Hans Guenther Redeker from BNP Paribas
While USDCAD has recorded new highs, technical signals have been triggered which suggest the USD will run out of steam. Recent highs have not been confirmed by the 9-week RSI, and the 9-day RSI has reached extreme levels. The same applies to the seasonal factor. Seasonals had been CAD negative in the third quarter, but the seasonal factor will provide support for the CAD in the fourth quarter. The analysis of capital flows supports this view. Canada enjoys a current account surplus of 3% of GDP, but over the past few years net foreign direct investment and portfolio related flows have been CAD negative. However, both FDI and bond and equity related outflows have eased over the past few months, while simultaneously the CAD has weakened, and not only against the USD. In fact, over the past week the CAD has been the weakest currency in a G-7 context.
Since the acceleration of the CAD decline has not been triggered by long-term capital flows, it must have been short-term funds which were moving out of the CAD. Since interest rate differentials have been declining the shift of money market funds from CAD into other currencies is of little surprise. However, with long-term capital outflows easing and short-term capital outflows rising, an important signal concerning the durability of the current CAD decline is provided. Even assuming that the BoC pushes ahead with aggressive interest rate cuts, Canadian interest rates are unlikely to undershoot US interest rates, suggesting that the outflow of short-term capital will be limited. We have been pointing out that Canadian long-term fundamentals have substantially improved over the past 10 years. Once huge budget and current account deficits have been reversed into a surplus and inflation expectations have been reduced. Nonetheless, due to the tech mania Canada has been enjoying little inward and portfolio investment over the past three years, helping to explain the current degree of under valuation of the CAD. However, it should be noted that investments in raw materials have performed better than the US equity market over the past couple of years.
While we have been pointing out that the current monetary impulse globally provided by central banks is a positive for equity markets, we also believe that the situation on raw material markets looks similar to 1993. In response to the strong monetary impulse provided in 1992 and 1993, raw material prices gained by 42% at that time. There is a good chance that commodity prices continue to outperform equities, which would be CAD positive.
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November 12th, 2001, 11:19 AM
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