October 13, 2016 / 2:12 PM / 2 years ago

C$ link to oil seen broken until after U.S. election, rate move

TORONTO, Oct 13 (Reuters) - The Canadian dollar’s normally tight link with the price of oil, which broke down in September, likely will not reassert itself until after the U.S. election and a potential interest rate hike by the Federal Reserve, currency strategists say.

Oil is a major Canadian export and the currency often tracks its price. But the Canadian dollar weakened to a six-month low of C$1.3315 against the U.S. dollar on Friday despite a deal by the Organization of the Petroleum Exporting Countries to limit output which lifted oil above $50 a barrel.

The currency was around C$1.2700 when oil climbed above $50 a barrel in early June.

“Other fundamentals have taken over. The interest rate differential is part of that and I think the Trump premium is part of that,” said Greg Anderson, global head of foreign exchange strategy at BMO Capital Markets.

Republican presidential candidate Donald Trump has said he would renegotiate or scrap the North American Free Trade Agreement if elected, posing a risk to the Canadian economy.

The weaker relationship between the Canadian dollar and oil will continue until after the U.S. election and until the Federal Reserve raises interest rates, said Jack Spitz, managing director of foreign exchange at National Bank Financial.

Markets have priced in about a 70 percent chance of a Fed hike in December, helping to push the U.S. dollar on Thursday to a seven-month high against a basket of major currencies.

The Bank of Canada is seen on hold until 2018.

The three-month rolling correlation between the Canadian dollar and oil reached 0.8 in early September, according to Reuters data, indicating that the currency and the commodity move mostly in the same direction. It plunged to less than 0.1 on Thursday.

RBC Capital Markets expects firmer oil prices heading into 2017, but sees the Canadian dollar weakening to C$1.3400 by the end of the first quarter, said Mark Chandler, head of Canadian fixed income and currency strategy at the investment bank.

To be sure, the strong positive correlation between oil and the Canadian dollar has broken down before. It briefly turned negative after a wildfire in Alberta in May boosted oil prices but hurt Canada’s growth outlook.

Oil is unlikely to reassert as the dominant driver until after a Bank of Canada interest rate decision in January, said BMO’s Anderson, who thinks the central bank’s more dovish tone has played a part in the weaker correlation. (Editing by Bill Trott)

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