Last week, financial markets were abuzz with rumors that Canada was preparing for the U.S. to exit NAFTA, the North American Free Trade Agreement. No official statement ever emerged and within three trading days the entire impact of the scare reversed. For example, the rumors weakened the Canadian dollar (FXC) significantly against the U.S. dollar and sent USD/CAD ripping off recent lows to challenge the downtrending 20-day moving average (DMA). At the time of typing, USD/CAD is back where it was before the rumors.
The Mexican peso reacted much less strongly to the rumors. In fact, the resulting strength in USD/MXN was completely reversed the very next day. The weaker response from the peso had me doubting the veracity of the rumors (+0.7% USD/CAD versus +0.4% USD/MXN by the end of the U.S. trading day). Ironically, USD/MXN was pivoting right around the level where it traded when President Trump apparently softened on NAFTA last April. USD/MXN ended the week even lower and with a very important breakdown below its 50-day moving average (DMA).
I have been waiting for this breakdown to validate my stubborn hold on my now long-standing short position on USD/MXN. When I last wrote about the peso, I recommended that short-term traders close out shorts. That advice appeared a bit premature after USD/MXN continued lower toward its 200DMA. However, in another few weeks, USD/MXN soared right through resistance.
The NAFTA scare stopped me out my short USD/CAD position (ironic that NAFTA jitters convinced me in August to reduce my trading in the Canadian dollar and Mexican peso). I was starting to build the short after USD/CAD promptly reversed the drop from the bullish Canadian employment report. I was reluctant to re-establish the position after the currency pair began sinking again. Instead, I decided to go long USD/CAD ahead of this week’s monetary policy decision from the Bank of Canada (BoC) (Wednesday, January 17th). I cannot imagine the BoC hiking rates ahead of the NAFTA meeting (January 23rd to 28th) with these kinds of jitters in the air. Indeed, it is possible the main point of last week’s rumors was to prime the BoC with an excuse to go soft on monetary policy. According to Bloomberg, the odds of a BoC rate hike plummeted from 84% to 57% in the immediate wake of the rumor. A White House official reportedly informed the press that the President had no change in position, and this news pushed the odds back to 80%.
If I am right, USD/CAD should bounce right back. If not, I will stop out another position.
Note that speculators are still keeping net longs on the Canadian dollar and the Mexican peso very low. This positioning confirms the presence of a heightened sense of risk in these currencies despite the tailwinds of strong economic reports in Canada and very strong oil prices.
Be careful out there!
Full disclosure: long USD/CAD, short USD/MXN