USD/CAD juggles around 1.3540 despite a sell-off in USD Index and a recovery in oil price

• USD/CAD is demonstrating evidence of volatility contraction despite a perpendicular fall in the USD Index.
• The Fed is expected to pause the policy-tightening spell after a 25bp rate hike in May.
• BoC Macklem seems not interested in raising interest rates further as inflation is consistently declining.

The USD/CAD pair is showing signs of volatility contraction around 1.3540 in the early Tokyo session. The Loonie asset has failed to show a power-pack action despite a breakdown move in the US Dollar Index (DXY) and a solid recovery in the oil price.

S&P500 futures ended Monday’s session on a flat-to-positive note after recovering overnight losses, indicating a cautionary approach in the overall positive market mood. Investors have decided to remain on the sidelines till the release of quarterly earnings from giant tech companies. The US Dollar Index (DXY) showed a perpendicular decline after surrendering the crucial support of 101.63.

A sell-off move in the USD Index also weighed on US Treasury yields. The demand for US government bonds rebounded as rising odds of only one more rate hike left by the Federal Reserve (Fed) eased cautious market sentiment. The yields offered on 10-year US Treasury bonds dropped below 3.50%.

Analysts at Wells Fargo see the Federal Open Market Committee (FOMC) raising rates by 25 basis points, on what they believe will most likely be the last rate hike in this tightening cycle. They point out that incoming data indicate that inflationary pressures remain acute. They further added, “We do not think the statement will fully close the door on further rate hikes, given that inflation remains well above target. Rather, the statement likely will include an acknowledgment that further adjustments in rates are possible.

Meanwhile, the Canadian Dollar is facing immense pressure as Bank of Canada (BoC) Governor Tiff Macklem seems not interested in raising interest rates further as inflationary pressures are consistently declining. However, BoC Governor has left room open for more rates if inflation continues to remain persistent.

On the oil front, oil prices showed a decent recovery backed by a sell-off in the USD Index and growing optimism that China’s May Day holiday will increase travel and fuel demand. It is worth noting that Canada is the leading exporter of oil to the United States and higher oil prices will support the Canadian Dollar.