As foreign-exchange traders' latest slobbering lust for U.S. dollars leaves a trail of bloodied currencies in its wake, it's hard to see how this sort of virulent market can be good for anyone, least of all the sinking Canadian dollar. But beneath the turbulent surface, we may actually have the seeds of a healthier Canadian currency – indeed, it may be poised to be one of the healthiest major currencies in the world.
Granted, it's got a funny way of showing it. On Wednesday, the Canadian dollar fell to its lowest level in six years against its U.S. counterpart, closing at 78.36 cents (U.S.). This isn't about Canada's weakness, but rather U.S. strength.
Traders have been piling into greenbacks as the U.S. economy continues to pick up momentum and, consequently, the U.S. Federal Reserve moves palpably closer to raising interest rates for the first time in the post-financial crisis era. (Currency traders love rising rates; they imply higher returns on holdings in that currency.) That turned into a veritable stampede since last Friday, when a gangbuster U.S. employment report – nearly 300,000 jobs added in February, the unemployment rate falling to 5.5 per cent, its lowest since May, 2008 – seemed to seal the deal in traders' minds that the Fed would begin hiking rates sooner rather than later.
With central banks in many other advanced economies, including Canada, recently cutting interest rates as they try to nurse their ailing economies, the bet on a soon-to-be-hiking Fed and the U.S. dollar has become a no-brainer. It has led to a rout of the already badly beaten euro, which has fallen 4.5 per cent against the U.S. dollar since Friday's U.S. jobs report, and is down against the greenback in nine of the past 10 trading sessions.
But while the U.S. dollar index (known among traders as the DXY), which measures the greenback against a trade-weighted basket of other major world currencies, is up 5.5 per cent over the past two weeks, the U.S. dollar is up a comparatively modest 1.9 per cent against the Canadian dollar over the same period. The loonie has risen against every other major currency except the Japanese yen over that time.
It may be a sign that, after an eight-month slump that has sliced nearly 17 per cent off the Canadian dollar's value relative to the greenback, the sell sign on the loonie may be coming down.
And why not? The fundamentals driving the rush to the U.S. dollar are unmistakably positive for Canada.
Canada may be a recent rate-cutter, but the gathering momentum of the U.S. economy strengthens the case that it won't be in that boat for long – which sets it apart from other major currencies. Canada is lucky to be the neighbour and biggest trading partner of the one major economy that's humming right now. Faster-than-expected U.S. growth implies faster growth in demand for Canadian exports – expected to be the key driver of Canada's economy in the coming months, lifting it out of the current depths of the deep oil shock that was the main source of the currency's pummelling. The same economic conditions that could trigger earlier U.S. rate increases, then, also imply that Canada's economy could shed its need for rate relief earlier than the markets had previously anticipated.
Yes, further rate cuts are still possible in Canada; indeed, the market is still betting that another cut is more likely than not by mid-year. But the Bank of Canada last week signalled about as strongly as it's ever going to that another cut isn't in its current plans. Things would have to deteriorate pretty meaningfully for the Canadian economy before the central bank would be talking about cuts again – and given the building U.S. momentum, that doesn't look like the most likely scenario.
That doesn't mean the Canadian dollar won't still track lower for a while yet; currency markets are notorious for overshooting once they get a one-track mind about something. Indeed, Canada's expected unimpressive data flow over the next month or two, as the brunt of the oil shock works its way through the Canadian economy, could give bearish traders plenty of excuses to hit that sell button a few more times. That could start with the February labour force survey this Friday, which is widely expected to give back some of January's surprisingly strong employment gains.
But when you add up the economic fundamentals and interest-rate prospects that have been behind the latest currency upheaval, the case against the Canadian dollar – relative to every currency other than the U.S., at least – is fast fading. As the oil shock gives way to Canada's non-energy export resurgence, and Canada rides the U.S.'s wide coattails, the loonie looks likely to find its feet – if maybe not quite its wings.
David Parkinson