The Bank of Canada raised its benchmark interest rate by 25bps yesterday, in line with market expectations. The tone of the statement accompanying the decision was hawkish overall, with the Bank dismissing the recent softness in inflation as being temporary. In addition, policymakers kept the prospect of further near-term hikes on the table by noting that future interest rate adjustments will be guided by incoming data related to the outlook for inflation.
The key takeaway for us was that the BoC is raising rates preemptively because it expects inflation to pick up in the near future, and that further hikes in coming months are a distinct possibility. As a result of these hawkish signals, the Canadian dollar surged on the news, even though a 25bps rate hike was fully priced in ahead of the meeting. In addition, the implied market probability for further rates hikes this year rose in the aftermath, according to Canada’s Overnight Index Swaps. Moving forward, we think CAD could remain under buying pressure for a few days, perhaps until next Friday, when we get CPI data for June.
USD/CAD collapsed yesterday after the BoC hiked interest rates and hinted that there may be more to come soon. The pair fell below the support (now turned into resistance) barrier of 1.2860 (R2), to eventually stop at 1.2680 (S1). The fact that the rate is still trading below the downtrend line taken from the peak of the 11th of May, and also below the psychological zone of 1.3000, which acted as the lower bound of the sideways range that contained the price action since September, keeps the bias to the downside, in our view. Therefore, we expect a clear dip below 1.2680 (S1) to open the way for our next support level of 1.2600 (S2). Nevertheless, given that yesterday’s tumble appears overextended, we stay mindful that a corrective rebound may be on the cards before the bears decide to take charge again. A move above 1.2770 (R1) could confirm the case for a corrective bounce, perhaps to test the 1.2860 (R2) area as a resistance this time.
In her semi-annual testimony before the House Financial Services Committee yesterday, Fed Chair Yellen was seen as being cautious, offering no direct signals that another rate hike this year is on the cards. Perhaps as a result of the lack of clarity on the timing of the Bank’s next move, the dollar moved lower at the release of her prepared remarks.
The Fed chief will testify today as well, this time before the Senate Banking Committee. Given that she will deliver the same testimony as yesterday, we expect market participants to focus primarily on the Q&A session. Any signals suggesting that she is within the Fed camp of those who are concerned that the recent weakness in inflation may persist could hit the dollar again. Having said that, the nation’s CPI data for June tomorrow may prove the biggest determinant of the dollar’s forthcoming direction, as they could shed some light on whether the latest softness in inflation is indeed transitory and thereby, whether another hike is in the works for this year.
EUR/USD traded lower overall yesterday, despite the spike up on Yellen’s remarks. The pair found support near the short-term uptrend line taken from the low of the 22nd of June and during the Asian morning today, the rate rebounded. In our view, the rebound confirms the validity of the aforementioned trend line and keeps the door open for further advances. We would expect the bulls to aim for the 1.1485 (R1) resistance soon, where a decisive break would confirm a forthcoming higher high and perhaps set the stage for our next resistance obstacle of 1.1530 (R2), marked by the peak of the 4th of May 2016.
As for the rest of today’s highlights:
During the European session, we get Sweden’s CPIs for June. The forecast is for both the headline and the underlying inflation rates to have moved lower, which could curb some speculation that the Riksbank is due to remove its interest rate easing bias soon. Something like that could weigh on SEK. From Germany, we get the final CPI print for June, but considering that the final figure is expected to confirm the preliminary estimate, any reaction in EUR is unlikely. Later in the day, we get the US PPI for June and expectations are for a slowdown.
Besides Chair Yellen, we have two more Fed speakers on the agenda: Fed Board Governor Lael Brainard and Chicago Fed President Charles Evans.
USD/CAD
Support: 1.2680 (S1), 1.2600 (S2), 1.2500 (S3)
Resistance: 1.2770 (R1), 1.2860 (R2), 1.2940 (R3)
EUR/USD
Support: 1.1380 (S1), 1.1300 (S2), 1.1220 (S3)
Resistance: 1.1485 (R1), 1.1530 (R2), 1.1615 (R3)
