Market Insider

Loonie, peso fall on fears of U.S. trade war

Key Points
  • U.S. tariffs on Canadian lumber hit the currency market but analysts say it doesn't yet signal a broader trade war.
  • The Canadian dollar fell to a 14-month low.
  • The dispute over soft lumber dates back to the 1980s and has previously involved tariffs.

The Canadian dollar fell to a 14-month low and the Mexican peso was under pressure, after the U.S. slapped tariffs on the Canadian lumber industry, sparking fears the U.S. will get tougher on trade with the neighbors on its northern and southern borders.

A man holds Canadian Loonie and Toonie coins.
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However, analysts say the fears appear overblown since the U.S.-Canadian dispute over soft lumber dates back to the 1980s and has previously involved tariffs. They also say this is not an indication of broader protectionism that markets had feared could come from the Trump administration.

The fell nearly 1 percent against the U.S. dollar, while the peso was down more than 1.2 percent.

The action also comes as the U.S., Mexico and Canada are planning to begin renegotiating the North American Free Trade Agreement, which has been called unfair by President Donald Trump. Created in the early 1990s, the deal fostered the development of a large and complicated North American supply chain, especially between the U.S. and Mexico.

"NAFTA negotiations haven't even begun yet, and I think it'll maybe catch people by surprise. We all thought Trump was going to pick on Mexico," said Marc Chandler, head of foreign exchange strategy at Brown Brothers Harriman. The action comes after Trump vowed to defend U.S. dairy farmers against Canadian practices of controlling domestic production to support prices and putting tariffs on imports.

A man holds Canadian Loonie and Toonie coins.
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Last week, the Trump administration launched a trade probe against China and other countries that export cheap steel.

"I think it just shows these are outstanding issues they're going after hard," Chandler said. "These are outstanding issues from the Obama administration, and they are just playing harder ball."

TD Securities strategists said the tariffs had been expected by the industry and at an average 20 percent, were less than the 30 to 40 percent expected. They say the U.S. action is in response to what it views as unfair subsidies for the Canadian lumber industry in British Columbia, Ontario, Alberta and Quebec, where the government allows private firms to source trees from public land.

The TD strategists said they believe the U.S. dollar-Canadian dollar pair is pricing in too much risk of a larger trade war with the U.S. "With dairy and small scale macroeconomic issues and likely to have a spillover into the broader economy, we favor selling the USDCAD rallies," they wrote in a note.

Chandler said the U.S. dollar would react if there are actions that appear to be protectionist. But that's a double-edged sword. While it seems a negative that could cheapen the dollar, Chandler said there would be more foreign capital coming into the U.S. and that could drive the dollar higher.

"How I read this is markets were discounting a very benign scenario, and this is a wake-up call" said Andres Jaime, global foreign exchange and rates strategist at Barclays, adding the peso was being hit by the news about Canada. "The administration is willing to push for some changes in the way the U.S. trades. ... The general story hasn't changed that much. the U.S. is not ripping up NAFTA or something very extreme."'

Chandler said the Canadian dollar was weak before the announcement was made and speculators have been amassing a short in it. At CA$1.36, it was near CA$1.3575, the 50 percent retracement of a move to CA$1.47 last year, he said.

Besides currencies, U.S. homebuilder stocks moved on the news, declining in early trading Tuesday. But Canadian lumber companies, like Canfor, Norbord and Interfor were all higher, after the tariffs were seen as less severe than expected.