Canadian Dollar advances as Middle East uncertainty weighs on US Dollar
- USD/CAD falls as the US Dollar pauses ahead of Middle East updates and crucial Fed policy data.
- A hot US inflation report solidified expectations for a "higher-for-longer" Federal Reserve interest rate environment.
- The Canadian Dollar may weaken as falling oil prices follow reports of the US completing military strikes in Iran.
USD/CAD loses ground for the third successive day, trading around 1.3940 during the Asian hours on Thursday. The pair depreciates as the US Dollar (USD) holds losses as investors assess ongoing Middle East tensions with anticipation of upcoming US economic data, which could signal the Federal Reserve’s next policy moves.
The Greenback may regain its ground amid rising safe-haven demand due to the ongoing Middle East conflict. Israeli military says that the Home Front Command, the branch of the Israel Defense Forces (IDF) responsible for civil defense, issued an early warning after launches from Lebanon toward northern Israel.
The US Dollar (USD) gained ground after a hot inflation report released on Wednesday, which effectively solidified expectations for a "higher-for-longer" interest rate environment from the Federal Reserve. Driven primarily by war-induced energy price spikes, US inflation accelerated in May to its fastest pace in over three years. %. Traders await the upcoming release of the May Producer Price Index (PPI) and Initial Jobless Claims later today.
The US Consumer Price Index (CPI) rose 4.2% year-over-year and 0.5% monthly, both perfectly matching market forecasts. Meanwhile, core CPI, which strips out volatile food and energy costs, climbed 0.2% on the month and 2.9% annually. Following the data release, financial markets aggressively pivoted, abandoning any remaining expectations for Fed rate cuts this year.
The downside of the USD/CAD pair could be restrained as the commodity-linked Canadian Dollar (CAD) may face challenges amid lower oil prices, given Canada’s status as the largest crude exporter to the United States (US).
West Texas Intermediate (WTI) oil holds losses near $89.50 per barrel at the time of writing. Crude oil prices eased after the US military announced it had completed its latest strikes on Iran, raising hopes that peace negotiations could resume and tempering oil supply concerns.
Earlier, the US launched fresh attacks on Iran after President Trump accused Tehran of delaying talks on an interim peace agreement, while Iran reportedly responded by targeting US vessels in the Strait of Hormuz.
Canadian Dollar FAQs
The key factors driving the Canadian Dollar (CAD) are the level of interest rates set by the Bank of Canada (BoC), the price of Oil, Canada’s largest export, the health of its economy, inflation and the Trade Balance, which is the difference between the value of Canada’s exports versus its imports. Other factors include market sentiment – whether investors are taking on more risky assets (risk-on) or seeking safe-havens (risk-off) – with risk-on being CAD-positive. As its largest trading partner, the health of the US economy is also a key factor influencing the Canadian Dollar.
The Bank of Canada (BoC) has a significant influence on the Canadian Dollar by setting the level of interest rates that banks can lend to one another. This influences the level of interest rates for everyone. The main goal of the BoC is to maintain inflation at 1-3% by adjusting interest rates up or down. Relatively higher interest rates tend to be positive for the CAD. The Bank of Canada can also use quantitative easing and tightening to influence credit conditions, with the former CAD-negative and the latter CAD-positive.
The price of Oil is a key factor impacting the value of the Canadian Dollar. Petroleum is Canada’s biggest export, so Oil price tends to have an immediate impact on the CAD value. Generally, if Oil price rises CAD also goes up, as aggregate demand for the currency increases. The opposite is the case if the price of Oil falls. Higher Oil prices also tend to result in a greater likelihood of a positive Trade Balance, which is also supportive of the CAD.
While inflation had always traditionally been thought of as a negative factor for a currency since it lowers the value of money, the opposite has actually been the case in modern times with the relaxation of cross-border capital controls. Higher inflation tends to lead central banks to put up interest rates which attracts more capital inflows from global investors seeking a lucrative place to keep their money. This increases demand for the local currency, which in Canada’s case is the Canadian Dollar.
Macroeconomic data releases gauge the health of the economy and can have an impact on the Canadian Dollar. Indicators such as GDP, Manufacturing and Services PMIs, employment, and consumer sentiment surveys can all influence the direction of the CAD. A strong economy is good for the Canadian Dollar. Not only does it attract more foreign investment but it may encourage the Bank of Canada to put up interest rates, leading to a stronger currency. If economic data is weak, however, the CAD is likely to fall.
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