Timing a Break in the USD/CAD

From the desk of Steven Strazza @Sstrazza and Ian Culley @IanCulley

The US dollar can’t catch a bid.

Since briefly reclaiming its November highs last month, it’s been nothing but down and to the right for the US Dollar Index $DXY.

Many global currencies have reacted by catching higher – especially the euro. But commodity-centric currencies – like the Canadian and Australian dollars – have had a more muted reaction. We think that’s likely to change in the coming weeks and months.

With interest rates on the rise around the world and crude oil prices pushing above 90, we think it’s just a matter of time before we begin to see some real strength from these currencies – especially if we see a sustained downtrend in the USD.

Today we’re going to highlight one of these forex pairs, as we think it’s poised for a major move. Let’s talk about the USD/CAD.

Here’s a weekly chart of the USD/CAD cross:

You can see a clear multi-year double top formation on the weekly chart.

This bearish pattern has been on our radar for more than a year, but it still hasn’t resolved. Last spring, USD/CAD tested its former lows around 1.20 but rebounded higher instead of violating the breakdown level and completing this massive top.

After a steep decline from the 2020 highs, it makes sense to see price consolidate at this key level. This is perfectly normal price behavior and should be expected after such a strong move.

That brings us to today.

Since defending the former lows at 1.20, we’ve seen about eight months of corrective action which has taken the shape of a rising wedge. This pattern carries bearish implications when in the context of a preceding downtrend.

We want to err on the side of the underlying trend and prepare for the next leg lower in the USD/CAD pair.

Let’s zoom in on the daily chart for a closer look:

The mean-reversion move off last year’s low retraced about 38.2% of the drawdown from the 2020 high. This is standard counter-trend behavior.

Also notice how momentum registered a bearish divergence as price peaked and rolled over last fall. Both of these data points support a potential near-term reversal. Now we just need to see price undercut its pivot lows from last month for confirmation.

If and when price takes out the 1.245 level, we want to sell weakness with an initial target near the 2021 lows around 1.20. The completion of this rising wedge is likely to act as a launching pattern that takes price back to the breakout level of the larger multi-year double top.

What happens from there is what really matters from a structural perspective. A break below 1.20 would complete this massive topping formation and suggest that a primary trend reversal in favor of the CAD is underway.

It’s a possibility we want to be prepared for, but we don’t need to worry about it until we get there. For now, let’s focus on the short-term rising wedge.

Remember, we can’t put this trade on until we get a decisive break below the lows from last month. 

And if we’re shorting the USD/CAD, we’re most likely being rewarded for buying risk assets – especially commodities and the cyclical/value sectors like energy. A bullish move from the CAD would definitely be supportive of the new highs in crude oil as well.

The bottom line is this: Whether we plan on shorting this cross or not, a valid breakdown here would suggest broadening USD weakness and would be a bullish signal for stocks and commodities.

We’ll be sure to keep you posted on how things shake out for the Canadian dollar.

Stay tuned!

As always, let us know what you think.

And be sure to download this week’s Currency Report!