continue to take steps to turn the world’s second-largest economy around. Additionally, there is growing evidence to suggest that the Fed is beginning to take a more dovish (less aggressive) stance towards future rate hikes south of the border. This theory was further supported by Treasury Secretary Yellen’s comments this past weekend, expressing confidence that inflation can be contained without pushing the US economy into recession. All of this has resulted in broad weakness in the US dollar and a rally for risk-based assets such as the Canadian dollar.

After a post-pandemic economic boom and a persistently strong economy, it appears that the party is over, at least in Canada. A historic round of interest rate hikes is finally taking its toll, cooling demand while allowing supply to catch up. On Friday, Statistics Canada announced that Canada’s economy unexpectedly contracted in the second quarter at an annualized rate of 0.2%.