Canadian Dollar Cools on GDP Miss and Rally Leaves Corporate Canada Short

- CAD softens as USD/CAD
- Economic data misses lofty expectations
- CAD rally might catch CA corporates short

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The Canadian Dollar softened against the U.S. Dollar on Friday after February GDP data missed lofty expectations, although it may matter to the Loonie going forward that its recent rally has put some local corporations in a bind.

Canada's GDP rose 0.4% as the economy sought to clamber further out of its coronavirus inspired trough in February, Statistics Canada data showed on Friday, although this was lower than the 0.7% anticipated by consensus.

Statistics Canada also said the economy likely grew by a larger 0.9% in March, though this combined with the February number has left economic progress running shy of forecasts from the Bank of Canada (BoC), according to economists at CIBC Capital Markets, ahead of a tough couple of months for many parts of the country.

"Services industries did much of the heavy lifting as many provinces eased lockdown measures, while a number of goods sectors contracted in both February and March. That said, much if not all of the recent progress in non-essential high-contact services industries will likely be reversed during this third wave," says CIBC's Royce Mendes.

Above: USD/CAD shown at hourly intervals alongside GBP/CAD.

Market expectations were perhaps primed for a disappointment given recently improved sentiment toward the Canadian economy, coming on the back of an optimistic turn in the rhetoric and policy guidance of BoC policymakers and broadening optimism about global economic prospects.

"The Bank of Canada’s (BoC) slightly more hawkish policy stance announced last week—reducing asset purchases and projecting that inflation will be sustainably on target in H2-2022, paving the way for rate hikes then—stands in starker contrast to the Fed following the FOMC’s decision to stand pat," says Shaun Osborne, chief FX strategist at Scotiabank.

The BoC said last week that it would further reduce the amount of Canadian government bonds it buys each week as part of its quantitative easing programme, from C$4n to C$3bn, and indicated that there could be some scope for an interest rate rise as soon as the middle of next year.

That stance crystallised steadily after North America's second largest economy showed itself to be more resilient to coronavirus-inspired restrictions on activity late last year and early in 2021, taking policymakers by surprise, although the recovery in February was evidently more tepid than many had anticipated.

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Meanwhile, 'lockdown' restrictions were tightened in Canada coming into April and this now risks at least partially unwinding some of that progress in the months ahead, which is a possible headwind for the Canadian Dollar.

In addition, and over in the international trading quarter of the corporate world, it may be the case that the recent Canadian Dollar rally has put some foreign exchange exposed companies in a bind.

Canada's Dollar has rallied in the last week, taking it to multi-year highs against the greenback while also pushing the Euro and Sterling to losses of around 1.5% and 1.2% respectively, although many of these moves have come at a point when corporates in some sectors were effectively swimming without clothes on as the tide ebbed from around them.

"Those would be my three major CAD crosses where I would say there is the most activity and to be fair, if I had to lump them all into 'are we under hedged or 'unhedged,' I would say the vast majority of them are under hedged," says Brad Schruder, a foreign exchange sales specialist at BMO Capital Markets.

Above: USD/CAD shown at daily intervals alongside GBP/CAD.

Schruder was referring to CAD/JPY, EUR/CAD and GBP/CAD while speaking with colleagues in a BMO Capital Markets podcast.

Companies exporting into Europe, the UK and Japan among others had for various reasons been operating without having delved into the derivative market where many will have been able to protect their export revenues against the corrosive impact of Canadian Dollar strength.

This is a potential headwind to Canadian corporate profitability in the months ahead - also likely to be a testing period for the domestic economy - which could be a recipe for a Canadian Dollar cooling off period.