April 28, 2011 / 1:23 PM / 7 years ago

Loonie softens as political risk weighs

TORONTO (Reuters) - The Canadian dollar drifted lower against the U.S. currency on Thursday, as uncertainty over the upcoming federal election offset broadbased weakness in the greenback.

Canada’s May 2 election has created headwinds for the currency in recent days as support for the left-leaning New Democrats unexpectedly surged.

The latest polls show the Conservatives are still set to win the most seats, but differ on whether its lead over the NDP was growing or shrinking.

“A bit of political uncertainty is probably really what’s getting headlines right now and that’s probably what’s keeping the Canadian dollar relatively unchanged and underperforming the major currencies,” said Benjamin Reitzes, an economist with BMO Capital Markets.

“Uncertainty is never good for the currency.”

Analysts warned that big gains for the NDP could trigger a knee-jerk drop in the currency and Canadian equity markets as investors fret about NDP plans to raise corporate taxes, spend more and redo energy policy.

“The election may well result in more, not less, political uncertainty, which could translate into increased CAD volatility,” David Watt, senior fixed income and currency strategist with RBC Capital Markets, said in a note to clients.

“If the polls do result in the NDP’s seat total rising materially, which is far from a foregone conclusion, CAD might experience a modest sell off. However, such an outcome is not unequivocally clear.”

Watt noted there are scenarios in which the NDP’s surge could prove to be positive for the currency, particularly if the central bank has to carry more of the burden of tightening macroeconomic policy.

The Canadian dollar finished the session at C$0.9510 to the U.S. dollar, or $1.0515, slipping modestly from Wednesday’s North American finish of C$0.9504 the U.S. dollar.

Earlier on Thursday, it hit C$0.9465, or $1.0565, its strongest level since April 21, when the currency reached a 3-1/2 year high.

The U.S. dollar skidded to a three-year low against a basket of currencies a day after the Fed signaled it would prolong its ultra-loose monetary policy.

The U.S. central bank is lagging other countries in tightening its monetary policy. In comparison, the Bank of Canada is widely expected to resume raising interest rates as early as this summer.

Higher interest rates often support currencies because they tend to attract international capital flows.

Concern about the U.S. recovery was reinforced by data on Thursday that showed U.S. GDP growth fell to a weaker-than-expected 1.8 percent annual rate in the first quarter and jobless claims jumped in the latest week.

Canada is reporting February economic growth data on Friday, but with consensus coming in flat, BMO’s Reitzes does not expect it to provide direction.

“Unless we get a meaningfully negative number, I don’t think you’ll get much change in the Canadian dollar. Weak U.S. dollar is generally driving everything right now,” he said.

Canadian bond prices generally rose across the curve, mimicking U.S. Treasuries following the tepid U.S. GDP data.

The two-year bond was up 7.5 Canadian cents to yield 1.737 percent, while the 10-year bond gained 36 Canadian cents to yield 3.229 percent.

Editing by Jeffrey Hodgson

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