The Canadian dollar has sold off sharply in recent months (down ~6.7% against the US dollar since late September). Since mid-December, though, the CAD appears to be building a base and finding support at a key level (i.e. at ~0.69). That level is just above the lows reached in 2016 and 2020 and is (potentially) the third major low in the currency in the past decade, see fig 1.
The key question therefore is: Are the lows in? Is the CAD about to rally? Or, will it weaken further, and break below its key support level in coming weeks?
From a macro perspective, the answer hinges on the outlook for the US–Canadian interest rate differential. The spread of 5-year US yields over Canadian, for example, widened to its most extreme level on record in December (143bps). Widening has also happened at other parts of the curve (e.g. see fig 1a). How those spreads behave in coming weeks will be watched closely. Of note markets are currently priced for 43bps of cuts from the Fed this year, compared to 65bps for the Bank of Canada.
From a models’ perspective, the setup for the CAD is constructive. Our medium-term technical scoring system, for example, is still on BUY (see fig 1b), while short term models also point to near term upside in the CAD. At the same time, CAD sentiment is deeply bearish and positioning is still near record net SHORT levels (fig 1c). From that technical, sentiment and positioning perspective, therefore, there’s plenty of fuel for a rally.
Fig 1: USD-CAD candlestick futures, shown with 200 day moving averages
Fig 1a: US & Canadian 1 year government bond yields
Fig 1b: CAD medium term ‘technical’ scoring system vs. USD-CAD
