USD/CAD flirts with daily low amid bullish crude oil prices, downside seems cushioned

• A combination of factors prompted some selling around USD/CAD on Monday.
• Bullish oil prices underpinned the loonie and acted as a tailwind for the major.
• A positive risk tone prompted USD profit-taking and added to the selling bias.

The USD/CAD pair extended its steady intraday descent and dropped to a fresh daily low, around the 1.2720 region heading into the European session.

The pair witnessed some selling on the first day of a new week and extended Friday's late pullback from the vicinity of the 1.2800 mark, or over a three-week high. Crude oil prices held steady near a multi-year high amid concerns about global supply shortages and geopolitical risks. This, in turn, underpinned the commodity-linked loonie and exerted some pressure on the USD/CAD pair.

On the other hand, a positive tone around the equity markets prompted some profit-taking around the safe-haven US dollar and further contributed to the offered tone surrounding the USD/CAD pair. That said, the prospects for a faster policy tightening by the Fed, along with elevated US Treasury bond yields should help limit losses for the buck and the USD/CAD pair, at least for now.

The markets now seem convinced that the Fed will begin raising interest rates in March and have been pricing in the possibility of five quarter-point rate hikes by the end of 2022. Moreover, short-term interest rate futures imply a 20% risk that the first hike could be 50 basis points. Conversely, the Bank of Canada disappointed investors anticipating an imminent start of the tightening cycle.

The fundamental backdrop seems tilted in favour of bullish traders and supports prospects for the emergence of some dip-buying at lower levels. Hence, it will be prudent to wait for a strong follow-through selling before confirming that the USD/CAD pair has topped out and that the recent strong rebound from the mid-1.2400s has run its course. This, in turn, warrants some caution for aggressive bearish traders and positioning for an extension of the intraday depreciating move.

Market participants now look forward to the US economic docket, highlighting the release of the Chicago PMI later during the early North American session. This, along with the US bond yields and the broader market risk sentiment, will influence the USD. Apart from this, oil price dynamics should provide some impetus to the USD/CAD pair and allow traders to grab some short-term opportunities.

Technical levels to watch