07:24 AM EDT, 09/05/2024 (MT Newswires) -- The broad-based US dollar sell-off on Wednesday triggered by the weaker United States JOLTs report helped to lower USD/CAD back towards the 1.3500 level even after the Bank of Canada (BoC) lowered its policy rate for the third consecutive meeting by 25bps to 4.25%, said Mitsubishi UFG.

USD/CAD corrected lower over the past month after hitting a high of 1.3946 on Aug. 5, wrote the bank in a note to clients. The recent correction lower for USD/CAD has been encouraged by a narrowing of expectations for policy divergence between the BoC and the Federal Reserve.

While the BoC has led the way in the current easing cycle, the Fed is now expected to follow by beginning to cut rates this month. Based on recent moves in short-term yield spreads alone, it appears that USD/CAD recently overshot to the downside when it fell to a low of 1.3441 at the end of August, stated MUFG.

The Canadian rate market has already moved to price in "a lot" of BoC rate cuts in the year ahead which provided a higher hurdle for a dovish surprise Wednesday to weaken the Canadian dollar (CAD or loonies), according to the bank. The Canadian rate market is almost fully pricing in five more 25bps cuts from the BoC by mid-next year.

It would take the policy rate back closer to the BoC's estimate of the neutral policy rate at between 2.25% and 3.25%. For a bigger dovish repricing the BoC would have to deliver a larger 50bps cut, pointed out the bank. That's not to say that Wednesday's BoC policy update wasn't dovish.

The BoC continued to leave the door "wide open" to further rate cuts at upcoming policy meetings, added MUFG. Governor Tiff Macklem stated that the BoC discussed multiple scenarios for the path of rate cuts moving forward including the possibility of 50bps cuts. He added that if the economy and inflation were markedly weaker than their forecasts, "it could be appropriate to take a bigger step, something bigger than 25bps."

Similar to the Federal Reserve's recent communication, the BoC appears more concerned over labor market weakness after employment growth stalled recently. The BoC added that "we need to increasingly guard against the risk that the economy is too weak and inflation falls too much" with inflation getting closer to target.

Overall, the BoC's dovish policy outlook continues to pose downside risks for the Canadian dollar alongside the ongoing drop in the price of oil which has fallen back towards $70/barrel, noted the bank. It's resulting in the Canadian dollar underperforming against other non-USD G10 currencies.