Things are looking upbeat for Canada’s economy. With the new budget set to be unveiled next week, the country is fresh off its third consecutive trade surplus. One major reason for Canada’s favorable trade balance is the low value of the Canadian dollar relative to other currencies. But if growth continues, will the Loonie remain cheap? We discuss the prospects for the Loonie and what it means for companies who do business in Canada.
When the global commodities market took a nosedive a few years ago, major producers like Canada were among those hardest hit. As demand slowed for the energy-heavy exports that Canada provided the rest of the world, the value of the Canadian dollar, or “Loonie”, also slipped after years of strong performance versus the dollar (the two currencies were once nearly at parity).
Things have turned around significantly since then. Commodities have rebounded, restoring Canada’s ailing trade balance. Prime Minister Justin Trudeau has promised policies that would help continue this growth. Soaring markets in the U.S.—one of Canada’s primary trading partners--have also helped spur on the Canadian economy. Just last week, the Federal Reserve announced that it would raise interest rates 25 basis points, a key policy change that anticipates further growth. And as the U.S. goes, so goes Canada, generally.
However--it remains to be seen what impact, if any, a renegotiated North American Free Trade Agreement (NAFTA) might have on US-Canadian trade relations. Trump’s protectionist rhetoric has largely spared America’s northern neighbor although any policy shift coming out of the situation with Mexico would likely have some impact on trade with Canada.
Until then, Canada’s currency looks remarkably cheap—at the time of writing, it was trading about 75 cents to the dollar, leading many to believe that it will rise again when the currency catches up to the economy’s growth prospects. For U.S. companies that have cash flow exposure to the Canadian dollar, the recent spread has been somewhat of a boon operationally, as Loonie-denominated costs have remained somewhat in check. But what happens when the Canadian Dollar inevitably closes the spread against its American counterpart? With more U.S. companies than ever exposed to Canada (especially small and mid- size organizations), the ability to forecast and analyze the effects of a rising Loonie will be critical to their bottom line.
With this in mind, there are a few things, financial officers can do to prepare:
· Data, Data, Data: Given exchange rates’ volatility over the past few years, corporate financial departments are increasingly equipping themselves with the types of forecasting and market monitoring tools that were once only available to active FX traders. Embedded in their financial management platforms are automated data feeds that can give both real-time, tick-by-tick, and historic FX rate information. Companies are increasingly relying on these high-speed data and analytics systems to manage their FX exposures.
· Forward Contracts for Commodities – As commodities rebound, the Canadian dollar will likely recover. For companies that have significant costs for say, oil, now could be a good time to lock in today’s prices (in today’s dollars) for future purchases.
· Rethink Financing Strategies – The US Fed has indicated it will continue to raise interest rates, and Canadian policy is likely to follow suit. As borrowing costs rise, so will the value of the Canadian dollar. For companies considering capital investment or refinancing activities, now might be a great time to map out a strategy while rates are still relatively low.