GBP/CAD Week Ahead Forecast: Vulnerable Near 10-year Lows

• GBP/CAD under pressure near post-referendum lows 
• Struggling for foothold after BoC’s hawkish escalation
• Little upside ahead of UK job data, June BoE decision

Image © Pound Sterling Live

The Pound to Canadian Dollar rate has fallen to new post-referendum lows and could be set to remain under pressure ahead of next week’s UK wage data and Bank of England (BoE) policy decision due to a more hawkish turn in the Bank of Canada’s (BoC) interest rate stance.

Canada’s Dollar was lifted sharply against Sterling last week after the BoC appeared to shift into a higher and more hawkish gear with its warning last Wednesday that it’s “prepared to act more forcefully” on interest rates if Canadian inflation rates do not quickly come down.

“The narrative developing from the Bank of Canada suggests a fair bit more concern about very high and still rising inflation and an economy that is running very hot, which may require more aggressive policy steps,” says Shaun Osborne, chief FX strategist at Scotiabank. 

“Meanwhile, Fed policy makers’ comments suggest some hope that inflation has peaked which may allow the Fed to slow the pace of tightening after July. Next week’s data will help shape those respective rate outlooks,” Osborne and colleagues said on Friday.

The BoC raised its cash rate from 1% to 1.5% in a hawkish double-down that heaped further pressure onto Sterling and pushed GBP/CAD beneath even its post-Brexit referendum lows to what was its weakest level since 2013.

Above: Pound to Canadian Dollar rate at daily intervals with Fibonacci retracements of 2022 decline indicating possible short and medium-term technical resistances for Sterling, and alongside spread or gap between 02-year GB and Canada government bond yields. Click image for closer inspection.    

The Canadian Dollar’s nascent outperformance has been further helped by comments from Deputy Governor Paul Beudry before the Gatineau Chamber of Commerce last Friday, where he warned of a scenario in which the BoC could feel compelled to lift its cash rate to 3% or more in the months ahead. 

“In the deliberations for yesterday’s decision, we noted that price pressures are broadening and inflation is much higher than we expected and likely to go higher still before easing. This raises the likelihood that we may need to raise the policy rate to the top end or above the neutral range to bring demand and supply into balance and keep inflation expectations well anchored,” he said in part. 

This all contrasts with the stance of the Bank of England, which is likely to be amenable to employment and wage data due out early next week and only days before the June interest rate decision. 

GBP/CAD could benefit if next week’s data suggests that already high pay pressures rose further in the UK during April as this would potentially impact the number of Monetary Policy Committee members who might be minded to lift Bank Rate by a larger than usual 0.50% increment in June.

Above: GBP/USD shown at daily intervals alongside CAD/USD and with spread or gap between 02-year GB and Canada government bond yields. Click image for more detailed inspection.    

That number was a mere three back in May and would need to increase to five for a majority decision in favour of that outcome, which is a hawkish scenario that isn’t even close to being reflected in Pound Sterling exchange rates.

Much about the probability of that could be influenced this Thursday by the degree to which a looming European Central Bank (ECB) policy decision leaves Sterling under pressure, although in the interim GBP/CAD will be at the mercy of a likely more buoyant Canadian Dollar.

“The Canadian Dollar has started to make progress towards our 6-month USD/CAD forecasts, supported by higher oil prices and a more hawkish Bank of Canada,” says Michael Cahill, a G10 FX strategist at Goldman Sachs who tips USD/CAD for 1.25 in six months and GBP/CAD for 1.52

“Risks look skewed to the upside after this week's hawkish hike,” Cahill and colleagues said on Friday.

Above: Pound to Canadian Dollar rate shown at weekly intervals with spread or gap between 02-year GB and Canada government bond yields. Click image for more detailed inspection. Click image for more detailed inspection.    

Support gained by the Canadian Dollar from the BoC’s increasingly hawkish interest rate stance could enable the Loonie to show greater resilience than Sterling in the short-term to any further bouts of strength in the U.S. Dollar, ultimately serving to keep GBP/CAD under pressure near 2022 lows.

The Canadian Dollar could also potentially benefit to the detriment of Sterling this week if Friday’s employment figures provide evidence of building wage pressures in the currently tight labour market for the month of May.

It may also be likely to pay close attention to a Wednesday address about the Financial System Review from Bank of Canada Governor Tiff Macklem. 

"Job gains in our forecast would be still running a bit above the pace that the Bank of Canada needs to see to be assured that the jobless rate has bottomed,” says Avery Shenfeld, chief economist at CIBC Capital Markets. 

“An appearance by the Bank of Canada Governor and his Senior Deputy will focus on the financial system, and could address the linkage between rate hikes and what’s happening in housing and mortgage markets,” Shenfeld and colleagues said on Friday.