Traders Turn to Poloz Speech for Clarity on July Rate Toss-Up

Stephen Poloz doesn’t like holding the market’s hand ahead of rate decisions, but traders buffeted by recent mixed signals will be looking for any help they can get come Wednesday when the Bank of Canada chief delivers a speech in Victoria, British Columbia.

A rate hike at the next meeting on July 11 was once viewed as a near-lock, with overnight index swaps pricing in a 79 percent chance of an increase after the Bank of Canada
dropped a reference to being cautious
on future rate moves in its May statement. Now it’s looking more like a coin flip.

Since May,
consumer confidence has plummeted
to its lowest level since April 2016 as trade tensions with the U.S., far and away Canada’s most important export market, have ratcheted higher. The data-dependent central bank has also seen economic data deteriorate,
punctuated by Friday’s figures
that showed a retreat in April retail sales as well as slower than expected inflation for May. Canada’s economic surprise index sank to its lowest level since 2013 in the wake of those releases.

“Wednesday’s speech is important indeed, especially given the disappointing real-side data and the surprising meltdown in the inflation report,” said David Rosenberg, chief economist at Gluskin Sheff & Associates Inc.

Poloz is due to address the Greater Victoria Chamber of Commerce at 3:15 p.m. New York time, with a press conference to follow. The governor has largely
eschewed forward guidance
in favor of letting markets work out the likely course of the policy rate based on the evolution of economic data. But traders are still conditioned to react to what hints they do get from the Bank of Canada.

“The market is reflecting what the data is showing, and the governor is going to have to address that in his speech,” added Randall Bartlett, chief economist at the Institute of Fiscal Studies and Democracy. “The most recent data and the forward-looking pressures on inflation are telling you two different things.”

Odds of a rate increase in July moved up by about 25 percentage points after shifts to the language of the May statement seemingly paved the way for a hike in short order. The recent round of underwhelming data caused those odds to move to the downside by only half as much.

“Governor Poloz may not be a fan of forward guidance, but lately the Bank of Canada has been clearer in its signals as it tries to prepare households and businesses for a higher rate environment,” said Frances Donald, senior economist at Manulife Asset Management. “My advice to markets: if Poloz leans hawkish on Wednesday, believe him.”

One wild card ahead of the speech: policy makers will have already viewed the summer Business Outlook Survey, to be released on Friday. This publication gives the central bank an idea of major Canadian employers’ sales prospects as well as their hiring and expansion plans. Recent editions have shown that businesses
still plan to invest
in spite of persistent worries about the future of the North American Free Trade Agreement, a dynamic that has helped inform the central bank’s willingness to withdraw monetary accommodation.

“We think there’ll be a July hike but we’re not pounding the table on it, particularly since the Governor knows something we don’t in terms of the Business Outlook Survey,” said Avery Shenfeld, chief economist at CIBC World Markets. “The GDP outlook is more important than recent inflation numbers, so it depends on the message the BOS gives them on where growth is expected to go, especially capital spending.”

Rosenberg and Bartlett also suggested that Poloz’s tone and assessment of the economic outlook on Wednesday might indeed be influenced by having had a sneak peek at those results, one way or another.

‘Potential Disappointment’

Some economists, however, cautioned that traders looking for Poloz to tip his hand on Wednesday may end up disappointed

“It’s something to watch, and it’s possible that Mr. Poloz makes comments that reverse course relative to April and May,” said David Doyle, analyst at Macquarie Capital Markets. “My gut would tell me he won’t do much to change those market expectations, and he will try to be quite cagey.”

Most agree that the recent tumble in the economic surprise index overstates any softness in Canadian activity, pointing to seasonal factors as contributing to the weakness and saying the economy is strong enough to warrant the continued normalization of monetary policy.

“We’re still operating at around capacity, the housing market is correcting in a gradual way, in a way that’s not extremely disruptive, and the labor market is extremely hot,” said IFSD’s Bartlett.

“The Bank of Canada sent as clear a signal as they could that a rate hike was imminent, and they would not have done so if their confidence in the medium-term outlook was not very strong and immune to some weaker-than-expected data in the short-run,” added Manulife’s Donald.

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