Conventional wisdom holds that the economic slowdown in China and other parts of booming Asia may hurt the currencies of commodity-exporting countries like Australia and Canada. But a growing number of analysts see a possible advantage in those currencies, especially the Canadian dollar, which was trading at about 97 U.S. cents in mid-September. Although the outlook for the U.S. dollar is strong, these analysts predict a bright future for the loonie against the euro, the Japanese yen and even the British pound.
One positive sign for the Aussie and Canadian dollars is the International Monetary Fund’s new reporting system for foreign currency reserves. Previously, the fund lumped those two currencies into the “other” category, but since late 2012 it has broken them out alongside the U.S. dollar, the euro, the pound, the Swiss franc and the yen.
Central banks held $94 billion of reserves in Canadian dollars in the first quarter of 2013, according to the IMF, up $4 billion from the fourth quarter of 2012. They held $98 billion in Australian dollars, up from $89 billion the previous quarter. The biggest loser was the euro, which fell from $1.45 trillion to $1.43 trillion. Analysts believe that central banks’ purchases of Canadian and Australian dollars might help underpin those currencies even if they lack fundamental advantages. “The Canadian dollar is particularly strong when you think of it in the context of the world reserve diversification theme,” says Jonathan Lewis, CIO of New York–based Samson Capital Advisors, which has $7 billion under management.
Lewis notes that Canada is one of the few nations left with a triple-A sovereign credit rating and a relatively low debt-to-GDP ratio, of 80 percent. He also likes Canada’s short-term Treasury rates: Six-month bill rates stood at 1.02 percent in mid-September, compared with 0.03 percent on their U.S. counterparts, while the one-year rate was at 1.12 percent versus 0.10 percent in the U.S. And many analysts think the Bank of Canada will begin tightening interest rates sometime early next year to contain inflationary pressures.
“We’re forecasting that Canada is going to return to a normal monetary policy before the Fed and begin hiking rates as well before the Fed,” says Mark Chandler, Toronto-based head of fixed income and currency strategy at RBC Capital Markets, referring to the Federal Reserve Board. Chandler argues that “it’s easy to overplay the China card for Canada,” suggesting some investors pay too much attention to the country’s commodity exports. That factor might be valid for Australia, which exports mainly base metals, he says, but Canada’s exports of crude oil depend more on developments in the U.S. economy than on Asia.
Camilla Sutton, chief currency strategist at Bank of Nova Scotia in Toronto, reckons that the benefits of a U.S. economic rebound should easily outweigh any damage done by declining commodity exports. “Our economies have been tied at the hip for decades, and over 70 percent of our exports are U.S. bound,” she says. “What’s good for the U.S. is typically good for Canada.” Sutton expects near-term weakness in the Canadian dollar against the greenback but sees the loonie gaining strength in 2014 thanks to a stronger national economy and Canadian interest rate hikes. More important, she forecasts that the Canadian unit will rise significantly against the euro, the yen and the pound by year-end, following its tendency to do well against cross currencies when the U.S. dollar is strengthening.
RBC’s Chandler sees the euro peaking in the third quarter before it slides against the loonie; the yen should weaken marginally versus the Canadian at the same time, he says. He expects the loonie to fall to 93.4 U.S. cents by early next year, then bounce back to about 98 cents.
Although the Canadian currency is a long-term play, for those who want to avoid the U.S. dollar, it’s a good proxy for the coming economic rebound in North America. • •
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