Loonie gains haven status with only G-10 tightening forecast

Posted Dec. 05, 2011, at 7:02 p.m.

HALIFAX, Nova Scotia — Canada’s dollar is turning into a haven for foreign-exchange investors shunning European turmoil and seeking the safety of the United States without the budget deficits or political gridlock.

The currency, which underperformed nine major peers in Bloomberg Correlation-Weighted Indexes in the first eight months of the year, has rebounded, topping all except the U.S. dollar and yen since. As the United States struggles with a $1.3 trillion budget shortfall, AAA rated Canada may use rising commodity revenue and spending cuts to balance the budget within five years.

Bank of Canada Governor Mark Carney will be the only central bank leader in the Group of 10 countries to raise interest rates next year, according to forecasts compiled by Bloomberg News. Inflation has exceeded the bank’s 2 percent target for 11 months as the economy grows at double the pace of the Group of Seven nations. Canada’s six largest banks say the so-called loonie will gain versus the dollar even as the U.S. economy strengthens.

“There’s a North American story right now that is potentially very powerful,” David Watt, a senior currency strategist in Toronto at Royal Bank of Canada, the nation’s largest lender, said in a Nov. 28 telephone interview. If “you want less exposure to financial uncertainty and less exposure to sovereign risk, then Canada has got a number of beneficial features,” he said.

The loonie, known for the aquatic bird’s image on the dollar coin, will appreciate to parity with the greenback by the end of next year, Watt said. Toronto-Dominion Bank, the country’s second-largest lender, sees it rallying to 95 cents per U.S. dollar by then after weakening to C$1.09 in the first quarter. Bank of Nova Scotia, the third-largest, predicts it will strengthen to 98 cents.

While the currency has lost 2.9 percent since the start of the year, the most among 10 currencies tracked in Bloomberg Correlation Weighted Indexes, it’s up 2.1 percent in the past three months. Only the U.S. dollar, up 5.5 percent and the yen, 2.1 percent higher, have strengthened more.

“Despite external headwinds, the Canadian economy has shown a fair amount of resilience, underpinned as it is by a stable and healthy banking sector and solid fiscal position” Robert Sinche, global head of currency strategy at Royal Bank of Scotland’s securities unit in Stamford, Conn., and another analyst at the company, Farrukh Khan, wrote in a Nov. 29 research report.

Canada’s economy is growing at 3 percent, twice the average pace of Group of Seven and euro-area nations. Finance Minister Jim Flaherty pledged his Conservative Party government will eliminate the budget deficit, forecast at C$31 billion this fiscal year, by 2015. The U.S. deficit is $1.3 trillion, or 9.6 percent of output. Canada’s budget deficit is 4.3 percent of output.

Banks in Canada were named the soundest for a fourth year by the World Economic Forum. RBC, TD, Scotia and CIBC reported last week that fourth-quarter profit rose an average 43 percent. The companies didn’t require bailouts during the 2008 financial crisis and weren’t among the global banks downgraded by Standard & Poor’s on Nov. 29.

Carney will raise the Bank of Canada’s policy rate by 25 basis points in the fourth quarter next year to 1.25 percent, according to the weighted average of 21 forecasts compiled by Bloomberg News.

The Federal Reserve has pledged to keep rates unchanged until at least the middle of 2013. The European Central Bank will cut rates next quarter, while the Bank of England, the Swiss National Bank and the Bank of Japan will stay on hold through 2012, economists surveyed by Bloomberg predict.

Concern the U.S. economy would sink into a recession made the loonie the worst-performing G-10 currency after the U.S. dollar since the middle of 2010.

“Sentiment had turned so incredibly bearish on the U.S. economy that the potential for more positive surprises going forward will help the Canadian dollar,” said Camilla Sutton, head of currency strategy at Bank of Nova Scotia’s Scotia Capital in Toronto.

Not everyone agrees. Canada’s currency shouldn’t be considered a haven because of its relationship to U.S. stocks, according to Shaun Osborne, chief currency strategist at Toronto-Dominion Bank’s TD Securities unit.

“It can’t really be considered to be a safe haven in terms of somewhere to go in times of uncertainty because in times of uncertainty it tends to underperform, which is not what a safe haven is supposed to do,” Osborne said in a Nov. 28 telephone interview. “The Canadian dollar is still very much attached to risk assets.”

Traditional havens have been undermined by central bank intervention. The Swiss National Bank has pegged the maximum franc rate at 1.20 per euro, while Japan’s estimated 8 trillion yen intervention knocked the currency down more than 4.5 percent against the dollar during intraday trading on Oct. 31.

“Canada represents a commodity proxy, a stable government and a stable banking industry,” said Jack Spitz, managing director of foreign exchange at National Bank of Canada in Toronto, the country’s sixth-largest bank, in a Nov. 30 telephone interview. “As America goes, so Canada goes.”

Ilan Kolet, Paul Badertscher and Andrew Mayeda in Ottawa, Sean B. Pasternak, Doug Alexander and Colin McClelland in Toronto and Kristine Aquino in Singapore contributed to this report.

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