An Air of Optimism

　

With the CAD ringing in its best weekly performance in four years, the question on the desk and with our clients is – is the bottom in? We will answer that in a moment. The CAD was up on a combination of less than stellar US economic data, firming Canadian economic data, a less dovish Bank of Canada, and a firmer oil price.

The Canadian economy seems to have gone from an "atrocious" first quarter as described by BOC Governor Stephen Poloz to an air of optimism. Canadian retail sales racked up their biggest increase in eight months for the month of February while core inflation saw its fastest pace in 6 years. This helps to explain why the BOC upgraded their assessment of the domestic economy. They revised Q1 GDP to flat from 1.5%, but Q2 was revised up to 1.8% from 1.5% and Q3 to 2.8% from 2.0%. Overall, the BOC sees 2015 growth at 1.9%. They also upgraded their inflation outlook which indicates that they see the oil impact mostly behind them. All in all, the BOC’s more optimistic mood has pretty much ruled out the chance of another rate cut this year.

The over 50% hair cut in the price of oil has been the main culprit in the roughly 16% decline in the value of the CAD since mid-2014. The price of oil surged about 8% last week, hitting a 2015 high of $57 at one point. The price action has the earmarks of a reverse head-and-shoulders bottoming formation. With the price of oil slicing through the neckline the technical analysis demonstrates that the price of oil has now bottomed. Ironically, this comes at a time when inventories are growing at least three times more than had been expected. Be that as it may, the recent price action speaks volumes.

So has the CAD bottomed? During this year we have been ask many times by clients as to what level the CAD would fall to. Our response has always been that the level is unknowable, however, the one thing that we are sure of is that the CAD will find its bottom once the price of oil has bottomed.

 

USDCAD Big 5 Forecasts from earlier this year:

 

 

The USD was taken to the woodshed last week after another round of weaker U.S. economic reports drove it sharply lower against all of the major currencies. Since the Fed jettisoned "patience" from their FOMC statement it is understood that the Fed will be data driven. Last week’s uninspiring economic data (US industrial production, Empire Fed, and Fed Beige Book) is causing some market participants to wonder out loud if the Fed will actually raise interest rates at all in 2015. This has caused market sentiment to change dramatically in the past week with market participants now questioning if the rally in the USD is over. Furthermore, with the economic calendar a little on the light side this upcoming week for US data, there will be little in the way of the USD’s current downward path. The one thing that could change its path next week could be safe haven flows due to the renewed fears about the risk of a Greek debt default and possible exit from the euro.

 

Negotiations between the Greeks and the Eurozone are reaching its climax and the endgame is finally visible. Greek Finance Minister Yanis Varoufakis doesn’t really have any choices if no deal is struck: Greece must either accept the terms of the bailout or risk going bust. An article written by Simon Nixon for the Wall Street Journal nicely summarizes the current situation.

It’s still possible that Greece can remain in the Eurozone — though that is no longer the base case for many policy makers. At the very least, most fear the situation is going to get much worse before it gets any better. No one now expects a deal to unlock Greek bailout funding at this week’s meeting of Eurozone finance ministers in Riga — originally set as the final deadline for a deal. The new final, final deadline is now said to be a summit on May 11.

But among European politicians and officials gathered in Washington DC last week for the International Monetary Fund’s Spring Meetings, there was little optimism that a deal will be agreed by then. The two sides are no closer to an agreement than when the Greek government took office almost three months ago. "Nothing, literally nothing has been achieved," says an official. In fact, it is worse than that: so far, the bulk of Athens’ reform plans would actually cost money or reduce government revenues, according to Eurozone officials.

They say that when you add up all the government’s proposals, the budget surplus required under the current program turns into a 10-15% deficit while debt soars far above the 120% of GDP targeted for 2022. There is no way that the Eurozone — let alone the IMF — could disburse funds on the basis of such fantastical numbers.

The bottom line is that Athens won’t get any money unless it can reach a deal that satisfies the IMF that Greek debt is on a sustainable path and that it has a medium-term funding plan in place. The Eurozone won’t disburse its own bailout funds without a deal that carries this IMF seal of approval.

The IMF has agreed to streamline its demands, but that hardly diminishes the scale of the compromise required of Prime Minister Alexis Tsipras; even a slimmed-down deal will require either Athens to commit to an ambitious third bailout program or the Eurozone to agree to provide substantial debt relief—which it won’t until Athens can convince the Eurozone it is serious about reform.