Trading the News: Bank of Canada Interest Rate Decision

What’s Expected:

Time of release: 01/17/2012 14:00 GMT, 9:00 EST

Primary Pair Impact: USDCAD

Expected: 1.00%

Previous: 1.00%

DailyFX Forecast: 1.00%

Why Is This Event Important:

The Bank of Canada is widely expected to keep the benchmark interest rate at 1.00% in January, but the statement accompanying the rate decision could prop up the loonie should the central bank endorse a neutral policy stance for 2012. As we anticipate the BoC to talk down speculation for additional monetary support, easing bets for lower borrowing costs is expected to instill a bullish outlook for the Canadian dollar, and central bank Governor Mark Carney may reiterate the comments seen back in December as the region is expected to expand at a more moderate pace this year. However, as the ongoing turmoil in Europe threatens the global recovery, Mr. Carney may continue to highlight the external risks surrounding the region, and the central bank head may open the door to expand monetary policy further in an effort to shield the economy.

Recent Economic Developments

The Upside

The Downside

As the rise in global trade raises the outlook for region, the stickiness in price growth may encourage the BoC to maintain its wait-and-see approach throughout 2012, and the USD/CAD may continue to retrace the rebound from December (1.0075) as the central bank concludes its easing cycle. However, the slowdown in private sector activity paired with the recent weakness in the labor market may lead the BoC to adopt a dovish tone for monetary policy, and the central bank may show an increased willingness to bring down the interest rate from 1.00% in an effort to encourage a sustainable recovery. In turn, the recent decline in the USD/CAD may taper off, and the exchange rate may quickly give back the decline from earlier this month as market participants raise bets for additional monetary support.

Potential Price Targets For The Rate Decision

How To Trade This Event Risk

Beyond the rate decision, the policy statement promises to spur volatility in the exchange rate, and we may see the Canadian dollar continue to appreciate against its U.S. counterpart should the central bank maintain a neutral tone for monetary policy. Therefore, if the BoC continues to curb speculation for lower interest rates, we will need to see a red, five-minute candle following the statement to generate a sell entry on two-lots of USD/CAD. Once these conditions are met, we will set the initial stop at the nearby swing high or a reasonable distance from the entry, and this risk will establish our first objective. The second target will be based on discretion, and we will move the stop on the second lot to breakeven once the first trade reaches its mark in order to preserve our profits.

On the other hand, the BoC turn increasingly cautious towards the economy as the heightening risk for contagion threatens the world financial system, and the central bank may see scope to further expand monetary policy in an effort to stem the downside risks for the economy. As a result, should Governor Carney talk up speculation for a rate cut, we will implement the same strategy for a long dollar-loonie trade as the short position mentioned above, just in reverse.

Impact that the Bank of Canada Interest Rate Decision has had on CAD during the last meeting

December 2011 Bank of Canada Interest Rate Decision

As expected, the Bank of Canada kept the benchmark interest rate at 1.00% and maintained a neutral outlook for monetary policy as ‘there is considerable monetary policy stimulus in Canada.’ However, the BoC struck a cautious tone for the region as the ‘recession in Europe is now expected to be more pronounced,’ and went onto say that ‘the weaker external outlook is expected to dampen GDP growth in Canada through financial, confidence and trade channels’ as the sovereign debt crisis threatens the world financial system. In light of the recent comments, we expected the BoC to endorse its wait-and-see approach throughout the first-half of the 2012, but the central bank may open the door for additional monetary support as policy makers in Canada see the economy operating below capacity until 2013. Indeed, market participants showed a bullish loonie reaction to the policy statement, with the USD/CAD paring the advance to 1.0200, and the Canadian dollar continue to gain ground throughout the North American trade as the exchange rate ended the day at 1.0091.

--- Written by David Song, Currency Analyst

To contact David, e-mail dsong@dailyfx.com. Follow me on Twitter at @DavidJSong

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