FX Monthly Outlook – September 2019
Economic Outlook and Summary
After strong economic indicators demonstrated an increased probability of a recession in the U.S, investors will be looking towards the Federal Reserve as they expect a rate-cut of 25 basis points. Despite a strong August for employment and business activity, an inversion of the 10- and 2-year yield curve and the possibility of further rate-cuts have caused the USDCAD to slip. US-China trade negotiations are expected to take place in October, with meetings being held throughout September, boosting investor sentiments prior to the looming tariffs set to take effect on October 1st.
The Canadian dollar experienced a sharp increase in early September, due to positive labour statistics and the Bank of Canada’s decision to hold interest rates at their current levels. Strength in the Canadian economy was reiterated by the Bank of Canada as they indicated a neutral outlook for upcoming interest rate announcements. This outlook may be challenged by the decelerating global economy and the negative effect of increased oil supplies, forcing the Bank of Canada to adopt a more dovish stance. However, with Iraq and Russia committing to OPEC+’s plan to reduce oil supplies, the near-term forecast remains positive for the loonie. Hence, the CAD is expected to appreciate in the near-term as Canada’s economy remains balanced—maintaining the consensus target of 1.30 by end-of-year.
The US Dollar and Federal Reserve
Several economic indicators raised concerns in the recent month, as the slowing global economy and market confidence amongst investors deteriorated. The inversion of the bond yields exhibited an increased expectation of a nearing recession, as investor sentiments demonstrated a bearish outlook beyond the 2-year term. The USDCAD is expected to slip again as the market anticipates another 25 basis point rate-cut during the Federal Reserve’s meetings being held September 17th/18th—bringing interest rates to the 1.75-2.00% range.
Although current conditions support the Federal Reserve’s expansionary monetary policy, recent payroll statistics and the potential for improving US-China trade talks have provided support for the USD. Nonfarm payroll increased by 195,000 jobs in August, surpassing a consensus of 140,000 and up from 142,000 in July. The ISM Non-Manufacturing PMI rose to 56.4, exceeding the market consensus of 54, indicating that the economy is expanding beyond expectations. Additionally, Beijing announced that the US and China agreed to another round of negotiations in October, with representatives meeting throughout September in preparation of the negotiations. Despite these developments, a 15% tariff was imposed on $112 billion worth of Chinese goods, and the Trump administration still plans to increase existing tariffs on $250 billion worth of Chinese goods to 30%—beginning October 1st.
The Canadian Dollar and Bank of Canada
The USDCAD currently sits at 1.3280 as it slips from highs of 1.3345 in late-August. The increase in the CAD can be attributed to the release of positive labour statistics and the Bank of Canada’s neutral interest rate decision. Canada’s economy added 66,100 more jobs than expected in August—totaling 81,100. Additionally, labour income grew by 7 percent and economic growth was recorded at a healthy 3.7 percent—significantly above the forecasted 2.3 percent. Although the jobs data provided notable support for the CAD, the main catalyst was the Bank of Canada’s decision to hold interest rates. The impact of the decision would be supported by the lack of near-term expansionary policy discussions. The Bank of Canada’s neutral outlook on interest rates is expected to sustain the strength experienced by the loonie. However, this may be challenged by the slowing global economy and increased oil supplies resulting in lower oil prices. The Bank of Canada may need to consider a dovish stance to avoid the growth deceleration experienced in the Eurozone and Japan. Recent positive indicators suggest a strong potential for upward movement in the CAD. Previous forecasts are maintained as the year-end target for the USDCAD remains unchanged at 1.30.
Oil prices have recently increased to close at 58.31 at the time of writing, despite dropping as low as 52.27 on August 7th. The increase comes as Iraq agrees to curb its record oil production of 4.88 million bpd to comply with OPEC, and the US-China trade war demonstrates positive sentiments with both countries agreeing to return to negotiations in early October. Despite positive sentiments, oil prices are expected to experience near-term headwinds, as a result of Canada’s pipeline approval and the still higher than expected oil production of Iraq, which has nearly doubled in the past five years. However, the approaching Aramco IPO has incentivized members of OPEC to further curb supply in support of oil prices. The recent Saudi Arabia-Russia alliance will further the supply cut, supporting oil prices. Successful management of the oil market, by OPEC, and US-China negotiations will be crucial to determining the price movement of oil in the near-term.
FX Forecast Table – September 2019