FX Markets Best Banks Awards 2021: Best bank for USD/CAD – BMO Capital Markets

BMO Capital Markets is making the most of strong Canadian fundamentals, including high oil prices, political stability and the loonie’s transition from high-volatility commodity asset to safe haven 

The Canadian dollar had a stellar year in 2021. Not only was it the best-performing Group of 10 currency, but alone among the world’s major currencies it actually made gains against the greenback, however modest those might have been. The loonie also fared well against its fellow oil cousin the Norwegian krone and other commodity currencies such as the Australian and New Zealand dollars.

“There are several reasons for the loonie’s exceptional performance,” explains Greg Anderson, global head of FX strategy at BMO Capital Markets. “The most obvious is the remarkable recovery in oil prices, which benefits Canada as an energy exporter. The oil rally was instrumental in restoring Canada’s current account surplus in 2021. A second obvious reason is the hawkish shift by the Bank of Canada [BoC].”

Both of these will continue to play into the hands of the Canadian currency into much of 2022 as few economic and political headwinds build on the horizon.

BMO Capital Markets expects the loonie to be boosted by rising oil prices in the coming year as well as by the BoC’s comparatively hawkish monetary policy stance. Indeed, in the later part of 2021, the BoC led the Federal Reserve and other G10 peers by terminating its quantitative easing (QE) programme. Given the BoC’s intention to actively hike interest rates in 2022, Anderson sees the possibility of at least four hikes during the course of the year, which could bring rates up to 1.25% or more from the current rate of 0.25%.

To minimise market unease around its intended balance sheet reduction, the central bank is likely to closely mirror the pace at which the Fed reduces its own QE accommodation – hence a possible starting date somewhere during the second or third quarter of 2022.

The basis for the BoC’s stance is that Canada’s fundamentals look good. The economy has recovered well from the pandemic-induced downturn with employment nearly at its pre-pandemic level and is likely to be reinforced further by the reshoring of manufacturing jobs to North America.

BMO expects USD/CAD to move towards the low 1.20s in 2022 and then stay there while EUR/CAD and CAD/JPY will move to below 1.40 and above 95, respectively.

“We expect a continuation of Canadian dollar gains against the US dollar, but even more so on the crosses,” says Anderson. “There aren’t any obvious shifts in key fundamentals that are underway or likely. Nor has the trend of CAD’s strength run on for an excessive amount of time and distance to leave it overvalued.”

On the political front, Canada’s position is also stable. While the September 2021 parliamentary election didn’t result in a change of leadership, it made it more difficult for the opposition to attempt to force another, thus providing a modicum of political stability. This puts Canada’s political fundamentals on a firmer footing than France, Japan, Australia and the US, all of which have elections in 2022.

Canada’s positive economic and political position is slowly changing the perception of the country’s currency in the market. Often traded as a risky asset because of its high correlation with the price of oil, Canada’s current geopolitical stability is making CAD a possible source of refuge in times of volatility.

“The loonie is in transition between being a high-volatility commodity currency and a low-volatility safe haven currency,” explains Anderson. “Canada is already a net creditor nation in terms of its international investment position and the resumption of a current account surplus should undergird that net creditor status. Meanwhile, Canada’s evolution towards being less of an oil economy should dampen the commodity price influence on the loonie.”

Handling the aftershock

This perception, he says, would stabilise the currency in case of another major global shock. Compared with the sharp weakening of USD/CAD when the pandemic struck in 2020, the loonie is unlikely to drop by as much and may well bounce back much faster.   

“The last shock pushed USD/CAD about 15% higher as markets still traded the loonie as a risky asset,” says Anderson, “but the bulk of that move reversed over the next three months. It’s hard to say what the next shock will be or when it will come along, but our gut intuition is that the loonie will only weaken 5–10% as a result of it and that the reversal will happen incredibly quickly.”

Market participants voted BMO Capital Markets as the best bank for USD/CAD at the 2021 FX Markets Best Bank Awards.

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