Loonie Caught Between BoC amp Government

Just as the Canadian dollar was suffering losses from Canada’s rejection of Malaysian-owned Petronas’ takeover bid of Progress Energy Resources, the currency gets a sudden lift from today’s Bank of Canada’s policy statement indicating: “some modest withdrawal of monetary policy stimulus will likely be required.”

Knee-jerk reactions to central bank statements are typical and the reaction to the above statement was premature. While the reference to withdrawing stimulus was present in earlier policy statements, the new addition was a reference to “imbalances in the household sector” as impacting the timing of rate hikes.

There shall likely remain three obstacles to this much-talked about Canadian tightening: i) record high household debts; and ii) restrained exports by the CAD’s “persistent strength”; and iii) cautiousness with US demand. Said differently, these factors are considered a more lasting negative for the currency than  a positive.

Factoring the Canadian government’s Friday announcement to reject the C$5.2 bn takeover bid of Progress Energy Resources from Malaysia’s Petronas, and the probability that Chinese CNOOC’s C$15.1 billion bid for Canada’s Nexen will also be rejected, the prospects for the loonie may not be kind from an M&A perspective. The current government has already blocked the 2010 acquisition attempt of Potash Corp by Asutralia’s BHP Billiton.

As the current risk-off episode broadens into the rest of the month, FX traders are already reconsidering their CAD longs, which were built on the rationale that Canada benefits the most from QE3. US crude oil is already breaking below its 200-week MA for the first time in 3 months, while Brent may have further downside towards 106.30 (100-DMA) from the current 107.78.

EUR/CAD remains our preferred anti-CAD play based on improving EUR-sentiment and the anticipated deal for Spain as well as Greece. Although EUR/CAD is struggling to regain in the 1.30 figure, we expect 1.32 to be reached in later November with support remaining steady at 1.2550.