Woe Canada

Murmuration Nation

Currency traders are like a flock of starlings.

When starlings are frightened by a predator (usually a hawk) they group together in a tight swarm, sometimes by the thousands. This 'murmuration' of individuals takes on this protective form to provide a 'safety in numbers' effect, similar to schools of fish.

Swarming together is a reaction to threats. The current swarm of bearish Canadian currency traders is no different.

The threats to the Canadian dollar have taken on many forms over the last 10 years.

First it was Canadian bank solvency ratios, then it was the collapse of energy prices. Last year, NAFTA dominated the headlines. Now it's the 'bursting' housing bubble.

I can remember the '80s when it was about the Federal budget deficit but given the recent U.S. tax package, we're looking pretty good on that front now.

The predictably tiresome annual raids on Canada from the 'savvy' hedge funds (hey - isn't Paulson closing?) is centred around the weak housing readings released last week. A deconstruction of the data, adjusting for the effect of the Vancouver/GTA bias and the transition effect from the new ownership restrictions, would help calm nerves, but the negative headline was as far as most observers got.

A recovery in the spring selling season should stabilize that sentiment shortly. Unless there is a recession looming, Canadian homeowners are hard to hold back.

The currency's seasonality is currently negative but things usually start to look up by June. (see below)

Canadian Dollar Seasonality

Justin Trudeau, Canada's GQ cover PM, is not helping. The perceived economic lightweight, fresh from his Indian selfie tour, hasn't done much to generate investor confidence in Canada. Trump last week boasted of using the time honoured 'bullshit baffles brains' approach to renegotiating trade arrangements with the increasingly out-of-his-league Canadian leader. This is a case of 'if it was a fight, they'd stop it' when viewed from abroad.

Governor Poloz, in reacting to the economic uncertainty created by NAFTA, has moved to a dovish messaging on further rate hikes, thereby emboldening the Loonie doubters. Powell, the incoming U.S. Fed chair, has somehow generated a hawkish expectation for the future path of short rates. Watch the 'dot plot' closely this week for confirmation on that one. I'm skeptical.

So the Trump 'Trade War of 2018' has thrown bearish fuel on the NAFTA fire. Hedge funds have loaded their campfire sticks with short-position marshmallows to toast.

Here's the chart of the C$ over the past 28 years:

Canadian Dollar 1990-2018

Anybody see a trend? Or is it just a random series of 'V' shaped moves? We are just in the middle of a huge trading range whose median is $1.275.

That's what's wrong with analyzing currencies. They don't have a value that is absolute. They are like a 'pair' trade in hedgie speak. If you are long one thing, say Canada, you have to be short another, usually the U.S. That means you need to get both sides right to really profit.

Fair value, is a moving target, determined by, productivity trends, relative inflation and relative monetary policy positioning. All three of these factors have reversed in favour of the U.S. versus Canada, so we are justifiably on the defensive.

Canada's buck has underperformed the Mexican currency by over 10% lately (see below). Confusing, since Mexico is set to elect a left-leaning government later this year and has much more to lose in a re-jigged NAFTA than we do.

Plus, they gotta pay for that wall too.

Canadian Dollar relative to Mexican Peso (U.S.Dollar basis)

I don't know path of the C$ over the next few months as we lurch to a conclusion of the NAFTA soap opera. But I do know one thing.

The resolution of this threat, whatever form it takes, is all that is necessary for a restoration of some confidence in our beleaguered buck. The removal of the uncertainty is all that we need for a short term rally.

Fixing other drivers of the currency, like commodity prices (especially the 'captive' oil price), labour productivity, investment/GDP ratios and usual transitory political influences, will take more work.

I would have thought the steel tariff exemption and the appointment of Larry Kudlow, a pro-NAFTA free trader, to the Trump team would have helped the Loonie last week but that news was lost in the bearish trade headlines about China.

The traders gathered together last week and swarmed away from the Loonie like so many starlings afraid of a hawk... one that tweets.

Risk Model: 3/5 - Risk On

The model is barely hanging on to 'risk on' mode.

We have lost the VIX as a confirming variable now that the correction resumed Friday. The AAII bull/bear ratio recovered last week as I suspected but is likely to reverse on this week's bearish vibe.

I am frustrated by the lack of follow through in the commodity markets, especially copper.

I'm still out of the U.S. market entirely, having given up trying to chase the ever narrowing advance. Facebook yesterday was the beginning of the 'de-FANGing' process, but I need to see more before the 'rotation' trade from Growth to Value is confirmed.