C$ to pierce $1.50, but rebound seen by end-1998
09:15 a.m. Jul 24, 1998 Eastern
By Pratima Desai
LONDON, July 24 (Reuters) - Weak commodity prices mean the Canadian
dollar, now at record lows against the U.S. currency, is likely to test
1.50, but analysts say it is undervalued and anticipate a recovery by
the end of 1998.
I would be surprised to see the weakness sustained, but its difficult to
see a (Canadian dollar) recovery without a recovery in commodity prices,
said Jane Foley, currency strategist at Barclays Capital in London.
The Canadian dollar is undervalued if you take into account the relative
buoyancy of the economy -- compared to those of other commodity-based
countries -- and progress made on the budget deficit.
Last week Canadas Finance Department announced a federal budget surplus
of C$1.58 billion in April compared with C$1.45 billion last April. The
latter was restated from a deficit of C$3.41 billion.
Foley sees the Canadian dollar at 1.53 to the U.S. dollar in
three-months time.
The Commodities Research Bureau (CRB) Index has fallen by more than 20
percent since peaking in April 1996 at 263.79. On Thursday it closed at
207.51.
The Canadian dollar, lagging the CRB index, started its decline against
the U.S. currency in November 1996 from a high of $1.3263. It has since
lost more than 10 percent of its value and on Thursday it saw a record
low at $1.4971.
Signs of a slowdown in economic growth, as depicted by zero gross
domestic product growth in April from March, is another factor behind
the weak Canadian dollar.
Domestic demand is soft and it contrasts with strong domestic demand in
the United States, said Stephen Lewis, chief economist at Monument
Derivatives in London.
For that reason U.S. investors have been switching from Canadian dollar
securities to U.S. dollar securities.
Statistics Canada said, however, that foreign investors had returned to
the Canadian market in May, buying a net C$1.02 billion securities
compared with sales of a net C$3.51 billion in April.
Two months out, Lewis sees the C$ at 1.53 to the U.S. dollar, but by the
end of the year he expects it to rise to 1.45 as the benefits that
Canadian exports will enjoy through lower exchange rates feed through
into the domestic economy.
Supporting the Canadian dollar with higher interest rates is not seen as
an option by analysts, given the signs of a slowdown and inflation at
the bottom of the target range of one to three percent. Canadas call
rate range is 4.50 to five percent.
From the economic perspective the Bank of Canada does not need to raise
interest rates, but there has been some talk of a rate hike, said
Gianpaolo Mosconi, bond analyst at Sanwa International in London.
The Canadian dollar is undervalued at these levels. At 1.50 to the
dollar it is an excellent buying opportunity and should awaken
opportunities in the minds of the international investment community.
Sanwa forecasts the Canadian dollar at 1.47 to the dollar at the end of
September, and 1.46 for the end of this year.
If monetary tightening is not an option, one alternative already used by
the Canadian central bank is intervention.
I think the central bank will defend the 1.50 level. They tend to leave
orders overnight with other banks, said Nick Shamim, currency and bond
strategist at ANZ Investment bank in London.
If the Bank of Canada fails in its defence, Shamim predicts the Canadian
dollar will fall to around 1.55, possibly even 1.60, in three months
time, but by the end of the year he sees it back at 1.4850-1.4900.
Lewis at Monument Derivatives expects the central bank to use
intervention if the fall is too sharp.
They will be concerned if the decline turns into a rout, Lewis said. But
they are constrained by the low level of foreign exchange reserves.
Canadas finance department reported June foreign reserve holdings at
$19.974 billion, down from $20.564 billion in May.
Another factor favouring the Canadian dollar is that on a technical
basis it is oversold, analysts said.
And the C$ will pick up against the dollar in the fourth quarter of this
year, when we expect the Federal Reserve to cut rates as the Asian
crisis takes its toll on the U.S. economy, Shamim said.
Federal funds have been at 5.50 percent since March 1998.
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