Amid heightened geopolitical and fundamental risks, the safe-haven appeal of the US Dollar and the hawkish rhetoric of the Federal Reserve has allowed USD to strengthen against its major counterparts, limiting Canadian Dollar gains.
Although an influx of fiscal stimulus and low interest rates has softened the economic blow of the Covid-19 pandemic, commodity supply constraints have weighed on energy prices, driving inflation higher.
With the Fed and the BoC now implementing more aggressive monetary tightening measures, investors have priced in a series of rate hikes for both central banks, which will likely contribute to price action in Q2 if either bank diverges from the expected path.
I believe that the challenge for both the Fed and the Bank of Canada will be to ensure that the withdrawal of QE does not disrupt financial stability which (given the current fundamental backdrop) remains a challenging task.
Although I believe that commodity prices will support the CAD, there are a few scenarios that may unfold.
Firstly, if rising commodity prices and further sanctions against Russia persist, the commodity driven Canadian Dollar could regain confidence against the greenback, resulting in further downward pressure on the pair. With that being said, if the ongoing conflict remains unresolved, further intervention from global leaders and an escalation in the intensity of the war could see a rise in risk aversion, allowing USD to appreciate further.
USD/CAD Technical Analysis
From a technical standpoint, price action for Q2 may continue to trade within confluent zones, formed by the key Fibonacci levels of the historical move (2002 – 2007).
USD/CAD Weekly Chart
Chart prepared by Tammy Da Costa using TradingView
After rebounding off of the May 2021 low at the key psychological level of 1.200, USD/CAD enjoyed four months of consecutive gains before running into a wall of resistance around 1.263, the 50% retracement of the above-mentioned move. As price action currently remains muted around this level, prices remain well-below the 200-week MA (moving average) suggesting that the downward trajectory may continue to hold, providing an additional layer of resistance for USD bulls at around 1.305.
Although the CCI (commodity channel index) has fallen into overbought territory, elevated commodity prices may provide bears with enough momentum to drive prices back towards the October 2021 low of 1.23 with the next big level of support holding firm at 1.200.