The loonie is being bludgeoned in global markets, falling to levels against the U.S. dollar not seen in more than a decade. It's not oil prices driving the weakness this time and not bond yields either. It's copper or, more accurately, what the declining copper price represents.
The Canadian dollar finished Tuesday's trading session at 74.53 cents (U.S.) down 13.4 per cent for 2015 and 30 per cent from the peak of $1.06 in July, 2011. This is the loonie's lowest value since June, 2004, when the commodity supercycle was just getting started.
In previous months, it was bond yields that drove daily changes in the loonie's value. The potential for a U.S. Federal Reserve interest rate increase, which would push U.S. bond yields higher, and a Bank of Canada rate cut, which would do the reverse for domestic bonds, motivated domestic and global investors out of Canadian assets and into U.S. Treasuries.
But with the Fed and Bank of Canada both on hold for now, market concerns have shifted to global growth and investor risk tolerance.
The three accompanying charts show the relationship between the loonie and the three primary drivers of the currency's daily movements: oil, interest rates and copper.
Despite the popularity of the "petroloonie" moniker, connection between oil prices and the Canadian dollar has been the weakest of the three. The crude price has rallied since Aug. 24, but the loonie hasn't strengthened alongside.
The yield differential between U.S. and Canadian two-year bonds has, the majority of the past three years, had the strongest impact on the domestic currency but that relationship too has faded. Canadian bond yields have climbed relative to U.S. yields, but the loonie continued lower.
The cratering copper price has been the best leading indicator for the Canadian dollar in recent weeks. This isn't because the domestic economy is like Chile – dependent on copper mining for GDP growth. It's because Canada is an open economy (i.e. trade-oriented) sensitive to global growth and copper demand reflects global economic activity. China is by far the largest consumer of copper, and the weaker commodity price indicates fears of a hard economic landing in the Middle Kingdom.
Our three charts also highlight what a nightmare it is to trade currencies. The same, small number of factors apply to all denominations – interest rates, commodity prices (captured by terms of trade data which measure the price of goods trading across borders), equity markets and the economy – but the importance of each of these factors ebbs and flows over time.
For Canada, global growth concerns are driving the loonie lower when previously, central bank policy and bond markets were the biggest factor. When the possibility of a Fed rate hike rears its ugly head again, bond markets will likely re-assert themselves as the primary influence for investors to follow. It's confusing, but at least we can narrow the usual suspects down to three when the loonie moves sharply again.
Follow Scott Barlow on Twitter @SBarlow_ROB.