Richter survey of bank forecasts: Foreign exchange and interest rates

July 2017

Loonie surges 

Responding to the recent strength in the Canadian economy, July 12th saw the first rate hike in seven years. As a result, the Loonie traded at its strongest level since June 2016. At the date of publication, the currency pair traded at 78.93 US¢/CAD.

Given the more hawkish Bank of Canada sentiments, CIBC strengthened its CAD projections but notes a potential future risk in that if the Loonie runs too far, it could push back the timetable for future rate hikes. Desjardins is expecting the CAD/USD to stay around 75.0 US¢/CAD, even though the U.S. dollar could appreciate against most other currencies. Desjardins mentioned that serious protectionist measures, which were looming over the past few months, seem to be off the agenda now – as such, Desjardins took the pressure off of its inflation prediction. National Bank is even more upbeat about the Loonie’s prospects, and has increased its near term targets for the USD/CAD accordingly. Despite the improved outlook, TD highlights that there is still a risk where a disorderly correction of the housing market could have far-reaching implications, while NAFTA renegotiations and potential U.S. tax reforms continue to weigh on decision-makers. Desjardins shared TD’s unease regarding NAFTA and the housing market, and adds that high household debt could be a cause for further concern.

European Central Bank becoming less accommodating

At its June meeting, the European Central Bank (ECB) removed its forward guidance as it is no longer considering lowering its rates further; and is expecting the rates to remain at their current levels for an extended period of time. However, the ECB made it clear that it is ready to increase its Quantitative Easing program in an attempt to regain the path to inflation. The inflation rate for 2017, as well as the next two years, is well below the EBC’s 2% target. National recounts that the upside to the EUR should be limited amidst Brexit talks, and the ECB’s loose policies. However, CIBC suggests that Euro strength is on the horizon, and a reduction in monetary stimulus may be on the table by September. Desjardins highlights some concerns in the European economy including the elections in Germany, difficult negotiations in the UK over Brexit, and the lingering geopolitical instability. Overall, the surveyed banks anticipate the currency pair to trade anywhere between 76.0 and 78.0 EUR¢/CAD by December 2017. This is indicative of a strengthening EUR against the CAD from its current level at 78.93 EUR¢/CAD - suggesting a healthy pace of economic growth in the region.

Canada hikes rate

On July 12th, the Bank of Canada announced an increase in the overnight rate to 0.75% and tightened its monetary policy sooner than markets were anticipating. This is viewed as a normalization policy and the beginning of the reversal of the two rate reductions of 2015. The overall consensus amongst the surveyed banks is that the overnight rate will range in between 1.25% and 1.5% by Q4 2018, reflecting two to three additional 0.25% rate hikes. However, TD expects a cautious pace of a 0.25% hike roughly every six months, citing the embedded domestic risks that come with elevated household debt levels and a broader uncertainty around U.S. policy implications. 

2-year government bond yields surge

Following the rate hike announcement, Canada’s 2-year government bond yield surged to its highest level since 2013 to reach 1.2 percent. Compared to last month, all of the surveyed banks revised upward their forecasts for the Canada 2-year bond yield. TD highlights that earlier-than-expected rate hikes in Canada will reduce yield differentials with the U.S., thereby supporting a higher Canadian dollar. RBC, TD, National and Desjardins all cut their respective 2-year U.S. government bond yield forecasts. Despite the changes in forecasts and as before, the overall consensus for both Canada and the U.S. is that of gradually rising rates.

10-year government bond yields to rise

In both Canada and the U.S. yields on 10-year government bonds are expected to increase through 2018 although at a slower pace than what they were expecting last month. National cites the reason for the adjustment is the uncertainty about the inflation outlook. Desjardins highlights the Trump administration’s political difficulties as factors. RBC continues to anticipate the highest increases and is calling for the yield to rise to 2.85% and 3.40% by 2017 yearend in Canada and the U.S., respectively.  

Long bond yields to rise through to 2018 end

The range of long bond yields forecasts tightened for both Canada and the U.S. compared to that in our June publication. Consistent with previous monthly surveys, the forecasting banks are in consensus that long bond yields will continue to rise over the remainder of 2017 and through 2018. However, now, more than half the banks revised downward their forecast for the U.S. long bond yields by 2017 and 2018 year ends, with TD highlighting the weak oil prices as a reason for the decline.




Expert Showcase