The Northern Currency Headed North

bird loon
Winfried Wisniewski | Image Bank | Getty Images

With volatility so low in the foreign exchange markets, how is an investor supposed to find a currency with real direction?

Look north.

That's the view of Camilla Sutton, chief currency strategist at Scotiabank. In her forecast for 2013, Sutton told clients that several factors will likely combine to push the Canadian dollar higher against the U.S. dollar.

For one thing, she says, central bank policy is relatively hawkish in Canada. "The domestic economic backdrop combined with external risks do not justify tighter policy in Canada," she says. "However, risks associated with the household sector continue to plague the BoC and their views of financial stability. Regardless of whether BoC policy is viewed as hawkish or neutral, juxtaposed against Fed policy it suggests USD weakness and CAD appreciation."

Then there is the relative fiscal position of the two countries. Both are running annual deficits, but the U.S. has "no credible fiscal plan to move the US close to a balanced budget." (See, for example, the scuttling of House Speaker John Boehner's "Plan B.")

Oil prices are expected to rise, Sutton says, which should also help the loonie, but the prospect of increased U.S. production makes the impact of oil on the Canadian dollar more of a neutral.

But Canada wins on the political front, she says. "U.S. politics, particularly when it comes to issues such as fiscal planning and the debt ceiling, are likely to position Canada more favorably from a currency perspective; with the exception of short and temporary spikes in risk aversion which cause USD strength — however, these typically only interrupt and do not turn a trend."

Putting it all together, Sutton expects the U.S. dollar to slide against the loonie to 0.96 by the fourth quarter of 2013.

O, Canada, indeed.

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