Investors like to compare the Canadian dollar with the
Australian dollar because both countries produce a significant
amount of commodities. Canada is the world's second largest holder
of oil reserves while Australia lives and breathes by its mining
industry. More recently, the CAD and AUD have strengthened
significantly, reaching parity with the U.S. dollar. This means
that one Australian and Canadian dollar is worth roughly one U.S.
dollar. Not only has the Aussie reached parity with the greenback
but it has exceeded it, leading many currency traders to wonder
when the loonie will do the same. So far the CAD has rejected
parity, but the Aussie did the same back in October before it
finally blew out the resistance level in November. Rarely is a
currency able to break such a significant resistance level in its
first attempt and so just because the CAD is rejecting parity now
does not mean that it will not break it later. In fact, traders
love to test significant levels and there is enough distaste for
U.S. dollars that we would not be surprised to see the loonie
become more valuable than the greenback.
Canada is not Australia
At the end of the day however it is important to remember that
Canada is not Australia. The Aussie could trade comfortably above
parity for an extended period of time but the CAD could have a very
tough time holding onto its gains. The U.S. absorbs more than 70
percent of Canadian exports while demand in the Asia-Pac soaks up
more than 60 percent of Australian goods. Thanks to China, the
recovery in Asia has been exceptionally strong while the U.S. is
slogging forward at such an anemic pace that the Federal Reserve
has been forced to increase monetary stimulus. As a result, there
are fundamentally valid reasons for why the Aussie is so strong.
The CAD on the other hand is rallying primarily because no one
wants to own U.S. dollars.
BoC and RBA - Differ on Rates and Forex Intervention
Canada is already beginning to feel the pain of a stronger
currency and weaker U.S. growth. Last month, the IVEY PMI report
fell more than 13 points from 70.3 to 56.7. This was the largest
drop since August 2008 and reflects a slowdown in business spending
and exports. The labor market also deteriorated with only 3.0k jobs
created in October. This morning, housing starts fell the most
since April 2009 which indicates Canada could suffer from weak
external and internal demand. As a result, it is not a surprise
that the Bank of Canada has grown more concerned about the outlook
for the Canadian economy. Last month, the central bank lowered
their inflation and growth forecasts due to worries about the
housing market and the considerable slack in the Canadian economy.
These worries have now come to fruition. Going forward, they expect
household spending to decelerate and the external environment to
remain difficult. The recent downgrade in growth and inflation
eliminates the chances of another rate hike by the Bank of Canada
before the second half of next year.
The Reserve Bank of Australia on the other hand surprised the
market by raising interest rates last week. The tone of the RBA
statement was hawkish which indicates that the central bank is not
done with tightening. Due to the disparities in growth, the RBA and
the BoC also have very different views on their appreciating
currencies. The RBA is not particularly concerned about the strong
Aussie while BoC Governor Carney is practically fidgeting in his
seat. He warned last week that intervention could occur if "extreme
movements" in the currency market "seriously imperiled conditions
that would support sustainable long-term growth." This means that
as both currencies strengthen, the BoC is more likely to take at
action or at minimum actively attempt to talk down their currency
than the RBA.
CAD: Gains Above Parity May Not Last
Therefore even though the CAD could exceed parity against the
U.S. dollar once again, the gains should be limited. The Canadian
dollar has flirted with parity with the U.S. dollar a number of
times in the past, but it has never sustained gains beyond that
level. Records have been broken by the Aussie but in the case of
Canada, the country is more sensitive to its currency's value
against the U.S. dollar than Australia which makes a weak U.S.
dollar more damaging to the Canadian economy. The only time the CAD
comfortably traded above parity was in late 2007 and even then the
move lasted less than 2 weeks.