UBS raises USD/CAD forecast as Canadian dollar lags other G10 currencies

UBS has revised its USD/CAD forecasts upward to 1.3300 by end-2025 and 1.3500 by end-2026, citing the Canadian dollar's underperformance due to weak employment data, Bank of Canada rate cuts, and diminished hedging flows. Despite these revisions, the firm believes the CAD could surprise to the upside in the near term given limited scope for further BoC easing and potential for renewed hedging flows, while emphasizing fiscal policy's importance and projecting a gradual weakening by 2026 due to structural productivity challenges.

Analysis

UBS has revised its USD/CAD forecast upward, projecting a rate of 1.3300 by the end of 2025 and 1.3500 by the end of 2026. This adjustment reflects recent Canadian dollar underperformance attributed to weaker domestic employment data, the Bank of Canada's resumption of its interest rate cutting cycle, and diminished foreign exchange hedging flows. Despite this more bearish long-term revision, the firm posits that the Canadian dollar may experience an upside surprise in the near term. This counter-intuitive view is based on the belief that the scope for further Bank of Canada easing is limited, with markets having already priced in anticipated cuts, and the potential for hedging flows to resume as U.S.-Canada interest rate differentials narrow. UBS underscores that fiscal policy, particularly the government's pledged investment plans in the upcoming Federal budget, will be a significant factor for the currency's path. For the longer term, the forecast for a gradual depreciation towards 1.3500 is underpinned by unresolved structural productivity challenges within the Canadian economy.

Key Decisions for Investors

• Investors with a multi-year horizon may consider positioning for long-term Canadian dollar weakness against the USD, in line with UBS's 1.3500 forecast for 2026, which is based on Canada's structural productivity issues.
• Traders should exercise caution with significant short CAD positions in the near term, as the analysis flags the potential for an upside surprise stemming from fully priced-in rate cuts and a potential resumption of hedging.
• Closely monitor the upcoming Canadian Federal budget, as fiscal policy and pledged government investments are identified as a key near-term catalyst that could heavily influence the CAD's trajectory.
• Track the U.S.-Canada interest rate differential, as a narrowing of this spread is cited as a critical trigger for the return of hedging flows that could provide support to the Canadian dollar.