A Study Of Money Flows In The United States Trading Forex – Intervention in Canada?

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Trading Forex – Intervention in Canada?

The financial panic of 2008 caused the value of many currencies to fall dramatically. In search of a safe haven. Investors and speculators alike scrambled for the safety of the US dollar. At the same time the last phase of the carry trade unwind lifted the Japanese yen and put additional pressure on all other currencies. As a result, many of them fell dramatically, with some reporting 40%-50% declines. Huge moves by currency trading standards.

This year money began to flow out of the dollar as global financial markets normalized. Once again market participants are willing to take on a little extra risk in search of increased returns. This, over time, has benefited many currencies that were hit hardest in the pre-market downturn. Rising confidence has slowly, but surely, pushed higher commodities such as crude oil. This had a positive impact on commodity currencies such as the Canadian, Australian and New Zealand dollars.

Despite rising investor confidence around the world, economic conditions are far from normal. Unemployment continues to rise, economic output is below the mark set in previous years, and credit is tight. All this, even as central banks in most countries flooded financial markets with quantitative easing and cutting interest rates to record lows. In this environment, some governments have found the strength of their own currency to be a competitive disadvantage and are taking steps to eliminate it.

The Swiss National Bank was the first to take action. After repeated warnings, the SNB intervened in the open market by selling franc and denominated securities. This has happened at least three times in the last few months. We don’t know if this action achieved the results the central bank sought, but one thing is certain – the Swiss franc did not make any new highs. Since Switzerland’s monetary authorities have not issued any new statements about it, we can assume that they must see it as a success.

Recently the Bank of Canada has been very vocal about its currency. The Canadian dollar has appreciated a lot over the past few months, gaining 20% ​​against the US dollar. This worries officials, who claim that a strong currency is a major threat to economic growth or recovery. Officials have repeatedly said the Bank of Canada will take steps to mitigate the impact if that happens.

Such announcements are meant to influence market sentiment. The Bank of Canada is hoping to convince market participants that buying CAD is risky. This will have the desired effect without the active involvement of the bank. If this solution falls short, however, they have to do something physical about it. Which may not be as easy as it seems.

Interest rates in Canada are already at a historic low of 0.25%. Lowering the rate makes the currency less attractive for speculative purposes, but in this case there is no room for maneuver. This means that actively selling CAD on the open market is the only viable option. No doubt the BoC wants to avoid this as much as possible, as interventions are costly and the long-term effects difficult to predict.

When will the play of words turn into action? Currently, as of late August 2009, the USD-CAD rate is below the 1.1000 level. It is almost certain that the all-time high of 0.9000 two years ago is safe. The logical line in the sand is 1.0000, parity. This is a very important mental level. If, despite the BoC verbal campaign, the exchange rate falls below 1.0500, the likelihood of intervention will increase sharply.

No one knows how committed Canadian fiscal officials are to their goals. However, given what happened in Switzerland, they can. Does this mean one should avoid trading the Canadian dollar on the long side? No, traders should stick to their strategies, but stop/loss orders are more necessary than ever. Especially if USD-CAD is trading below 1.0500 and close to parity.

Either way, we’ll have some intriguing questions for the couple to answer. First, how effective is the central bank’s warning campaign? A move above 1.1000 may end all talk of bank involvement. If that fails, and the loonie continues to strengthen, we will know how serious the Bank of Canada is about intervention. Will they deliver? The puzzle will be solved in the next few weeks.

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