Trading patterns that suggest the Canadian dollar has fallen too far, too fast to a five-year low against its U.S. peer are no match for Stephen Poloz.
After five days of consecutive declines sent the loonie to C$1.1467, the lowest since July 2009, the currency clawed back some losses yesterday and will settle in a short-term range of C$1.12 to C$1.13, according to the Bank of Montreal. Then it will resume its decline to C$1.15 by year-end as Bank of Canada Governor Poloz continues to stoke the economy with monetary stimulus as the Federal Reserve moves to normalize policy.
“We see potential for near-term pullback as short-term valuations get overstretched,” Matthew Perrier, director of foreign exchange at Bank of Montreal, said yesterday by phone from Toronto. “The weaker CAD outlook is underpinned by a generally strong U.S. dollar outlook, with the U.S. having finished tapering and focus shifting to the timing of the first rate hike.”
The loonie, as the Canadian dollar is known for the image of the aquatic bird on the C$1 coin, fell 0.2 percent C$1.1408 at 8:10 a.m. today in Toronto. One loonie buys 87.66 U.S. cents. The currency completed its last five-day streak of losses on Jan. 10.
The currency has fallen 6.9 percent versus the greenback this year and is down more than 20 percent since reaching an almost four-year high of 94.07 cents on July 27, 2011.
Trading patterns suggest the loonie may be oversold, with the cost to insure against declines in the Canadian currency versus its U.S. peer reaching a 2014 high. The three-month so-called 25-delta risk-reversal rate touched at 1.4 percent, the most since Dec. 3, 2013. Risk reversals measure the premium on options contracts to sell Canadian dollars versus buying U.S. contracts that do the opposite.
Signals known as Bollinger bands and stochastics also suggest the selloff may already be overdone.
The U.S. dollar-loonie rate has traded above the upper limit of its 20-day Bollinger band the past five days, suggesting the Canadian currency’s declines are exaggerated. Developed by John Bollinger in the 1980s, the method helps identify the turning point in an asset’s trajectory.
The stochastic indicator’s so-called k-line fell Nov. 3 below the 20 level that signals the loonie is oversold, and was at 15 today.
The currency’s 14-day relative-strength index reached 31, just above the 30 threshold that suggests it is has fallen too precipitously.
“The Canadian dollar moved a long way in a short time,” the Bank of Montreal’s Perrier said. “A period of consolidation in the CAD wouldn’t be unexpected after the sharp move we’ve seen in the last week”
Still, the diverging stances of the two central banks will keep the pressure on the loonie. It plunged Nov. 3 after Poloz said the nation’s economy still requires monetary stimulus to drive the recovery in the face of “headwinds” of a weak global economy. The central bank extended its four-year pause on interest rates Oct. 22, leaving its benchmark at 1 percent.
In contrast, the Fed ended a bond-buying program as scheduled last month and is now debating when to raise interest rates for the first time since 2006 as the world’s largest economy gathers momentum.
Perrier said the Bank of Montreal expects the first Fed rate increase to occur in in the second quarter of 2015, while the Bank of Canada stands pat until 2016.
Also weighing on the loonie are falling prices for crude oil, the nation’s largest export, that touched $75.84 on Nov. 4, the lowest since October 2011.
“Poloz’s statements of late are there to underline that the Bank of Canada’s bias is to remain on hold until well after the Federal Reserve begins hiking,” Bipan Rai, director of foreign-exchange strategy at CIBC World Markets Inc., said Nov. 4 by phone from Toronto. The comments are “tying into this perfect storm of bearish news for the loonie.”