Why is the Canadian Dollar weakening despite a decline in the US Dollar Index?

• Pressure on the Canadian Dollar from weaker Oil prices helps USD/CAD recover its earlier losses.
• Further BoC tightening is called into question by Canada's disappointing employment figures.
• Expectations of a December Fed rate increase remain well supported by robust US employment figures.

Buying interest returns to USD/CAD in Monday’s American session, reversing losses seen through much of the day. Weighing on the Canadian Dollar (CAD) are both declining Oil prices and the Bank of Canada’s (BoC) challenge of curbing inflation without undermining an already weakening labour market.

Despite a 0.45% decline in the US Dollar Index (DXY) on the day, the pair has recovered from its intraday trough of 1.4077 to trade near 1.4131 at the time of writing.

After ending last week roughly 12% lower, West Texas Intermediate (WTI) has shed more than 3% on the day. The Loonie remains exposed to swings in Oil prices given Canada's position as a major crude exporter.

Last week’s crude sell-off was partly fuelled by the Democrats’ US midterm election victory. Traders wagered that Congress would push President Donald Trump to bring the war with Iran to an end. Monday has brought further losses for Oil after Trump downplayed the prospect of fresh strikes. As part of efforts to resolve the conflict, Qatar’s prime minister is in Washington, DC, to meet Trump and Vice President JD Vance.

Inflation risks nevertheless remain skewed upwards, with crude still trading above pre-war levels despite the fall. Any deadlock in talks or escalation in tensions could send prices higher again.

How will a third month of job losses shape the BoC’s next move?

Friday’s release from Statistics Canada showed a third consecutive monthly fall in employment in October. Against a projected increase of 13.6K, employment declined by 4.7K, extending losses of 68.3K in September and 41.7K in August. At the same time, the Unemployment Rate climbed from 6.5% to 6.7%.

Having increased its policy rate by 25 basis points to 2.50% in October, the BoC indicated that additional hikes might be necessary to prevent rising energy costs from spilling over into wider inflation. The disappointing employment report complicates that decision: while stubborn inflation leaves another increase on the table, labour market weakness offers policymakers grounds to hold off.

Can the Canadian Dollar withstand a hawkish Fed?

An October increase of 165K in US Nonfarm Payrolls (NFP) exceeded the 65K forecast by more than double, and the Unemployment Rate eased to 4.1%. Such labour market resilience allows the Federal Reserve (Fed) scope to lift rates in pursuit of its 2% inflation target. According to the CME FedWatch Tool, traders assign roughly an 80% probability to a December rate increase.

Describing the US economy as “remarkably stable” on Monday, Richmond Fed President Thomas Barkin characterised the monetary policy direction as “straightforward,” while advocating proceeding “with care.” In his assessment, inflation represented the main risk to the Fed’s mandate.

The next move in the US Dollar could hinge on Tuesday’s US Consumer Price Index (CPI), which may reshape expectations of a December Fed hike. An above-forecast reading could bolster the argument for another rate increase and support the US Dollar; a weaker reading, by contrast, could allow the Canadian Dollar to recover ground.