You Like the Greenback, You Might Like Canada More

Credit Writedowns March 11, 2010

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Canada reported a larger than expected trade surplus earlier today. At C$0.8 bln, it was four times larger than expected and the December figures were revised to show a C$0.1 bln surplus instead of a C$0.2 bln deficit. Canada also reported a strong rise in Q4 capacity utilization rate to 70.9% from a revised 68.7% in Q3 (previously estimated at 67.5%). Tomorrow Canada will report February employment figures tomorrow. The unemployment rate is expected to have remained steady at 8.3%. It appears that Canadian unemployment may have peaked in the middle of Q3 09 at 8.7%.

A favorable fundamental case for the US dollar can be built on ideas that the output gap will close in the US before Japan and Europe. However, Canada appears to be the only other G7 country that can match the US. Canada is expected to either match US growth this year or nearly match it.

Canada often experiences price pressures earlier on its the expansion phases. This, coupled with a healthier banking system, which is an important transmission mechanism of monetary policy, will likely result in the Bank of Canada hiking rates before the Federal Reserve. Canada’s 2-year note yields 62 bp more than the US currently. Last week it reached 66 bp, the most in about 6 months.

The US dollar has fallen about 4.5% against the Canadian dollar since testing CAD1.07 on February 25th. If one shares 1) our view that through the growth differentials, North America will close the output gap before Europe and Japan; 2) that this will be a key driver of the foreign exchange market; and 3) the Bank of Canada will raise rates before the Federal Reserve, then the Canadian dollar looks attractive. The US dollar tested the CAD1.0220 area years and bounced to CAD1.0320 today. The risk extends toward CAD1.04. However, if this analysis is accurate, then the Canadian dollar will do even better against Europe. We have a constructive outlook of the euro against sterling, so long CAD short sterling, which we had been recommending last month, may also offer a new opportunity now that the Loonie has pulled back.

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Marc Chandler is the global head of Brown Brother Harriman's top ranked Currency Strategy Team. For more of BBH's currency views, please visit the BBH FX website here.

This material has been prepared by Brown Brothers Harriman & Co. ("BBH") and is intended for information purposes only. This communication should not be relied upon as financial, investment, tax or legal advice. This communication should not be construed as a recommendation to invest or not to invest in any country or to undertake any specific position or transaction in any currency. This information may not be suitable for all investors depending on their financial sophistication and investment objectives. The services of an appropriate professional should be sought in connection with such matters. The information contained herein has been obtained from sources believed to be reliable, but is not necessarily complete in its accuracy and cannot be guaranteed. Sources used are available upon request. Any opinions expressed are subject to change without notice. Please contact your BBH representative for additional information. BBH's partners and employees may own currencies in the subject of this communication and/or may make purchases or sales while this communication is in circulation.

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