Investors Are Turning Negative on Canada: A Deep Dive into the Bearish Sentiment

Alright, let’s talk about Canada - and not for its beautiful landscapes… of which by the way, I hiked Panorama Ridge a couple weeks ago, which was absolutely breathtaking.

Here’s a photo I took:

Unfortunately, investors are souring on the Canadian economy, and the data shows it’s not pretty.

Whats happening?

Traders are betting heavily against the loonie, and for good reason.

This chart shows the net positions of traders on the Canadian dollar in the non-commercial sector, which is typically dominated by speculators rather than hedgers or commercial traders.

The data comes from the Commodity Futures Trading Commission (CFTC), tracking net positions of long and short contracts on the Canadian dollar.

Why is this happening?

While the U.S. is showing off its resilience with stronger-than-expected growth, and inflation data coming down tremendously…

Canada’s economy is dragging its feet.

The U.S. dollar is getting stronger, and the Canadian dollar?

Not so much.

Investors love a strong economy, and right now, the U.S. looks like the more attractive bet.

Unfortunately, Canada is stuck between a rock and a hard place with interest rates.

Despite three consecutive rate cuts, the Bank of Canada obviously wants to keep inflation in check, but with sky-high and record household debt, aggressive rate hikes could pop the housing market bubble; unlike the U.S., which has more room to push rates higher without risking a full-blown economic meltdown, which is a big reason why the loonie is losing steam.

Speaking of the housing market, “understand this” … Toronto and Vancouver are expensive. Crazy expensive. (relative to income)

Raising interest rates have made it harder for people to afford homes.

This has led to demand softening with the potential for price corrections. For an economy so reliant on its housing market, that’s not a great sign…

Not to mention Canadian households are carrying one of the highest debt burdens to disposable income ratio of any G7 country:

• Canada: 185%

• United States: 100%

• Germany: 100%

This means that for every dollar of disposable income Canadian households have, they owe about $1.85 vs the United States and Germany at $1/1.

The lower-income groups in Canada are the most affected by this debt - they make up 60% of the population, and hold 45% of the household debt. 

Despite the recent rate cuts, mortgage renewals for 3 and 5 year terms are coming in at double, so monthly payments have gone up which is starting to squeeze consumer spending.

This puts the economy at risk of a slowdown, and investors are taking note - and not in a good way. (Although the one year TSX chart doesn’t look bad by any means)

Canada’s economy has long been tied to its natural resources, especially oil.

The problem? Oil prices have been under pressure since June, 2022, and the outlook isn’t exactly sunny.

When oil isn’t booming, neither is Canada, and that’s reflected in the weakening loonie.

And, it’s not just Canada facing tough times.

Slower growth in China and Europe is dampening global demand for commodities. (for now)

As an export-heavy economy, Canada’s feeling the heat - fewer buyers mean less revenue from trade, and that’s another reason the CAD is underperforming.

A strong U.S. dollar is kryptonite for the Canadian dollar.

With the Federal Reserve continuing its hawkish stance, the USD is looking like the better investment. Investors are flocking to it, leaving the CAD in the dust.

Canada isn’t exactly the golden child of global investors right now, either. Its heavy reliance on oil, sky-high debt, and strained housing market make it look riskier than the U.S. where investors are seeing more opportunities. The exodus of foreign capital (and human capital commonly also known as the brain drain) is driving further weakness in the loonie.

Canada’s fiscal policies aren’t helping matters, either.

With high government spending and rising deficits, there are concerns Canada could be headed toward higher taxes or stricter regulations. We as investors don’t like uncertainty, and Canada’s budget situation is adding fuel to the fire.

Let’s get into what this means for real estate.

In cities like Toronto and Vancouver, a weaker CAD may attract some foreign buyers, but it’s a double-edged sword as there are hefty foreign buyers tax, which may deter foreign buyers.

Rising mortgage rates are hurting affordability for domestic buyers, and if rates stay elevated for too long, prices will crater.

The markets are on shaky ground, and it’s something every Canadian investor (and homeowner) is or at least should be watching closely.

A weaker Canadian dollar could make imports more expensive as well, driving up inflation.

If inflation surges again, the Bank of Canada might have to pause it’s cutes or considering raising again, which could slam the brakes on economic growth even harder.

It’s a tough spot to be in, and inflation is yet another reason why investors are bearish on Canada.

Between high debt, rising rates, a potential housing market correction, and weakening oil prices, Canada’s economic outlook is looking shaky; and traders and investors are picking up on this and betting against the loonie at record pace, which is that chart I showed above.

For Canadian investors, this could be a time to reassess your portfolio, focus on sectors less affected by interest rates, and keep a close eye on global commodity prices.

But - how can we make money on this? Great question - I’m going to keep this simple, as I never like betting against things. I’d rather understand the implications of an event or change in direction, and bet on sectors/companies that’ll be affected positively by it.

Here are five ways you can make money. For me, I’m sticking to #1, #3, and maybe #5

1. Invest in $USD denominated assets.

2. Short the CAD via forex.

3. Forex Hedges – You can lock in specific forex rates for the next 90 or 180 days, or another timeframe. For example, if you're expecting to receive C$100,000 and need to convert it to USD, you can use forward contracts to secure today’s rate and avoid the risk of converting later when the CAD may have depreciated.

4. Swap Canadian T-Bill for US-Denominated T-bills (As the Bank of Canada cuts, yields on Canadian T-bills will decrease. Lower T-bill yields mean new investments in Canadian T-bills will offer lower returns, making them less attractive. If US interest rates remain steady or higher than Canada's, then US-denominated T-bills will offer more attractive yields than Canada. There may be a several month window to clip some spread here.

5. Similar to point 3 above, an easy way to do something like this is buying UBT (ProShares Ultra 20+ Year Treasury) which can be a way to play the CAD vs. USD, but indirectly. UBT is a leveraged fund that provides 2x the daily performance of U.S. Treasury bonds with maturities of 20 years or more. If U.S. interest rates fall, long-term Treasuries tend to rise in value, which would benefit UBT. As Canada is likely to cut rates further, and J Pow will have kept rates higher for longer, the divergence makes US Treasuries more attractive for investors, including those holding Canadian dollars which will push up the value of U.S. Treasuries and the USD relative to CAD. All this assuming the US doesn’t default on it’s debt; however, that is an entirely different topic for another day.

I hope you have found this useful.

As always, happy hunting!