Loonie forecast to bounce back amid NAFTA gains

TORONTO The outlook for the dollar has become far too gloomy, according to the currency’s top forecaster.

Lloyds Banking Group Plc expects the loonie to bounce after posting its worst start to the year against the U.S. dollar relative to its peers as pessimism lifts over the North American Free Trade Agreement and expectations for rate hikes from the Bank of Canada begin to creep back into the market.

“We’re seeing some progress on the NAFTA front,” said Gajan Mahadevan, a London-based strategist at the bank. “The risk to the Bank of Canada outlook is now probably skewed to the upside, especially after the recent jump in inflation.”

The loonie fell 2.6 per cent against the greenback in the first quarter, lagging 15 other major currencies tracked by Bloomberg, and traded around $1.273 per U.S. dollar Monday. It will advance 2.6 per cent to $1.24 by the end of this year and to $1.20 in 2019, according to Lloyds.

The currency has been under pressure this year as the economy slowed and investors cut bets for interest-rate increases. Concerns that negotiations to overhaul NAFTA would fall apart have also weighed on the currency, though as of last week, Lloyds’s optimism was looking well placed.

Lloyds is more bullish than other Canadian dollar watchers. The loonie will strengthen to $1.25 by the end of the year, according to a median of forecasts compiled by Bloomberg. And hedge funds and other speculators last month turned bearish on the currency for the first time since July, according to the data from the Commodity Futures Trading Commission.

Investors wager there’s a 22-per-cent chance of a rate increase at the central bank’s policy meeting on April 18, swaps trading suggests, down from 40 per cent two weeks ago, while a hike in July isn’t fully priced in. In his latest speech from March 13, Bank of Canada governor Stephen Poloz said the central bank’s latest decision to keep interest rates on hold reflected comfort with recent data.

Yet inflation in February accelerated to an annual pace of 2.2 per cent, the highest in three years, even as the economy contracted in January. Adding to the optimism, the Bank of Canada’s first-quarter survey of executives out Monday showed expectations for future sales have improved, with companies seeing continued signs of capacity constraints and labour pressures. The consumer confidence also rose, as shown by the weekly Bloomberg Nanos Canadian Confidence Index.

Bears say NAFTA could unravel and come back to plague the loonie. The currency will probably weaken up to $1.31 per the U.S. dollar over the next two quarters, according to Juan Perez, a Washington-based senior foreign exchange trader and strategist at Tempus Inc. “I don’t think the Canadian dollar has much that could improve its situation in the next six months.”