Pound-Canadian Dollar Week Ahead Forecast: RBC Capital Targeting 1.6950
- Written by: Gary Howes
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- GBP/CAD reference rates at publication:
- Spot: 1.7350
- Bank transfer rates (indicative guide): 1.6740-1.6860
- Money transfer specialist rates (indicative): 1.7192-1.7260
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Foreign exchange strategists at Canada's RBC Capital Markets have anointed a recommendation to sell the Pound-to-Canadian Dollar exchange rate (GBP/CAD) as their "trade of the week".
In an update to clients Adam Cole, Chief Currency Strategist, with RBC Capital in London, says the call is based on their view that the market is too aggressive in their expectations for Bank of England interest rate rises.
The Pound was bid last week after the Bank of England's September policy update essentially rubber-stamped the market's current expectation for a rate rise to occur in the early part of 2022.
"After last week’s repricing, SONIA forwards now price a 15bp rate hike in February with near-certainty and a further 25bp hike is fully priced by end-2022," says Cole.
"We would see this profile as a best case scenario, rather than a best guess central scenario and there are significant downside risks that should be incorporated," he explains.
Cole warns there are asymmetric risks to hikes being scaled back in market pricing.
Above: GBP/CAD daily chart showing 2021 price action.
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If the above-mentioned probabilities of a rate hike held by the market slide lower then Pound exchange rates could come under pressure.
RBC Capital Markets identify GBP/CAD as being a particularly vulnerable Sterling exchange rate to a decline under such as scenerio.
They say while the Canadian economy proved weak in July they expect a "significant rebound in Q3 GDP".
This should keep the Bank of Canada on a track towards tightening policy by raising interest rates, a development they expect could offer the Canadian Dollar a boost.
RBC Capital are eyeing a move in GBP/CAD to 1.6950.
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The call comes on a day of strong buying interest for the British Pound which is advancing against all the major currencies.
The GBP/CAD had in fact fallen to a multi-week low earlier on Monday when it reached 1.7244, but has recovered to 1.7356 at the time of publication.
The buying interest looks to be sympathetic with with an ongoing rise in UK bond yields: while bond yields are rising in most major markets they have risen just a little faster in the UK.
Rising bond yields are in turn reflective of expectations for higher interest rates at the major central banks, which investors expect will be forced to act on surging inflation levels.
While the official line from most central banks is that inflation will prove temporary in nature there are concerns that the longer price rises stay elevated the more inflation expectations rise.
Inflation can become self-fulfilling under a scenario where expectations re-anchor at higher levels, posing challenges for central banks which are supposed to be the guardians of price stability.
The Bank of England's commitment to an early 2022 interest rate hike is testament to this fear and for now the Pound is benefiting.
"We recently revised up our Sterling forecasts after our economists brought forward their projection for rate hikes following firmer inflation prints and strong labor demand, as well as some more hawkish BoE rhetoric about how to respond to those economic developments," says Michael Cahill, an analyst with Goldman Sachs.
The Bank of England went so far as to say that raising interest rates in 2021 was still not out of the question as they felt ending quantitative easing was not a requisite before interest rates can start.
The quantitative easing programme is expected to end in December.
"The BoE meeting this week confirmed that change in outlook, and if anything the risks to the first hike now appear to be skewed even earlier, with the MPC explicitly “ruling in” rate hikes this year, even if that seems fairly unlikely," says Cahill.
"Sterling should perform well against this backdrop," he adds.
