It has been a long time coming, but investors need to start seeing that the C$ belongs at parity to the US$, if not even higher. The C$ first breached parity in late 2007 when it became stronger than the US$ and in subsequent weeks literally skyrocketed to 1.0722 as speculators in the C$-US$ trade came to play. In 2007, the rise was probably premature and happened too quickly to suggest any stability at those levels. Since then, the C$ has dropped to 0.776 in March 2009, in the depths of the crisis, but has continued a steady and measured rise back up to around 0.96, where it stands today.

From a technical point of view, the C$’s upward trend is very strong, given the number of small corrections that it has had along the way, unlike the surge upwards in late 2007 which was clearly unsustainable. Every new high has been higher and every new low has been higher still. There are also numerous fundamental factors that call for a higher C$.

Strong Financial Sector

In many investor’s view, that the C$ will continue its rise to parity and beyond is a given because in 2009, the Canadian economy has proven itself to be one of the most resilient in the face of economic challenges. To use the most popular quote about Canada in 2009, “Canada was one of the few countries that did not have to bailout its banks”. Whether or not that’s entirely accurate is debatable but it’s been clear that Canada’s financial sector fared better than most and so did its companies.

Resource Powerhouse

Aside from that, the fact that Canada provides a huge amount of resources to the world also acts in its favour. There is no shortage of demand for commodities like oil, timber, potash etc, all of which are so essential to the needs of the growing developing world and as long as that is the case, there will continue to be demand for the C$.

Capitalist Economy

As Dennis Gartman likes to say very often, capital moves to where it’s treated well. And at the moment, that place is not the United States. With Obama cracking down on financial institutions as if they have committed treason by attempting to make profits, investors are looking to move their money to more “free market” regimes. To imagine several years ago that capital would be flowing out of the US because markets are not “free” enough would have been unimaginable, but such is the situation now. Yes, the amount of exposure taken on by banks needed to be reigned in, yes the systemic risk they pose needs to be controlled, but not by killing the appetite for profit making! In comparison, Canada now looks like the more open and “capitalist” economy and so that’s where capital flows.

Risks to Parity

There are two main short-to-medium term risks that I see which might lead to a reversal of the C$ strength.

1. Flight to Safety: In 2008, the C$ collapsed vs the US$ due to the panic in the markets. The VIX shot up to all time highs and money flowed into safe havens in US$ treasuries from essentially all other markets. If a similar situation arises as a result of the debt crisis currently unfolding in the European Union, then we could be in for another ride down. If Greece’s situation is not contained effectively and contagion leads to similar debt problems in Portugal and Spain, then all bets are off.
2. Canadian housing bubble: In another complete contrast to the US economy, the Canadian housing market now appears to be in a bubble, with the average home in Toronto, Canada’s largest city, selling in January for 19% more than last year. In reply, Canadian banks responded in a most un-American way, and urged the government to cool down the market by imposing tighter mortgage rules even though they would benefit from rising prices. That should be a positive indication, but if despite this the Canadian real estate market undergoes a collapse, then the C$ could also suffer heavily.

Disclosure: Long Market

Image Credit: Talie under a Creative Commons license

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