USD/CAD: Loonie Strengthens as Greenback Retreats From 16-Month High

The Canadian dollar strengthened against its U.S. counterpart on Monday after the greenback retreated from a nearly 1-1/2 years high versus its major peers.

“Softer crude prices and some marginal narrowing in CAD-positive yield spreads have weighed on CAD sentiment (last week) but we note that even with commodity prices generally drifting a little lower, the broader fundamental underpinning for the CAD remain very positive; our fundamentals-based fair value model for the CAD suggests equilibrium below 1.12 currently,” noted Shaun Osborne, Chief FX Strategist at Scotiabank.

“An alternative model which incorporates a broader assessment of the USD’s performance indicates fair value nearer 1.23. As such, we think the CAD slide looks a little stretched and while it is hard to argue with price moves, especially in relatively thin conditions where the broader USD tone has a huge influence on price action, we still rather think the CAD’s slide this week is unlikely to extend too far.”

Today, the USD/CAD pair fell to 1.2516 down from Friday’s close of 1.2542. After gaining about 2.3% last month, the Canadian dollar strengthened over 1.1% so far this month.

The dollar index, which measures the value of the dollar against six foreign currencies, was trading 0.11% lower at 95.026. Last week, the greenback rose to 16-month highs against most other major currencies because of the hottest U.S. inflation reading in a generation that pushed investors to bet that interest rates are likely to rise sooner than previously thought.

In October, U.S. consumer prices rose faster than expected due to surges in gasoline and food prices, showing that inflation could remain high well into next year amid snarled global supply chains. Labor Department data on Wednesday showed that the consumer price index rose 0.9% last month after rising 0.4% in September. In the 12 months through October, the CPI increased 6.2% up from September’s 5.4% increase.

It is highly likely that the world’s dominant reserve currency, the USD, will rise by end of the year, largely due to the expectation of at least one rate hike next year. With the dollar strengthening and a possibility that the Federal Reserve will raise interest rates earlier than expected, the USD/CAD pair may experience a rise.

“All in all, we don’t see a clear catalyst to drive a material correction in the dollar this week and expect the greenback to remain broadly supported thanks to the ongoing narrative of a more hawkish Fed. Today’s US Empire manufacturing index is expected to rise, although other factors (geopolitical, global risk appetite) should be the primary drivers in FX,” noted Francesco Pesole, FX Strategist at ING.

Canada is the world’s fourth-largest exporter of oil, which edged lower on concerns of higher supply and weaker demand. At the time of writing, U.S. West Texas Intermediate (WTI) crude was trading 1.44% lower at $79.62 a barrel. Lower oil prices lead to lower U.S. dollar earnings for Canadian exporters, resulting in a decreased value of the loonie.