08.07.202012:12 Forex Analysis & Reviews: Excessive optimism from investors weakens the Canadian dollar

Before the meeting of the Bank of Canada, experts recorded a revival in the market during operations with the Canadian currency. The Canadian dollar has repeatedly shown growth, but analysts are confident that it is overvalued and is on the verge of another collapse.

According to calculations by CIBC currency strategists, the fair price of the Canadian dollar should be 1.3900 in the third quarter of 2020. Currently, the USD/CAD pair is far from this indicator and is trading near the range of 1.3592-1.3593. On Wednesday morning, July 8, the pair began with a high bar 1.3610, but it went into a bearish spiral afterwards. CIBC experts focus on the overestimation of the Canadian dollar, believing that the situation could change dramatically after the Bank of Canada's meeting.

The next meeting of the Canadian regulator is scheduled for next Wednesday, July 15. The regulator intends to consider monetary policy issues, in particular, the key interest rate. The Central Bank of Canada kept the interest rate at the current level of 0.25% at the last meeting, held in June 2020. The regulator emphasized that he would continue large-scale asset purchases until the recovery of the national economy. The Central Bank of Canada is ready to stop these operations only after reaching the target inflation rate of 1% –3%.

The concern of the Canadian authorities is caused by a significant deterioration in business sentiment, recorded after the introduction of strict quarantine measures designed to slow down the spread of COVID-19. According to a report by the Bank of Canada, a key indicator of business sentiment is at a minimum. It is close to the figure recorded during the financial crisis of 2007-2009. Such a sharp decline has not been observed in the last decade, and this is very worrying for economists.

During the COVID-19 pandemic, analysts recorded a total slowdown in economic activity in the country. In the first quarter of this year, Canada's GDP fell 8.2% amid falling household spending and declining exports. The quarantine measures taken by the Canadian authorities to stop the spread of coronavirus added fuel to the fire. Due to the unfavorable economic situation, the Bank of Canada predicts a drop in real GDP of 10% –20% in the second quarter of 2020. Experts expect the regulator to continue the current monetary policy aimed at stimulating economic growth in the country. According to analysts, this will lead to a decrease in the Canadian dollar.

Several negative factors can substitute the "loonie" bandwagon, including a high probability of a second wave of a pandemic, a collapse in world commodity prices and a collapse in global stock markets. Last will be a stimulating program of the Bank of Canada, which will lead to a long and strong decline of the Canadian dollar. At the same time, experts say that the USD/CAD pair may benefit, rising to 1.3900 - 1.4000.

According to CIBC currency strategists, the recent growth of the Canadian currency, as well as other commodity currencies, provoked a surge of optimism about the recovery of the global economy after the COVID-19 pandemic. Another driver of its growth was the rise in the price of black gold. At the same time, the potential for further oil growth is limited, and current prices for raw materials do not contribute to an increase in production in Canada. According to CIBC estimates, before the pandemic in Canada, more raw materials were mined than in the post-crisis period. Moreover, experts consider the total weakening of the US currency across the entire spectrum of the market an additional factor in the rise of CAD.

At the same time, CIBC analysts stated that factors such as low trade and current account balances testify to the overvaluation of CAD. Before the coronavirus pandemic, experts recorded tangible growth in the Canadian economy, which was accompanied by a slight increase in real exports. The CIBC believes that this situation indicates the overvaluation of the Canadian dollar, which was formed in the pre-crisis period. Analysts concluded that the current negative situation has worsened the position of the "loonie", which will lose its gained position in the near future.