Canadian Dollar: CAD Rate Cut Rally, but Trump Tariff Threat Looms

Canadian Dollar Talking Points:

• The Bank of Canada sounded like they were finished with 50 bp rate cuts at their prior meeting, but this morning brought yet another 50 bp rate cut for the BoC.
• The initial move after the announcement was CAD strength and a dip in USD/CAD, but the pair remains very near recently-established four-year-highs, and continued tariff talk from President-elect Trump has kept the pair pushing higher.
• While Trump’s comments considering Canada as a 51^st U.S. state and Prime Minister Trudeau as a ‘governor’ are an obvious joke, the continued tone highlights the negotiating position of each economy, and this shows vulnerability for Canada as 20% of their GDP is tied to trade with the U.S.
• The Bank of Canada acknowledged this risk of tariffs at today’s rate cut, as BoC Governor Tiff Macklem said “No one knows how this will play out in the months ahead – whether tariffs will be imposed, whether exemptions get agreed, or whether retaliatory measures will be put in place.” He went on to call this threat of tariffs a ‘major new uncertainty,’ and investors have responded by selling the CAD and buying the USD.

The USD/CAD rally has continued with buyers showing support above the 1.4000 level, which has traded only briefly around the December open. This morning’s rate cut from the Bank of Canada brought a counter-trend move as USD/CAD quickly snapped back and CAD strengthened, but this likely has to do with longer-term positioning more so than any specific statements from bears. And there’s a remaining cloud over the pair with the looming threat of tariffs from the United States, which is likely playing a role in the US Dollar strength and the Canadian Dollar weakness that’s been so visible now for the past two months.

From the USD/CAD daily chart, there’s no sign yet that bulls are finished. Pullbacks have continued to be strongly bid, including this morning’s reaction to the BoC rate cut. The 1.4000 handle took some time for bulls to work through but a build of higher-low support at 1.3950 and then 1.4000 opened the door wider for a larger break to show. Now – resistance is showing just inside of the 1.4200 psychological level which bulls have shied away from testing on a few different occasions already.

If that resistance can hold – there’s a possible support zone for bulls to work with ranging from 1.4078-1.4106.

USD/CAD Daily Chart

USD/CAD Bigger Picture

For USD/CAD bears, the hope would largely be based around an expectation for longer-term dynamics to come back into play, and that would entail a push back-below the 1.4000 handle to continue the decade-long range that’s built in the pair.

Over the past ten years there have been two other instances where bulls drove USD/CAD above 1.4000; and in both, the pair pushed above 1.4660 before finally topping-out and then reversing. So, that would indicate that there could be potential upside continuation; but for those looking for the longer-term range to continue, it’s the 1.4000 level that bears would first need to chew through before they could exhibit a greater sense of control of near-term trends.

For that mean reversion scenario to come to fruition, we’d likely need to hear some softening on the tariff topic from President-elect Trump, which is not an impossibility. In the initial tariff threat in late-November, which helped to drive the initial 1.4000 breakout, Trump had alluded to open borders allowing migrants and drugs to flow freely into the U.S. Justin Trudeau then went down to Florida to appeal to Trump, highlighting the difference between the Northern and Southern borders.

So, if tariffs are largely being seen as retaliatory for the border, one would imagine that Canada could address the topic and somehow soften the blow. In a follow up message earlier this week, however, Trump again brought up the topic, saying ‘I look forward to seeing the Governor again soon so that we may continue our in depth talks on Tariffs and Trade, the results of which will be truly spectacular for all!’

USD/CAD Weekly Chart

USD/CAD Strategy

Investors abhor uncertainty and for Canadian economic fundamentals, that’s what we have at the moment, as noted by BoC Governor Tiff Macklem at this morning’s rate cut. But this also doesn’t mean that Trump is dead-set on punishing the Canadian economy and there remains more than a month until inauguration, which means we’ll probably see this topic remain at the forefront for a while more.

For USD/CAD, this can keep the pair pushing higher as that uncertainty continues to prod CAD-weakness and USD-strength. But if we are going to see the longer-term range continue then we’d likely need to see a catalyst in the next couple of months indicating that 25% across-the-board tariffs aren’t coming for Canadian-US trade. Given the importance of oil in the United States, which is one of the chief exports from Canada to the U.S., there could be consequence for US inflation on the matter.

So I think that there’s at least a decent probability that the longer-term range will come into play at some point, but timing that is going to remain the challenge and given the prior two instances in 2016 and 2020, when USD/CAD pushed all the way up to 1.4668 and 1.4690 before turning, there could be continued upward scope in the near-term. And given that there’s more than a month until inauguration, when the topic will truly need to be encountered rather than hinted around on social media, there’s a lot of space between current price action and ultimate resolution of the matter.

But for now buyers remain in-control, and the 1.4200 level is the next spot of resistance that they’ll need to breakthrough to continue exhibiting that control. There’s shorter-term support structure at 1.4128 and 1.4100.

If bulls fail to hold support above 1.4000, then the short-term trend can start to come into question which would then point to the longer-term mean reversion backdrop.

USD/CAD Four-Hour Price Chart

--- written by James Stanley, Senior Strategist