DB FX Daily: London AUD/CAD and rate differentials

[RTFX-Trading]

FX Daily: London
AUD/CAD and rate differentials
Today's Key Data and Events
DEU ZEW survey for June, 29 expected (09:00 GMT)
CAD Core CPI for May, 0.3% mom expected (11:00 GMT)
USD Housing starts/permits May, 1473K expected for both (12:30 GMT)
JPY BoJ meeting minutes for April and May meetings (23:50 GMT)

Upcoming Event Risks
June 20: Riksbank rate decision, BoE minutes
June 27: Norges Bank rate decision
June 28: FOMC rate decision
July 2: Tankan survey for Q2

Favour short AUD/CAD after the Canadian CPI
AUD/CAD has moved higher over the past few weeks, with the move extending further in trading on Monday. This move higher in AUD/CAD has, however, taken the pair to a level beyond that suggested by interest rate differentials (see the chart on the left below). The other key driver of AUD/CAD, oil prices, also points to a lower AUD/CAD cross rate particularly given the recent move higher in oil.

Today's CPI in Canada obviously looms as a significant risk event for CAD; beyond that the data calendars in both Australia and Canada are relatively light (indeed there is no tier 1 data due in Australia this week, while the only other release in Canada of note is the retail trade report on Thursday).

If the Canadian CPI prints around expectations, we would look to enter short AUD/CAD positions given the recent move higher in oil and also the `gap' that has opened up between AUD/CAD and rate spreads. With the Australian debt market likely to range trade ahead of the next Australian CPI report (due in late July), we would view the key risks to a short AUD/CAD position being a re assessment of prospects for BoC tightening (hence our desire to wait for the Canadian CPI) or a significant pull back in oil prices.

Canadians still making large purchases of foreign securities
The Canadian April TICS data released yesterday showed that Canadians continue to make large purchases of foreign securities. Statscan reported that Canadians purchased a near record amount of foreign securities in April ($C13.2bn), broadly evenly split between bonds and stocks. Canadian investment in foreign securities continues to run well ahead of foreign investment in Canadian securities - as the chart on the right shows. In fact, over the first four months of 2007 investment by Canadians in foreign securities has totalled $C39.2bn - almost half of the total amount invested in 2006.

Interestingly, the demand by Canadian residents for foreign securities does not appear to have had a significant impact on USD/CAD over the period in question, with USD/CAD having fallen from 1.1564 at the start of April to end the month at 1.1097. This price action suggests that the `negative' of these portfolio flows for the Canadian dollar has been offset by more favourable developments elsewhere.