CITI TOTW – Trade Idea: Buy EURCAD 1.5786, target 1.61, stop 1.5615: FXWW

From the FXWW Chatroom: Investors have likely been too quick to fade trade policy concerns for Canada on the basis of the announced exclusion from US tariffs. CAD is trading close to the same levels as it was immediately ahead President Trump’s recent announcement on tariffs vs. both the USD and on a trade-weighted basis. We believe this is a poor reflection of risks moving forward. First, the move to introduce any tariffs at all appears to reflect the reduced influence of trade and foreign policy doves within the administration in favour of hawks. We would extrapolate this to potential future moves on trade, which poses specific risks for CAD on NAFTA negotiations and could be a risk negative. Second, as the US moves towards more substantive action on trade policy, Canadian officials may discount risk for greater economic drag from this source, which could skew risk-return in favour of more dovish BoC policy. Third, we believe headline risk on trade is tilted to the CAD negative side as investors move beyond the immediate issue of steel and aluminium tariffs.
· This should leave CAD vulnerable for underperformance on any deterioration in the broader economic backdrop and we see specific downside risk on BoC Governor Poloz’s speech tomorrow. The topic of the speech is on Labour markets, so it is not clear the degree to which the Governor will touch on broader economic prospects. However, there will be a Q&A, so the Governor is sure to receive questions on trade and we would not be surprised if the Bank was more dovish on account of recent US moves. Furthermore, with Canadian interest rate expectations having rebounded from recent lows and investors having interpreted Deputy Governor Lane as somewhat hawkish, the bar for a CAD-positive surprise should be relatively high.

· By contrast, market pricing on EUR appears closer to a dovish extreme. Rate expectations remain close to recent lows following the perceived dovish ECB press conference last week and selling by short-term investors recently touched its most extreme level in more than a year. More recent trailing off of such selling suggests that the shift in the pattern of flow may be overstretched and presents vulnerability for a reversal. This compares to recent CAD buying by short-term investors. Particularly as EUR may benefit from the perception that US trade policy is the latest in a string of actions by the administration which may undermine confidence in the dollar as the pre-eminent global (reserve) currency, this should make it an attractive vehicle for CAD shorts.

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