The Canadian dollar has suffered losses against the pound sterling and US dollar since May – and we could be about to witness that move accelerate as oil prices take a lurch lower.

“USD/CAD 1.35 very achievable on a 3-6 month horizon,” - Westpac.

The pound to Canadian dollar exchange rate (GBPCAD) is once again testing the 2.02 threshold and the US dollar to Canadian dollar exchange rate (USDCAD) approaches resistance at 1.30 again.

Key to the latest slump in the Canadian dollar is the decline in oil prices - US light crude is trading a whopping 1.4% lower on a day-on-day basis, such a move cannot be ignored by the CAD which is highly sensitive to commodity prices.

The prospect of a glut in oil supply thanks to Iran re-entering the oil marlets appears to be a key driver of the recent slump. However, the entire commodity sector is under pressure confirming the underlying cause to be further indications of a slowdown in the global economy, with China being a particular concern.

Outlook for the CAD: Negative

Oil market dynamics are one reason why traders are bearish on the Canadian currency. "With oil prices still biased lower expect any USD CAD pullbacks to continue to be bought. For now, those looking for an aggressive break higher in USD CAD may have to remain patient," says analyst Jeremy Stretch at CIBC.

Further undermining the currency's outlook is the observation that the Canadian economy has slumped with talk of a fresh recession becoming increasingly common.

With recession coming into view you can be assured that the Bank of Canada (BoC) is not sitting on the sidelines. Indeed, the Bank delivered a harsh blow to the CAD when they cut interest rates this month.

“The long-held view that the Canadian economy will underwhelm and force the BoC into fresh easing finally a reality. The proximity of the zero bound limits the extent of easing but strictly speaking the Bank could (and should eventually) cut once again, taking interest rates back to their credit crunch emergency setting at 0.25%” says a strategy note from Westpac Global Strategy Group in Sydney who rate the CAD as having a negative outlook.

The BoC’s latest forecasts incorporate the known contraction in Q2 but their forecasts for 1.5% annualised growth in Q3 and 2.5% in Q4 remain on the optimistic side.

“USD/CAD 1.35 very achievable on a 3-6 month horizon,” say Westpac.

The USD/CAD is thus seen to be enjoying medium term/long term momentum / trend structure remains positive and indicative of a sustainable rally.

“10 year highs are an obstacle up to 1.3065 that should be overcome in time,” say Westpac.

Canadian Data Misses the Mark - CIBC See Grind Higher in USDCAD

While the Canadian dollar exchange rate complex has advances somewhat against the pound sterling and US dollar it must be noted that the underlying weakness in the economy remains.

Currency markets received another data miss yesterday when May wholesale trade declined by 1.0%, the economic index slid further into negative territory.

The series has not registered lower levels since mid-April.

“The outlook for May GDP looks increasingly challenging and it appears increasingly probable that Q2 could follow Q1 into negative territory. Note BoC Governor Poloz did not want to get into a technical debate on what constitutes a recession in the post MPR press conference last week,” says CIBC's Stretch.

Although the BA strip remains relatively well supported, the path towards 1.3065 March ’09 highs is likely to prove to be something of a grind warns Stretch to those expecting the move higher in USD-CAD to be rapid:

"In the current environment USD CAD continues to struggle to extend beyond the 1.30 threshold with any conviction; hence expect six-year highs at 1.3065 to currently remain out of reach. For now, USD CAD remains somewhat overbought, which precludes the market squeezing aggressively higher."