Impact of the Canadian Dollar if the Bank of Canada Cuts Interest Rate January 2016

Rahim Madhavji, President & Currency Strategist at Knightsbridge FX, joins BNN to discuss the what a rate cut could mean for the Canadian dollar, and how the loonie is impacting consumers and manufacturers.

Source: BNN – Watch TV Online | If the BoC cuts rates, the loonie could be devastated: Madhavji

If the Bank of Canada cuts interest rates this week, we could see a sharp and immediate drop in the loonie, for more on the direction of the Canadian dollar, we’re joined by Rahim Madhavji, he’s a currency strategist at Knightsbridge FX.

What do you see in terms of the banks actually cutting interest rates?

Well if the Bank of Canada starts to cut rates, we’ll obviously see a sharp drop in the Canadian dollar.  Because flows of funds will move out of Canada and into the US, we’re going to see a pretty sharp drop in the Canadian dollar.  There’s about a 50 percent probability that’s going to happen but I think in the short term, whether it’s this week or the next couple of months we’re going to see a Bank of Canada rate cut.  The drivers that are causing that is pretty much oil prices and that’s going to cause the Bank of Canada to get pretty upset because oil prices is dropping to below $30 a barrel which is way below their estimates.

What makes you believe that they would still cut a rate as opposed to already being priced in?

I think for the most part, the follow through of what we’re going to see with oil prices continuing to fall and the ripple effect that’s going to have out west into the broader economy.  Last year we saw the Bank of Canada start to act in advance, they called in insurance and they wanted to act in advance in ensuring that the economy could weather the storm and I think the same story and the same channels will follow through here.

So I think we’re going to see the Bank of Canada say look, we thought oil prices were supposed to get back to 60 dollars a barrel, that’s what they said last year, it’s nowhere close to that and I think the falling oil prices are going to ripple through the economy.  We’re having job losses out west and they are going to again try to ensure that the Canadian economy is protected by lowering rates; that’s the only real catalyst they have in the short term.  Whether they do that this week or next month, we think it’s inevitable that the Canadian dollar will grind lower in the next little bit.

What’s your outlook this year for the Canadian dollar?

So I think in the short term, we’re going to see oil prices continue to weaken a little bit.  We’ll see the loonie fall a couple more cents from where we are at right now, to around 67-67 cents; not too far from where we are at today, a lot of it is priced in already and that’ based on the fact that oil prices will fall a little bit throughout the year.  I  think towards the end and towards the middle of next year, we’ll see oil prices start to rebound.  That’s going to help the Canadian dollar start to benefit as well.  So in the short term, a lot of pain for those that need to buy US dollars and in the longer term they’re going to be a little bit better off than where they are at today.

Where are you seeing this pain take place?

For example, a lot of the snowbirds that typically head south around this time have either bought some currency in advance or are buying it now.  Our phones are ringing off the hook because they don’t want to wait until the Bank of Canada announcement which is basically going to happen this week.  We don’t know what the Bank of Canada is going to do but they just want to buy it in advance, they don’t focus on the markets all the time but they’re definitely impacted by it.

Two and a half to three years ago, people were buying properties at par and now it’s a lot off that number.  We’re also seeing Canadians that are buying US real estate either delay their purchases and extend their closing if it was going to happen in the next couple of months because the dollar has moved so viciously in the last little bit.  When they made the contracts to buy US dollars and purchase US real estate what they thought they were buying it at the cost in Canadian isn’t anywhere close to what it’s going to be at the end of this month and that’s causing a little bit of a delay.

We’re also seeing students that are studying abroad and the parents paying tuition in US dollars, they’re cringing as well.  They went to school two years ago and all of a sudden when it was at par it was great and all of a sudden it’s not doing that well.

A lot of consultants that get paid in US dollars, they’re pretty happy, they basically have a bonus from 10-20 percent just from being paid in US dollars while working in Canada, so they’re pretty happy when they call us.

What are the manufacturers telling you right now, the small businesses that would be clients of yours because we talk so much about the benefits that they would have in terms of selling or their sales in US dollars, but what about those import prices for them?

A lot of importers that we speak to, you can feel that they are extremely upset with what’s going on with the loonie.  A lot of them are going to be out of business, especially in the short term.  They’re basically saying they cannot compete by buying in US dollars like they use to.  They’re getting to levels now where it’s too expensive to be importing and selling locally, so they really have to adjust their whole new business model.

Two to two and half years ago it was at par, and now it’s 30-40 cents weaker and they have to have a whole new business model.  Whereas tech companies that got paid in US dollars, anyone that is selling into a broader market, the exporters are aggressively advertising and trying to attract customers in the US to attract that type of US dollar revenue because they make such a great return on it.

Those companies, those small businesses that you say might go out of business, what sectors are they in? What are they selling?

It really varies, and I think a lot of it is based on the management teams as well.  For example, importers of agricultural products or health and safety products, their supply chain was specifically built on buying in US dollars from competitors abroad or from supply chains abroad.  They’re no longer able to compete with those that are manufacturing locally because they’re now importing and the prices have gone up a lot and they’re saying that their margins are being squeezed completely tight.

This is just a game of how long they can wait until the dollar rebounds before they’re back in business but that’s the nature of the beast if you’re in the importing game. This is the nature of the beast that you have to play with and as a business owner you need to start thinking about this, if you haven’t already thought about this now then you are probably already too late.

If the loonie goes lower, are you going to be buying aggressively?

As a firm we don’t really take positions, but personally I think that in the short term, the loonie will grind a little bit lower, I think in the longer term it does have some upside so I am bullish on oil prices over the longer term and on the Canadian dollar over the longer term but in the short term we’re going to have a lot of pain for those that need to buy US dollars.