USD/CAD dips back from session highs in 1.2660s to flat with traders reluctant to sell loonie pre-BoC

• USD/CAD has dropped back from earlier session highs in the 1.2660s to the 1.2640 area.
• The loonie and other risk-sensitive currencies remain highly sensitive to US equity market volatility.
• But traders may be reluctant to sell CAD ahead of Wednesday’s BoC rate decision.

USD/CAD has dropped back from earlier session highs in the 1.2660s to the 1.2640 area, to put it back to trading with Asia Pacific 1.2620-1.2650ish trading ranges. The loonie and other risk-sensitive currencies remain highly sensitive to US equity market volatility. Major US indices have been taking a beating heading into Wednesday’s Fed policy meeting, where the bank is expected to give the green light for as many as four rate hikes in 2022 and also the start of quantitative tightening. After recovering a more than 4.0% drop on Monday, the S&P 500 is reeling again on Tuesday and is down about 1.8%, meaning it is now more than 10% below its recent record highs and in correction territory.

At current levels in the 1.2630s, USD/CAD trades flat on the day, with the loonie holding up better versus the buck than the likes of the euro, Swiss franc, New Zealand dollar and Scandinavian currencies. Traders may be reluctant to sell CAD ahead of Wednesday’s BoC rate decision, where there appears to be an outside chance that the central bank surprises market participants with a 25bps rate hike. In a recent Bloomberg poll, seven out of 31 participants said they think the BoC will hike this week. A surprise hike would cut against the guidance that the bank has given in recent months; currently, the BoC sees the conditions for a rate hike being met in “the middle quarters of 2022”, implying a hike no earlier than April.

But last week’s hot Consumer Price Inflation report and strong quarterly Business Outlook Survey, which pointed to strong growth, high inflationary pressures and a tight labour market, all suggest a hawkish tweak to guidance is coming. In other words, it seems very likely that if the BoC doesn’t go with an outright rate hike on Wednesday, they will at the very least signal that a hike could be coming as soon as March. USD/CAD traders will thus have their hands full for the remainder of the week, juggling what are likely to be hawkish Fed and BoC meetings on Wednesday as well as an ongoing downturn in macro risk appetite. That suggests a mixed outlook for USD/CAD, with arguably some upside risk. Any break above Monday’s 1.2700 highs would open the door for a rally towards the next resistance around 1.2800.