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Why the loonie's still 'stuck in the mud' even as oil prices surge

Despite surging oil prices amid Russia's invasion of Ukraine, the loonie's value has depreciated since the start of the year.
looniestock
BMO's managing director of Canadian rates offers three explanations for the little movement on the part of the loonie.

The value of the Canadian dollar has remained stubbornly static even as gas prices surged to record highs over the past week. Metro Vancouver was home to the highest prices in North America at one point before trickling back down below $2 a litre over the weekend.

The loonie has often been described as a “petrodollar” — a currency whose value is tightly tied to oil price movements. As people stayed home at the outset of the pandemic and oil prices plummeted to US$17 a barrel in March 2020, the loonie came close to trading at USD$0.69.

The dollar eventually roared back and hit US$0.83 by May 2021 as the economy continued to expand and oil prices crawled upwards to US$65 a barrel.

But the dollar has remained muted amid surging oil prices — trading at US$109 a barrel as of Monday — brought on by Russia’s invasion of Ukraine.

TD economists noted last week the loonie has depreciated by 1 per cent since the start of the year at the same time the Australian dollar — another currency tied very much to the value of resources — has gained 1.3 per cent in value.

“The modest changes are surprising given the fact that oil has increased 44.4 per cent in 2022 and other commodities are seeing robust gains,” economists James Orlando and Brett Saldarelli said in a note Friday.

So why such little movement on the part of the loonie?

The last time West Texas Intermediate oil prices averaged US$100 in a month (July 2014) the loonie’s value managed to reach US$0.91, according to economist Benjamin Reitzes, BMO’s managing director of Canadian rates.

“So far in March 2022, oil has traded above [US$100] in all nine trading days. Meantime, the loonie remains all but stuck in the mud sitting around [US$0.78],” he said in a note Friday.

Reitzes offered three possible explanations:

  1. Little international interest in investing in Canada’s oil industry: “The past few years have seen foreign capital consistently exiting the oil sands. Given the challenges in building new pipelines and the ESG [environmental, social and governance] movement, it’s unlikely we’ll see a sea change in opinion back in favour of the oil sands.”
  2. The U.S. is a much larger oil producer now than it was a decade ago: "The relative benefit to Canada just isn’t as large as it once was."
  3. The reputation of the U.S. dollar has improved: “There was a broad move into Canadian dollar assets by global central banks in the years after the [2008 great financial crisis]. That’s just not the case in this cycle, with the U.S. dollar outperforming in the latest risk-aversion move.”

But Reitzes said the above explanations don’t discount the potential for the Canadian dollar to make a leap amid surging oil prices.

“Perhaps the market is just waiting to see if the jump in commodity prices is more than just a flash in the pan,” he said.

“If they are, there appears to be plenty of upside for the loonie, even if a run at parity seems extremely unlikely.”

Meanwhile, CIBC chief economist Avery Shenfeld said last week the bank expects “modest weakening” in the Canadian dollar in the upcoming quarters.

On the flip side, he also noted “should crude oil retreat from recent heights, it won’t promote as much of a softening in the loonie as we would have seen in the past.”

torton@biv.com

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