Crude-Oil Discount Narrows
By Ari Altstedter
December 11, 2013
The Canadian dollar rose for a sixth day as the discount the country faces on its biggest export, crude oil, reached its narrowest level in almost three months.
The currency gained against most of its 16 major peers after U.S. congressional negotiators reached a budget agreement that will limit spending cuts and reduce the deficit. Canada’s currency weakened beyond C$1.07 per U.S. dollar last week for the first time in three years on speculation the Federal Reserve may let borrowing costs rise by tapering bond-buying even as the the Bank of Canada keeps interest rates low amid inflation below its target band.
“We’re getting a higher price for our oil exports and that’s a net benefit for Canadian producers,” Scott Smith, senior market analyst at Cambridge Mercantile Group, a global foreign-exchange and payments provider, said by phone from Calgary. “We got the sense that the run-up we saw mid-November to early December, where we touched up to the high of C$1.07, that the long U.S. dollar trade was a little stretched.” A long position is a bet an asset will rise in value.
The loonie, as the Canadian dollar is known for the image of the aquatic bird on the C$1 coin, added 0.1 percent to C$1.0590 per U.S. dollar at 5 p.m. in Toronto after rising to C$1.0585, the strongest since Nov. 29. The streak of gains is the longest since the six days ended March 27. One loonie buys 94.43 U.S. cents.
The discount Canadian oil producers face for their crude compared to U.S. benchmarks narrowed to $27, matching the smallest since Sept. 13, according to data compiled by Bloomberg.
“There’s been a lot of positioning towards shorting the CAD, so when it couldn’t sustain that break above C$1.07, it had a bit of a capitulation,” said Mazen Issa, Canada macro-strategist at Toronto-Dominion Bank’s TD Securities unit by phone from Toronto. “A lot of accounts are shorting the CAD and it seems to be the universal trade these days.” A short position is a bet an asset will decline in value.
Canada’s benchmark 10-year government bond fell, with yields rising three basis points, or 0.03 percentage point, to 2.64 percent. The 1.5 percent security maturing in June 2023 lost 26 cents to C$90.48.
The Bank of Canada auctioned C$2.7 billion of notes maturing in February 2017 today at an average yield of 1.316 percent and a bid-to-cover ratio of 2.71.
The loonie’s strength will be short-lived as it resumes its decline to C$1.10 per U.S. dollar as rising U.S. interest rates makes that country’s bonds more attractive than Canada’s, Sebastien Galy, as senior foreign-exchange strategist at Societe Generale SA wrote today in a note to clients. Lower oil prices fueled by less demand and increased supply will also contribute to the country’s worsening trade balance and weigh on the currency, Galy wrote.
Amundi Asset Management, which manages 759 billion euros ($1 trillion), said it is using the Canadian dollar to fund carry trades in the Indian rupee and the South Korean won because of Canada’s relatively low interest rates, James Kwok, the firm’s London-based head of currency management told Bloomberg News.
A carry trade involves borrowing funds in one currency to invest it in another, benefiting from the difference in interest rates.
Futures traders’ bets the loonie will fall against the greenback rose to the highest since May, figures from the Washington-based Commodity Futures Trading Commission show.
The difference in the number of wagers by hedge funds and other large speculators on a decline in the Canadian dollar compared with those on a gain — so-called net shorts — was 41,583 on Dec. 3, the highest since the week ended May 14.
The cost to insure against declines in the loonie versus its U.S. counterpart touched the lowest in seven months, with the three-month 25-delta risk-reversal rate dropping to 0.98 percent. The average this year is 1.26 percent. Risk reversals measure the premium on options contracts to sell Canadian dollars versus buying U.S. contracts that do the opposite.
Implied volatility for three-month options on the U.S. dollar against its Canadian peer fell to as low as 6.43 percent on an intraday basis, the lowest point in two weeks. The measure is used to set option prices and gauge the expected pace of currency swings. The 2013 average is 6.7 percent.
The Canadian dollar has risen 0.4 percent this week against nine developed nation currencies tracked by the Bloomberg Correlation-Weighted Index. The Swiss franc increased the most, at 1 percent, while the U.S. dollar has declined 0.3 percent.
The limited agreement by the U.S. lawmakers seeks to end three years of political gridlock in Congress over spending and revenue that culminated in a 16-day government shutdown in October. Congressional approval ratings in opinion polls have tumbled amid the regular partisan standoffs over the budget.
Fed policy makers, who meet Dec. 17-18, are considering reducing debt purchases “in coming months” if the economy improves as expected, minutes of the central bank’s last session released in November showed. The Fed buys $85 billion of Treasury and mortgage debt each month to support the economy by putting downward pressure on borrowing costs.
Bank of Canada officials kept the benchmark rate on overnight loans between commercial banks at 1 percent on Dec. 4, where it’s been for more than three years, as central-bank Governor Stephen Poloz warned of the risks of low inflation.
“If we look over the last week, we’ve had fairly good data from China, we’ve had good data from the U.S., we have a global economy that’s probably coming in stronger than most people expected,” said Camilla Sutton, head of currency strategy at bank of Nova Scotia, by phone from Toronto. “All that’s positive for world growth and the CAD.”
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