The Bank of Canada is widely expected to hold the benchmark interest rate at 0.25% in July, and is likely to keep borrowing costs at the record-low throughout the following year as policymakers attempt to steer the world’s eighth largest economy out of the recession. A Bloomberg News survey shows all of the 12 economists polled forecast the BoC to maintain its currently policy in place however, market participants speculate the central bank may take further steps to stem the downside risks for growth and inflation as the appreciation in the Canadian dollar hampers the outlook for a sustainable recovery.
[U][B]Trading the News: Bank of Canada Interest Rate Decision
Time of release: [B]07/21/2009 13:00 GMT, 09:00 EST[/B]
Primary Pair Impact : [B]USDCAD[/B]
[B][U]Impact the Bank of Canada Rate Decision on USDCAD over the last 2 meetings[/U][/B]
The central bank in Canada unexpectedly lowered the benchmark interest rate by 25bp to 0.25% in an effort to jump-start the ailing economy, and went onto say that it plans to maintain the key rate at the record-low ‘until the end of the second quarter of 2010’ as the economic downturn intensifies. The Bank of Canada lowered its growth projections, and expects economic activity to contract 3.0% amid an initial forecast of a 1.2% drop in GDP. Moreover, the board anticipates the growth rate to expand 2.5% in 2010 verses expectations for a 3.8% rise in January, and policymakers may continue to take extraordinary steps in an effort to soften the landing of the world’s eighth largest economy. Meanwhile, the bank stated that they have ‘considerable flexibility’ in managing policy, with Governor Mark Carney adding that the use of policy tools beyond the interest rate is not ‘preordained.’
[B]What To Look For Before The Release
[/B]Traders with access to market depth information via the FXCM Active Trader Platform may use it to gauge the potency of the economic data release as well as to shed some light on the market’s directional bias. Increasing volume ahead of the announcement will telegraph likely follow-through behind whatever move is to materialize, while an imbalance in available liquidity on the Bid versus the Offer side of the market will tell us the direction major institutions are likely favoring ahead of the announcement:
If we see substantially deeper available liquidity on the Bid side of the market, this tells us that major price providers in the market are looking to buy the CAD against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bullish bias on USDCAD ahead of the data release. [U][B]Bearish Scenario:[/B][/U]
If we see substantially deeper available liquidity on the Offer side of the market, this tells us that major price providers in the market are looking to sell the CAD against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bearish bias on USDCAD ahead of the data release.
[B]How To Trade This Event Risk
[/B]The Bank of Canada is widely expected to hold the benchmark interest rate at 0.25% in July, and is likely to keep borrowing costs at the record-low throughout the following year as policymakers attempt to steer the world’s eighth largest economy out of the recession. A Bloomberg News survey shows all of the 12 economists polled forecast the BoC to maintain its currently policy in place however, market participants speculate the central bank may take further steps to stem the downside risks for growth and inflation as the appreciation in the Canadian dollar hampers the outlook for a sustainable recovery. During the policy meeting in June, the board warned that the rise in the exchange rate ‘reflects a combination of higher commodity prices and generalized weakness in the U.S. currency,’ which could prolong the economic downturn, and went onto say that the bank retains the ‘flexibility’ to adopt policy tools beyond the interest rate as the region faces its first recession in nearly two-decades. However, advisors at the central bank warned that there remains a high level of uncertainty tied to ‘quantitative easing,’ which could ‘distort the capital and credit allocation process,’ with BoC Governor Mark Carney adding that he does not expect the board to adopt the unconventional policy tool as the Canadian banking system remains resilient. Moreover, the Organization for Economic Cooperation and Development said that the central bank has taken the appropriate steps to shore up the economy and that ‘supplementary monetary measures do not appear warranted for now,’ but at the same time, the group continued to see scope for an expansion in fiscal policy ‘should the recovery fail to materialize.’ Meanwhile, the BoC senior loan officersurvey showed 84% of the businesses polled anticipate price growth to hold within the bank’s 1-3% target range over the next two-years, and the rebound in inflation expectations should lead the central bank to hold a neutral policy stance going forward as they anticipate an economic recovery next year. In addition, the survey said that only a handful of firms noted a drop in input prices following the appreciation in the Canadian dollar, with businesses planning to pass on the savings to consumers in an effort to stimulate demands. As the medium-term outlook for inflation remains well anchored, the Bank of Canada is likely to maintain its current policy in place however, commentary following the release could have the potential to move the currency market as policymakers weigh the dampening effects on the economy as a result of the rise in the exchange rate.
Trading the given event risk may not be as clear cut as some of our previous trade but nevertheless, as market participants anticipate the BoC to maintain a neutral policy stance going forward, price action following the release could set the stage for a long Canadian dollar trade. Therefore, if the central bank keeps the interest rate at 0.25% and sees an improved outlook for growth and inflation, we will look for a red, five-minute candle following the decision to confirm a sell entry on two-lots of USD/CAD. Once these conditions are met, we will place our initial stop at the nearby swing high or a reasonable distance taking volatility into account, and this risk will establish our first target. Our second target will be based on discretion, and we will move the stop on the second lot to breakeven once the first trade reaches its target in order to preserve our profit.
In contrast, fears of a protracted downturn paired with the recent appreciation in the exchange rate could lead the central bank to take further steps to shore up the ailing economy, and the Canadian dollar could face increased selling pressures following the meeting if the BoC decides to ease policy further. As a result, if policymakers adopt unconventional tools to stimulate economic activity or continues to see a risk for the rise in the Canada dollar to hamper the prospects for a sustainable recovery, we will favor a bullish outlook for the USD/CAD, and will follow the same strategy for a long dollar-loonie trade as the short position mentioned above, just in reverse.