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Terms and conditions for Canada

by  Daniel Mitchell, CFA Sep 26, 2019

Watch time: 3 minutes 20 seconds

View transcript

How is the on-going trade war affecting currency markets?

Well, there’s been a lot written on how trade wars have affected global economies, but not a lot, until recently, written on how trade wars have affected the currency markets. Now, they have had an impact and that impact has been positive for the U.S. dollar, mostly because that trade uncertainty is affecting other currencies more than it is the U.S. dollar. You could think about the weakness of the Mexican Peso and the weakness of the Canadian dollar as the North American Trade Agreement was being negotiated. Or how the Euro had weakened as auto tariffs were threatened. Or, more recently, how the Chinese Renminbi has weakened with each successive increase in the tariff rate.

You can imagine how that is quite frustrating for the White House because, you know, the trade advantage that they’re trying to claw back is basically getting undone by the currency market moves, as these other countries, you know, weaken their currencies. Now there are a couple of tools that the U.S. Administration has at their disposal in order to fight back against that currency reaction, but none of those tools really have the power to have a lasting impact on currency markets.

So, what that means is that the dollar can remain strong at least for a while yet, and really that just delays that topping process in the U.S. dollar. Longer term, though, we still do see some negative headwinds coming down the pipeline, and over a multi-year horizon that should mean a biased or a weakened U.S. dollar.

What is your outlook for the Canadian dollar?

Well, we’ve talked in past videos about how there are challenges to the Canadian economy. Namely, the fact that our businesses are having a tough time competing with higher taxes, higher wages and stricter regulations. That dynamic hasn’t changed. We still see that Canada posts large trade deficits, we still see companies in Canada allocating few R&D dollars relative to their global peers, and we still see that those Canadian companies are finding better places to invest in their business outside of Canadian borders.

So that hasn’t changed and that’s part of the reason why our bias is for further Canadian dollar weakness. What has changed, though, is over the short term, at least, some of the Canadian economic data has improved, but by a stronger labor market. And that has the Bank of Canada staying on the sidelines at a time when all other central banks or almost all other central banks are cutting rates. And so, on a relative basis, Canadian yields are a little bit higher than the rest of the world, and that’s part of the reason why the Looney has outperformed.

We don’t think that dynamic can last; we think the Bank of Canada will eventually have to cut rates in response to some of these global headwinds, and that will see the Canadian dollar give back some of its gains. So, at the moment, it costs $1.32 in order to buy one single U.S. dollar. We’ve assumed a range of 1.30 to 1.40 for most of 2019, and we think that that range can probably persist into early 2020. Over a 12-month horizon and we’re expecting something like 1.37—and that equates to about a 3.5% decline in the Looney.


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