Crumpled Pound / Canadian Dollar Rate Could Stabilise Above 1.6285

• GBP/CAD looking for a footing near lowest since 2019
• After BoE reminds of an uncertain outlook for Bank Rate
• GBP/CAD could steady above 1.6285 but upside limited
• USD/CAD's probe below 1.25 an anchor for GBP/CAD

Image © Pound Sterling Live

The Pound to Canadian Dollar exchange rate was left crumpled and looking for support near to three year lows early on this week after remarks from Bank of England (BoE) Governor Andrew Bailey prompted the market to reconsider the outlook for Bank Rate.

Canada’s Dollar strengthened on Tuesday, pulling GBP/CAD to its lowest since July 2019 in the process, although it was weakness in Sterling that sent the exchange rate tumbling in the opening session of the week. 

Sterling remained an underperformer on Tuesday after coming undone in the opening session of the week when BoE Governor Andrew Bailey reminded markets that the present squeeze on household incomes is a two-sided risk to the outlook for inflation and interest rates.

Governor Bailey told the economic policy think-tank Bruegel on Monday that the commodity price shock induced by the Russian invasion of Ukraine will subdue the economy and could eventually reduce domestically-generated inflation, with possible implications for interest rates later in the year.

“Yesterday, the pound took a hit after BoE Governor Andrew Bailey delivered some dovish remarks, suggesting a less aggressive stance on tightening due to high levels of economic uncertainty,” says Francesco Pesole, a strategist at ING. 

Above: Pound to Canadian Dollar rate shown at weekly intervals with Fibonacci retracements of recovery from 2019 lows suggesting little by way of medium-term technical support for GBP/CAD once below 1.6341.

Market-implied expectations for Bank Rate were scaled back in the wake of the remarks when pricing of overnight-indexed-swap contracts for the May month fell by around two basis points while for the December 2022 meeting date close to 10 basis points were shaved off the implied Bank Rate.

“There is only one prediction I can safely make and that is there will be a meeting in May,” Governor Bailey said on Monday.

The BoE said in March that inflation is likely to rise to 8% by April but its policy guidance suggested that further increases in Bank Rate are now less assured than they had been during the weeks and months before the Russian military crossed into Ukraine. 

Governor Bailey’s remarks and the BoE’s recent language indicate the commodity-induced squeeze on incomes could eventually be viewed as a substitute for some of the interest rate rises that have been all-but taken to the bank by the markets of late.

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“The Bank clearly feels that the sources of inflation are largely beyond its control as they are due to supply-side constraints, especially the massive rise in energy prices,” says John Hardy, head of FX strategy at Saxo Bank.

Overnight-indexed-swap contracts still suggested on Tuesday that financial markets consider Bank Rate as likely to rise from its current 0.75% to two percent or more this year, and there’s a risk of that assumption being called into question by new BoE economic forecasts due out in May. 

To the extent that markets recognise the risk of BoE forecasts beginning to pull in the opposite direction of commonly-held assumptions about Bank Rate; they could potentially constrain any attempted recovery by Sterling over the coming weeks.

“The move lower in USDCAD last week went very much against the move in the broader USD. As a result, CAD gains along crosses like CADJPY and EURCAD were even more impressive,” says Greg Anderson, global head of FX strategy at BMO Capital Markets.

Above: USD/CAD at daily intervals with Fibonacci retracements of 2022 rally indicating possible areas of short-term technical support.

While Sterling drove much of GBP/CAD’s loss at the opening of the week, the Canadian Dollar is also an important driver of price action and its recent outperformance could potentially weigh like an anchor on Sterling if the USD/CAD rate probes further beneath the 1.25 handle over the coming days.

“That is the upside risk for CAD. However, our observation of the FX market in the period since the beginning of the pandemic is that it would rather stick in off-market orders and wait for pullbacks in trends rather than chase them. We suspect that in USDCAD, those off-market orders would now get placed somewhere in the 1.2550 to 1.2600 range,” BMO’s Anderson said on Monday.

The Canadian Dollar rose strongly last Friday as the U.S. Dollar softened across the board, leading USD/CAD to slip back to 1.2450 while leaving it close to 2022 lows in price action that may have been encouraged by comments from Bank of Canada (BoC) Deputy Governor Sharon Kozicki. 

“She stressed that returning to the 2% target is the BoC’s primary focus and policy makers were prepared to act forcefully to achieve that goal. The comments echoed the tone of recent BoC remarks and represented nothing new in a sense. But neither did the deputy governor push back against market pricing which has now all but priced in a 50bps increase next month,” says Shaun Osborne, chief FX strategist at Scotiabank.

GBP/CAD tends to closely reflect the relative performance of Sterling and the Loonie when each is measured against the U.S. Dollar, and would risk slipping as far as 1.6285 this week if GBP/USD remains trapped beneath 1.31 as USD/CAD probes below 1.25.

The implication is that GBP/CAD could stabilise somewhere above 1.6285 this week.