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30.03.2023 02:00 PM
USD/CAD: Downward trend in full swing

USD/CAD is in a strong downward trend and has dropped almost 400 pips in less than a week. Last Friday, the loonie was in the area of the 38th figure, whereas today, it is trading around 1.3540. Such a rapid decline is primarily due to the weakening of the greenback, although the U.S. dollar index has been showing mixed dynamics in recent days.

Ignore list for the Loonie

Last week, Canada published key data on inflation in the country. Almost all components of the report were in the red, reflecting a slowdown in inflation growth. In particular, the overall annualized consumer price index was 5.2%, with a forecast of 5.4%. The index has been consistently declining for the fourth month in a row. After rising to 5.0% in January, the core CPI year-on-year fell to 4.7% in February, with a forecast of 4.8%.

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The inflation report provided only temporary support to USD/CAD buyers. After a sharp upward surge, the pair turned 180 degrees and rushed down, losing almost 400 points in a week. In part, this price behavior is explained by the position of the Bank of Canada, announced at the last meeting. Recall that following the results of the March meeting, the regulator announced that it would keep the base interest rate at the same level – 4.5%. In an accompanying statement, the central bank clarified that it intends to keep the rate at the current level further—provided that the country's economy develops in accordance with forecasts. First of all, it was about the dynamics of inflationary growth.

Given such a disposition, it is not surprising that traders virtually ignored the slowdown of inflation growth in the country. This fact indicates only that the Bank of Canada will continue to maintain a wait-and-see attitude. There is no need to talk about more "dovish" scenarios (i.e., a rate cut) yet: inflation is still far from the target level set by the Canadian regulator.

That's why Canadian macroeconomic indicators (including inflation) have a limited impact on the USD/CAD pair, at least for now. If inflation in Canada slows down consistently over the next few months, the situation could change—the scales will gradually tip in favor of lower interest rates.

Downward trend is in full swing

Recall that a survey of market participants published in early March showed that the median rate forecasts by the end of 2023 correspond to 4%. That is, the market actually assumes a rate cut of 50 basis points before the end of this year. It is noteworthy that Bank of Canada Governor Tiff Macklem, commenting on the results of this survey, said that now "it is too early to talk about any steps in the opposite direction." Such a vague wording suggests that the Canadian regulator theoretically does not rule out the implementation of the "dovish" scenario.

But for now, it's too early to talk about it. Therefore, the loonie ignores "internal" statistics and actually follows the greenback, which has been feeling very insecure lately amid increased risk appetite and rumors that the Fed will maintain the status quo at the next meeting in May.

As for the rate, it's a moot point. The updated "spot" forecast published on the results of the March meeting of the Federal Reserve System assumes one more rate hike by the end of this year. St. Louis Fed President James Bullard recently announced the realization of this scenario. Moreover, according to information of Bloomberg agency, Fed Chairman Jerome Powell also hinted at another increase in the rate at the closed meeting with congressmen. In response to a related question, he pointed to the aforementioned median forecast (which implies +25 points to the current rate).

That said, there is still a 55% chance of maintaining the status quo following the May meeting, according to the CME FedWatch Tool. Federal Reserve Vice Chair for Supervision Michael Barr also lowered hawkish expectations by saying that the decision on the rate will be made from meeting to meeting—a lot will depend on the dynamics of key macro indicators, especially inflation.

Conclusions

Amid such a contradictory fundamental picture for the greenback, the Canadian dollar feels very confident. As of writing, USD/CAD bears are testing the 1.3530 support level, which corresponds to the lower line of the Bollinger Bands indicator on the D1 timeframe. If sellers overcome this target, the next price barrier will be the 1.3480 mark (the upper limit of the Kumo cloud on the same timeframe). The main target of the downward movement is located 100 points lower, at 1.3380—this is the lower boundary of the Kumo cloud.

USD/CAD sellers may be supported by the core PCE index, which will be published tomorrow in the U.S. This is the most important inflation indicator closely monitored by the Fed. According to forecasts, the index should show an upward trend, rising to 4.8%. But if, contrary to expectations, it turns downward again, the greenback will be under pressure, allowing USD/CAD sellers to organize a new offensive in the area of the 34th figure.

Irina Manzenko,
Analytical expert of InstaForex
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