USD/CAD Forecast: Headed higher as China trade fears ebb

• China US trade dispute has dominated currencies in the second half of the year.

• Bank of Canada's weak advantage for loonie fading as Federal Reserve halts rate reductions.

• Retail sales for September on Friday will report on Canadian consumer strength.

USD/CAD

The Canadian Dollar has had a middling year against its chief trading partner and currency colleague the United States.  The pair's volatility has had more to do with China trade related concerns than the particulars of the Fed’s three rate cuts, the steady-state policy of the Bank of Canada or the characteristics of the Canadian economy.

Since mid-year theUSD/CAD has been without trend with a range of just under four figures from 1.3016 on July 19^th to 1.3384 on September 3^rd.  The bulk of the trading has taken place in the more restricted 1.3050 to 1.3350 area.  

The sharp fall in the USD/Cad in the first two weeks of 2019  was a correction of the liquidity short run-up in the US Dollar in December. Once the adjustment was completed by January 10^th with the pair closing at 1.3268 that day, we can see the trend-free year that was to follow. As of this writing the USD/CAD was trading at 1.3233 ((9:35 EST, 11/15/19)

The US and Canadian Dollars have been beholden to the US China trade dispute for direction this year more than to the differential between the two central bank base rates. 

After the first of the Fed’s three rate cuts, 0.25% on July 31^st the US Dollar rose against its northern counterpart and then retraced two-thirds of its gain. After the second 25 basis point cut on September 18^th the greenback again rose and then in October fell from 1.3350 to 1.3050 almost the mirror of the post-July 31^st  run.  After the October 30^th final 0.25%  cut the US Dollar gained two figures against the Canadian.

In normal circumstances a Fed reduction policy, even if transitory, while the Bank of Canada was holding firm would have weakened the US currency. But these are not normal times. 

The basis of the Fed insurance policy, as Chairman Powell noted many times, was the threat of the China trade war to the US expansion.  As a result markets have paid more attention and made trading decision based on developments in the trade negotiations rather than on the Fed’s rate response.

The current state of guarded optimism on the US China trade deal has given the US currency a modest gain but given the back and forth nature of the negotiations and the mercurial tactics of both sides markets are cautious about the final result.

Canadian Economy

Canada’s economy, like the US has slowed this year.  Monthly GDP has drifted down from 0.5% in March to 0.3% in April, 0.2% in May and June to flat in July and an up-tick to 0.1% in August.

Retail sales have been volatile moving from 1.3% in February to -0.2% in April, recovering to 0.6% in June and then -0.1% in July and August.  In September economists expect a slight improvement to flat but the trend has been lower.

The labor market has continued to produce jobs.  Statistics Canada reported a loss of 1,800 positions in October following gains of 53,700 in September and 81,000 in August.  The unemployment rate was stable at 5.5% as predicted but annual hourly wages rose 4.36%, better than the 4.25% forecast.

The weak employment report does not alter the strong, if volatile performance of the Canadian labor market this year. In past six months there have been three positive months averaging 54,200 and three negative at -9,400.  Going back 12 months there are eight positive and four negative with the positive average 61,200 far outstripping the negative at -8,900.

Were job creation to slow it could pressure the Bank of Canada to reconsider its stable rate policy. Unlike its American neighbor the BOC has not cut rates this year in the face of declining global growth and the US China trade war.  The Canadian base rate has been at 1.75% for a year and the last move by the BOC was a 0.25% increase in September 2018. 

If the China trade deal is accomplished that will removed the threat that has so worried the Fed governors.  It will take time for the business community in the US and Canada to assess the agreement and rebuild confidence that it is safe to restart capital spending.  When that happens both economies will see a growth and job creation spurt. 

As both a resource based economy and the United States’ largest trading partner the Canadian economy and the Canadian dollar will benefit from a China trade deal. Butthe US dollar will rise versus the loonie as the greenback has been the primary recipient of good and bad news on the trade front. 

The Canadian dollar’s position against secondary pairs, the Japanese yen, the euro and the sterling will improve appreciably more than its US dollar level.

USD/CAD Technical Analysis

The restricted range of the past six months has left the primary support for the USD/CAD at 1.3050 with a band beneath extending to 1.3016 this year’s low.  

Above there is minor resistance at 1.3250-1.3260 the recent highs and then a more substantial belt of resistance from 1.3330 to 1.3350, the top in second half of the year.

The 200 day moving average lurking at 1.3277 just above the recent highs will provide some additional resistance as will the relative strength index which shows a mildly overbought position

Assuming the US China trade deal unleashes the US dollar neither the 1.3250 or 1.3350 resistance will hold.

Beyond those near limits the next stop is the congestion between 1.3450 and 1.3500 which occupied trading for about six weeks from the last week of April to the first week in June.  That band is not likely to be crucial nor is the 1.3565 absolute top of May 31^st.

The December 2018 spike need not concern present analysis as it was a product of the traditional impaired liquidity in the final two week of the year when banks, hedge funds and other large volume players have closed their books for the year.  

The next relevant levels are 1.3600 and then 1.3800.   They are widely spaced because the USD/CAD has not traded above 1.3600 for almost four years with the exceptions of the last December spike and the first two weeks of May 2017, neither of which established any lasting trading levels.

Technical levels in the USD/CAD are subject to the assumption change that a US China trade deal will bring. In this situation they are guideposts rather than market governing limits.

USD/CAD sentiment poll

The FXStreet Forecast Poll suggests that the one week bearish sentiment and the largely balanced one month and one quarter views are without overriding conviction with the targets all within Friday's 1.3216 to 1.3254 range.  Markets are contained in range and expectaton awaiting the dispossition of the US China trade negotiations which have yet to deliver a deal for signing by President's Xi and Trump.  An agreement would reverse almost two years of argument and dispute that has drained growthh and business investment from both economies and  would likely promote a stronger US dollar. 

The Overview chart shows that the limited range of the last four months will exert little force if the US dollar move higher following a trade deal. In that situation it is the levels before the US China trade dispute beganin January 2018 that will become relevant.

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