USD/CAD Belongs Sub-Parity Despite A Less Hawkish BOC‏

Looking at the signals from our short-term financial models, we currently observe several misalignments between spot levels and model estimates. Most misalignments are related to the JPY sell-off and the recent EUR rally. The euro has been the best performing currency within the G10 so far this year and the common currency has especially gained support from the move higher in EONIA rates. While misalignments in most EUR crosses are currently high, we also notice that relative rates have been the main driver behind the moves higher in our short financial model estimates. Hence, if the euro money market rates continue to increase or at least stabilise, most model estimates would probably move even higher, all things being equal.

The biggest misalignment is currently seen in EUR/GBP, which trades 2.7 standard deviations above the model estimate. GBP/USD also trades with significant misalignment (currently 2.3 below estimate) and according to our short-term models there is a clear indication that the recent GBP sell-off currently looks overdone. The oversold signals from our short-term models are also evident in some technical indicators, such as the RSI index, which underlines that the risk of a temporary correction is high. However, from a fundamental perspective, there are some factors which we think justify the GBP sell-off. First of all, UK macro data has recently been weak and the risk of a new recession is high. Moreover, there is a real possibility that the new Bank of England governor, Mark Carney, might change the inflation target or even introduce a nominal GDP targeting policy. Hence, if the UK slips into recession once again, the possibility of significant monetary easing from the BoE and thus a weaker GBP is clearly present and we think that a long GBP position is a relatively risky bet at this stage.

The sell-off in the Norwegian krone also looks overdone as both EUR/NOK and NOK/SEK are currently trading with considerable misalignments relative to our short model estimates. However, from a technical point of view, neither of the currency pairs are in oversold/overbought territory, according to the RSI index and we prefer to look for more attractive levels to enter a long NOK position.

Trade idea: enter 1M USD/CAD 1.01/0.9995 risk reversal at zero cost
CAD has been under pressure since the less hawkish statement from the Bank of Canada last week and according to both our short-term model estimate and the RSI index, USD/CAD currently looks overbought. While we have to acknowledge that the increasing euro optimism among investors is weighing on some of the previously-favoured triple As such as CAD, we still look for CAD to profit from decent risk appetite in H1 and for the Canadian economy to benefit from the US recovery that we see underway. In our view, USD/CAD belongs below parity. Hence, we expect the USD/CAD upside potential to be limited from here and we suggest utilising the positive skew and entering a one-month risk reversal to position for a possible correction lower in USD/CAD. 1M USD/CAD risk reversal can be entered at zero costs by selling 1M 1.01 call option and buying 1M 0.9995 put (indicative, spot ref.: 1.0042).

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