The Crude-Canada Dollar Connection: Buy Loonie Call Spread

The chart below is the front (rolling) crude oil contract overlaid on the Canadian dollar future.  Clearly correlated.  Obviously, many currencies have traded in lockstep with crude oil and other commodities as the USD has rallied.  The Canadian Dollar has not only suffered because of the oil bust in Calgary, but has likely seen declines in some of the money flows from Asia. 


The question becomes, “What will the catalyst be that will reverse these trends?”   In part, the US Federal Reserve’s stated intention to continue to remove accommodation has been a big factor in dollar strength/commodity weakness.  Next week on January 27, the FOMC will meet to consider monetary policy.  This meeting will not have a press conference.  However, the statement will still likely give a nod toward increased concerns about international stresses, and will act as a signal that the Fed will be extremely cautious about any further rate increases.  In fact, several Fed officials have already back-pedaled regarding intentions of further hikes, with Bullard and Dudley both citing concerns about market based measures of “inflation expectations.”  Code: WE ARE AFRAID OF HOW THE MARKET HAS REACTED TO OUR RATE HIKE. 

So what does this have to do with the Canadian dollar?  As you can see, since May the Canadian dollar has lost nearly 20% of its value vs the US Dollar.  Since the beginning of 2013, Canada has lost 32% of its value compared to USD.  The Bank of Canada meets Jan 20 to consider a possible rate cut.  My guess is that Poloz will hold steady.

I would suggest a modest counter trend trade in the Canadian Dollar.  Namely, consider buying CDH6 71/73 call spread which settled 0.22 vs CAH6 68.64.  Max risk is premium paid.  Max gain is 200 less premium paid which is 178 ticks, risk reward of 8 to 1.  These options expire March 4. 
NOTE that if the BoC eases, then it will likely be a short term negative for this trade.  That is why we are using March options and laying out relatively small premium amount.

Alex Manzara






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