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Summary: The Bank of Canada decided to hold off on raising interest rates during its meeting on Wednesday, keeping the overnight rate unchanged at 5%, in line with our expectations and market consensus.

Fundamentals

On Wednesday, policymakers led by Bank of Canada Governor Tiff Macklem decided to maintain the benchmark interest rate at 5%, the highest level in 22 years. This marks the third hold by the central bank in this tightening cycle, with rates having increased by 475 basis points since March 2022.

The Bank of Canada stated, "With recent evidence that excess demand in the economy is easing, and given the lagged effects of monetary policy, the Governing Council decided to hold the policy interest rate at 5%." However, officials remain concerned about persistent inflation pressures and stand ready to raise rates further if necessary.

While the pause in rate hikes and the accompanying statement indicate a willingness to wait and assess whether the deteriorating economy will bring price stability, officials remain wary of the ongoing inflation momentum. Maintaining this hawkish stance may prevent Governor Macklem from repeating the mistake of sending a clear pause signal as was done in January. That signal back then led to rapid market pricing for future rate cuts and reignited the Canadian real estate market.

Market watchers delving into the Bank of Canada's decision to keep the policy rate unchanged in the statement find that the central bank is confident it has done enough to gradually restore balance to the Canadian economy. The Bank of Canada is now in an observation phase, investigating the impact of past rate hikes on economic activity. The only remaining task is to wait. Once the Bank of Canada is satisfied with the economic slowdown, strong enough to support a return to the 2% inflation target, it may begin cutting rates. The earliest possibility for this could be in the first quarter of 2024.

The current level of interest rates is seen as restrictive by the Bank of Canada over time, enough to exert downward pressure on economic growth and inflation. The effects of the rate hikes are still accumulating.

The Bank of Canada remains highly data-dependent and will not hesitate to raise rates if necessary to bring inflation back to the 2% target level. However, with recent soft economic data in Canada persisting, the overnight rate is expected to remain at the current level until the end of this year.

Technical Analysis

The continued pause in interest rate hikes by the Bank of Canada is not favorable for the Canadian dollar. On Thursday, the USDCAD pair attracted some buying interest on dips, preventing a minor correction from the 1.3675 region the previous day. However, spot prices struggled to capitalize on the intra-day minor gains, remaining relatively flat compared to yesterday, with gains of less than 0.10% for the day. Meanwhile, recent trends appear firmly biased toward bullish trading, indicating that the path of least resistance for the USDCAD pair is to the upside.

However, an interesting situation has emerged on the charts for this asset, where the price has stalled after testing the 1.3650 resistance level. This level has previously acted as a reversal point multiple times earlier this year. Will we see another reversal after this recent stall in upward momentum?

Our perspective is that the probability of a major reversal in a longer time frame is low, but the potential for short-term retracements may have increased. After a period of consolidation, this asset may form a "three-drive" pattern with higher lows. In terms of trading strategy, buying the dips remains the primary strategy.

Trading Recommendations

Trading Direction: Long

Entry Price: 1.3565

Target Price: 1.3820

Stop Loss: 1.3470

Valid Until: 2023-09-21 23:55:00

Support: 1.3612, 1.3557, 1.3515

Resistance: 1.3675, 1.3695, 1.3716