USD/CAD holds gains above 1.3950 despite rising odds of Fed rate cuts
- USD/CAD climbs as the US Dollar strengthens, driven by a rise in Consumer Inflation Expectations to 3.4% in September.
- The CME FedWatch Tool indicates pricing in nearly a 95% odds of a 25-basis-point Fed rate cut in October.
- The CAD may gain ground amid rising crude Oil prices.
USD/CAD continues to gain ground for the second successive session, trading around 1.3960 during the Asian hours on Wednesday. The pair appreciates as the US Dollar (USD) gains ground, as United States (US) Consumer Inflation Expectations for the year ahead rose to 3.4% in September, the highest in five months, compared to 3.2% in August.
However, the US Dollar may face challenges amid prevailing bearish sentiment surrounding the US Federal Reserve (Fed) policy stance. The CME FedWatch Tool suggests that markets are now pricing in nearly a 95% chance of a 25-basis-point Fed rate cut in October and an 83% possibility of another reduction in December.
Federal Reserve (Fed) Board of Governors member Stephen Miran expressed his belief on Tuesday that inflation itself is simply a cause of "population increases". Monetary policy needs to ease to get ahead of the shift down in the neutral rate, Miran added.
Minneapolis Fed President Neel Kashkari struck a more reserved tone than some of his Fed counterparts on Tuesday, cautioning that it's still too soon to be able to tell if tariff-led inflation will be "sticky" or not. However, Kashkari noted that he's particularly bullish on the labor market and is expecting a return to form for American job creation, which has sputtered recently.
The upside of the USD/CAD pair could be limited as the commodity-linked CAD receives support from higher Oil prices. It is worth noting that Canada is the largest crude exporter to the United States.
West Texas Intermediate (WTI) Oil price continues to gain ground for the fourth successive session, trading around $62.00 per barrel at the time of writing. Crude Oil prices receive support from a more modest OPEC+ output hike. The Oil group recently decided to limit its production increase, opting for the smallest rise among the options considered.
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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