Forex Investment and Currency Trading

Economics: Heading into the March 3rd FAD, the economic data has confirmed the rather rapid deterioration in the Canadian economy, complete with evaporating price pressures.  There has been a steady stream of disappointing data that confirms the economy quickly unravelled in the fourth quarter as not only the domestic drivers of growth contracted, but so too did the external drivers succumb to the recession in the U.S. The last piece of the puzzle will be Monday’s official Q4 GDP data, which is expected to post a 4.2% Q/Q ann. decline. Moreover, improvement in the credit market has been slow and the Bank of Canada continues its stewardship of that process. So in light of these factors, the case for one final 50bps rate cut by the Bank of Canada to leave the overnight rate at a historical low of 0.50% this Tuesday seems like a logical outcome. Some analysts also think this will mark the end of the easing cycle. The markets will put a lot of emphasis on the statement, which in recent months had become increasingly transparent. The Bank might re-jig its statement about the “extent (to which) further monetary stimulus will be required.”  The bigger question is whether the statement will hint at measures of unorthodox monetary policy. 
 
Foreign Exchange: The BoC has every reason to deliver another 50bps rate cut at tomorrow’s FAD. The bigger question is the statement, and just how dovish the BoC can really be once it has reached what will likely be the floor for rates. The risks to its January forecast certainly do lie to the downside; the latest GDP report showed that the output gap was about 0.5ppts larger than the BoC’s last estimate in Q4, and the weak hand-off from the 1.0% decline in December GDP means that the risks lie well to the downside of the BoC’s Q1 GDP forecast as well. Governor Carney has been adamant about highlighting the fact that the credit channels in Canada is much healthier than in other countries, and that this recession originated (and needs to be resolved) outside of Canada’s borders, so it seems like he is loathe to consider quantitative easing at this point. Furthermore, with the Bank forecasting a strong rebound in the Canadian economy next year, then it probably doesn’t see QE as being necessary. Now the risk is that the BoC’s statement is more rosy than markets are expecting, focussing on the Canadian economy’s strengths in an attempt to quash any expectations of zero rates or QE. The market reaction depends on just how strong of a case the BoC makes for a 2010 recovery, and how credible the markets deem the BoC to be. But given the big move in USD/CAD over the last couple of days, markets could see this as a good opportunity to buy CAD, at least in the short-term. 
 
Fixed Income: Market firmly believes that a 50bp rate cut is the most likely option, and to the degree that the market is slightly hesitant to fully price in that much cutting, this could help bonds rally somewhat.  But the extent of the rally could be limited, however, as analysts expect the Bank to scale back its rhetoric slightly, and some are not convinced that it will go any further than a 0.50% overnight later.