The Canadian dollar was trading near unchanged against its U.S. counterpart on Monday, as markets awaited the release of the U.S. inflation data for January, which could have implications for the monetary policy outlook of both countries. The loonie was also supported by higher oil prices and a positive tone in global equities.
U.S. Inflation Data Could Influence Fed and BoC Decisions
The U.S. consumer price index (CPI) report for January, due for release on Tuesday, is expected to show a 0.4% increase in the headline inflation rate and a 0.2% increase in the core inflation rate, which excludes food and energy prices. The annual inflation rates are projected to rise to 1.5% and 1.6%, respectively, still below the Federal Reserve’s 2% target.
The U.S. inflation data could have a significant impact on the market expectations for the Fed’s interest rate path, as well as the Bank of Canada’s (BoC) policy stance. The Fed has signaled that it will keep its benchmark rate near zero and continue its bond-buying program until the economy reaches full employment and inflation averages 2% over time. The BoC has also pledged to maintain its key rate at 0.25% and its quantitative easing program until the inflation target is sustainably achieved.
However, some analysts and investors have expressed concerns that the U.S. inflation could accelerate faster than expected, due to the massive fiscal stimulus, the vaccine rollout, and the pent-up consumer demand. This could force the Fed to tighten its policy sooner than anticipated, which could boost the U.S. dollar and weigh on the Canadian dollar. On the other hand, if the U.S. inflation remains subdued, the Fed could maintain its dovish stance, which could support the loonie.
“The U.S. inflation data is the key event for the markets this week,” said David Doyle, North American economist and strategist at Macquarie Capital Markets. “It could have a significant impact on the Fed’s policy outlook, as well as the BoC’s, given the close economic and financial linkages between the two countries.”
Oil Prices and Global Equities Support Loonie
The Canadian dollar was also supported by higher oil prices and a positive tone in global equities on Monday. Oil prices rose to their highest levels in more than a year, as the OPEC+ group maintained its output cuts and the demand outlook improved amid the vaccine rollout and the easing of lockdowns. Oil is one of Canada’s major exports, and its price movements tend to affect the loonie.
Global equities also gained on Monday, as investors shrugged off the worries about the U.S. inflation and focused on the prospects of the economic recovery and the corporate earnings. The S&P 500 and the Nasdaq Composite both hit record highs, while the MSCI World Index reached its highest level since 2018. The Canadian dollar tends to benefit from the risk-on sentiment in the global markets, as it is seen as a commodity-linked currency.
“The Canadian dollar is getting some support from the higher oil prices and the upbeat mood in the global equities,” said Colin Cieszynski, chief market strategist at SIA Wealth Management. “The loonie is still trading within a range, but it could break out if the U.S. inflation data surprises the markets.”
Loonie Trades in a Range of 1.3431 to 1.3475
The loonie CAD=D3 was trading nearly unchanged at 1.3450 to the greenback, or 74.35 U.S. cents, after trading in a range of 1.3431 to 1.3475. The currency has been in a sideways pattern since mid-January, after losing as much as 2.1% in the first few weeks of the year. The loonie has been facing some headwinds from the domestic factors, such as the slower vaccine rollout, the stricter lockdown measures, and the weaker-than-expected economic data.
The loonie could face some volatility this week, as the markets digest the U.S. inflation data, as well as the Canadian inflation data and retail sales data for December, which are due for release on Wednesday and Friday, respectively. The loonie could also react to the speech by the BoC Deputy Governor Rhys Mendes on Wednesday, who could provide some insights into the central bank’s policy outlook.
“The Canadian dollar is holding steady for now, but it could see some movement later this week, depending on the data and the comments from the BoC,” said Doyle. “The loonie could test the upper or lower end of its range, depending on the direction of the U.S. dollar and the oil prices.”