Canada went through a 2020 that was very similar to its peers. As a result, the Canadian dollar (CAD) largely conformed to global forces on both sides of peak market panic this year. Overall, the CAD is set to finish the year relatively flat against the U.S. dollar (USD) despite suffering one of the greatest macro shocks in economic history.
Nevertheless, there were still signs of underperformance, as the CAD is the second worst-performing G10 currency against the USD on a year-to-date basis. This likely reflects oil’s disproportionate impact on the currency, as crude is still down roughly 27% against the S&P 500 index, which is up approximately 13% year to date.
For 2021, the expectation remains for the CAD to strengthen, as it stays aligned with broader risk sentiment and the ongoing global rebound. Within this, the positive developments on the vaccine front should help insulate the CAD from the still high degree of uncertainty surrounding COVID-19 momentum and associated medium-term global growth risks. Further, CAD’s relative underperformance in 2020 could provide a runway for CAD appreciation in 2021 should the recovery in oil prices converge toward the level of equity price normalization.
On the monetary front, the Bank of Canada (BoC) and the Fed are unlikely to be major factors in the exchange rate, as recent policy shifts from both central banks have been very similar. Both central banks have adopted condition-based forward guidance. The pace of new gross asset purchases, as a percentage of GDP, is also very similar and the Fed appears set to allocate more of these purchases to the long end, a change similar to one the BoC recently made.
The two main wildcards to a constructive CAD view are unsurprisingly COVID-19 and U.S. policy. On COVID-19, the difference in policymaker stances could see Canada impose stricter restrictions earlier than the U.S. despite lower rates of infections. The subsequent divergence in economic performance would be consistent with a weaker CAD. Additionally, there is spillover risk — even if the U.S. doesn’t lock down nationally, voluntary changes in economic behavior will still impact Canada due to the close ties between the economies in both countries. Moreover, should North America have a disproportionately hard COVID-19 winter, this will most likely translate into CAD weakness more than USD weakness.
Finally there is U.S. policy. The expected blue wave did not materialize, but the fate of the U.S. Senate remains undetermined. The betting odds for a Democratic Senate remain low, but should it happen, then larger fiscal stimulus that would benefit Canada through stronger U.S. demand becomes more likely. Additionally, there is the fate of the Keystone pipeline. President-elect Joe Biden has indicated his opposition. This would result in a medium-term drag to the Canadian economy, as the pipeline would have alleviated much of the transport bottleneck plaguing the Canadian energy sector the past couple of years. | |
| HERE ARE THE KEY NEWS STORIES FROM OVERNIGHT: | |
- U.S. non-farm payrolls disappointed expectations, as the economy added 245,000 jobs against consensus for 460,000. Additionally, this month’s number was down from last month’s revised 610,000 print. The unemployment rate did move down from 6.9% to 6.7%, but this really was just a function of the labor force participation rate dropping from 61.7% to 61.5%. On the positive side, average hourly earnings rose 0.3%, beating estimates for a 0.1% increase.
- Canada’s jobs report beat expectations, with 62,100 jobs added versus expectations for 20,000 additional jobs. Job gains were mainly concentrated in full-time positions, adding to the positivity of the beat.
- Support is growing in Congress for the bipartisan fiscal stimulus compromise proposal. This proposal initially started out as a rank-and-file effort but has since gained support from leadership on both sides.
- Christopher Waller has been confirmed by the Senate and will join the Fed’s board of governors.
- The British pound remains supported despite mixed Brexit headlines. The latest headlines indicate that U.K. negotiators are angry that the EU has introduced a new set of demands, as the two sides appeared close to a deal.
- Japanese Prime Minister Yoshihide Suga said the government will decide on a fiscal stimulus package early next week.
- OPEC+ has agreed to increase production by 500,000 barrels a day in January, which is less than originally planned. The group will also meet monthly to assess the situation.
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