FXC: Canada Has Potential As China Looks To Expand Its Influence

Canada is the world's second-largest country by total area, with the world's longest coastline. Russia has the most territory, while Canada, China, and the U.S. are close in land area.

Canada ranks thirty-ninth in population, with just under forty million people. Meanwhile, climate and geology cause 90% of Canada's population to live within 150 miles of the U.S. border. Canada is a vast country with a low population, but its landmass is rich in natural resources, with the leading exports of crude oil, gold, wheat, aluminum, and rapeseed. Canada is also a significant wood and iron ore exporter.

The Canadian dollar is a reserve currency, and its value tends to move higher and lower with its leading trade partner, the United States. However, as a commodity producer with a low population, the Canadian currency can reflect rising or falling raw material prices as they determine corporate and tax revenues yearly.

The Invesco CurrencyShares® Canadian Dollar Trust ETF (NYSEARCA:FXC) measures the C$'s value against the U.S. dollar. Given its sensitivity to commodity prices, the Canadian currency has lots of upside potential in the current inflationary environment.

A stable trend since 2016

The Canadian dollar has traded around a $0.75 pivot point against the U.S. dollar since the 2016 low.

The chart highlights the range, with two spikes, in 2016 and 2020, below the $0.7000 level, and two above the $0.8000 level in 2017 and 2021.

Historical volatility in the dollar index, measuring the U.S. currency against the other world reserve currencies, was at the 8.64% level on the ten-year chart on June 15.

The chart shows that the historical price variance in the Canadian dollar versus the U.S. dollar currency pair was lower at 7.29%. The C% is a component of the dollar index, with a 9.1% exposure to the U.S. currency.

A correlation with commodity prices

Canada produces many raw materials, with its leading exports crude oil, petroleum gas, gold, wood, metals, and agricultural products.

The United States is, by far, Canada's leading trading partner.

The geographical proximity to the U.S. and its common border makes Canada a commodity supermarket for the U.S. China is Canada's second-leading trade partner, which is no surprise, given China is the world's leading commodity consumer and most populous country. Japan and the U.K. are leading trading partners, but the U.S. dominates Canadian exports.

The last significant rally in commodities' prices occurred in 2011 when many raw materials reached record or multi-year highs.

This made the currency pair hit a $1.06164 high in July 2011. In 2011 and 2012, agricultural and other commodity prices reached peaks. Canada's raw material output increased profits and tax revenues, pushing the currency to over parity against the U.S. dollar. The rally in 2011 shows the correlation between the C$ and commodity prices.

Canadian politics have weighed on the currency

Three political and economic factors have weighed on the Canadian dollar's exchange rate against the U.S. dollar over the past years:

• A series of scandals have caused instability in the Canadian government, undermining faith. Prime Minister Justin Trudeau invoked the Emergencies Act in February 2022, causing fears that foreign capital would move south to the United States.
• In the U.S. home buyers can lock in mortgage rates for thirty years, but in Canada, most borrowers can only mortgage property for five years, with adjustments based on current rate levels. The mortgage structure makes increasing the Canadian rate to combat inflation more challenging, as it immediately impacts homeowners with mortgages. The lack of central bank flexibility puts pressure on the Canadian dollar versus the U.S. dollar, as the Bank of Canada cannot keep pace with U.S. rate hikes.
• The rally in the C$ in 2011 came as oil and gas prices moved higher starting in 2008, increasing revenues and tax receipts. Land-locking energy policies to combat climate change in high-carbon-emitting projects like the oilsands have weighed on capital inflows into the energy sector and production revenues.

Canadian politics and economic shifts have weighed on the Canadian currency over the past years.

Close ties to the U.S.

Canada's close ties and border with the United States have provided benefits over the past decades. The U.S. is the world's leading economy and military power. Meanwhile, China's rise that threatens the U.S.'s dominant position is also a threat to the Canadian economy. De-dollarization, as China leads the initiative for a BRICS currency to challenge the U.S. dollar, could weigh on the dollar's global role as the reserve currency. As Canada is the U.S.'s leading ally, any decline in the U.S. dollar's worldwide dominance would likely weigh on Canada's currency value.

While the exchange rate between the U.S. and Canadian dollars may remain stable, both currencies could lose purchasing power if a BRICS currency erodes the dollar's position in the global financial system. However, since China is Canada's second-leading trade partner, Canada is strategically located north of the U.S., China has an unending appetite for raw material imports, and China has made significant investments worldwide, a warming of Chinese-Canadian relations at the U.S.'s expense could cause the Canadian currency to rise versus the U.S. dollar over the coming years.

FXC is the Canadian dollar versus the U.S. dollar ETF product

China has not been shy about expanding its sphere of influence. President Xi's comment to Russian President Putin that "Right now, we are seeing a change we have not seen in 100 years, and we are driving this change together" validates the Chinese leaders' plans to replace the U.S. as the leading economic and military power. Canada is strategically critical because of its raw material output and its border with the United States. China will likely look to improve trade and other relations with Ottawa over the coming months and years. If Canada increases its exposure to China, and a BRICS currency challenges the U.S. dollar for reserve currency status, the Canadian dollar could rise versus the U.S. dollar.

The most direct route for a risk position in the C$ versus the U.S. dollar is via the over-the-counter foreign exchange market or the Chicago Mercantile Exchange futures and futures options. The Invesco CurrencyShares® Canadian Dollar Trust ETF product provides market participants with an alternative to the OTC or futures products.

At $73.92 per share on June 15, FXC had around $99.4 million in assets under management. FXC trades an average of 32,858 shares daily and charges a 0.40% management fee. Canadian interest rate allows FXC to pay shareholders a 1.20% annual dividend.

The Canadian dollar versus the U.S. dollar currency relationship rose 4.7% from $0.72146 on March 10, 2023, to its latest $0.75569 high on June 13, 2023.

The chart shows over the same period, FXC rose 4.6% from $70.67 to $73.92 per share as FXC does an excellent job tracking the currency pair.

One of the drawbacks of FXC and other ETFs is they only trade when the U.S. stock market operates. Since the international foreign exchange market trades around the clock, the ETFs can miss highs or lows when the U.S. stock market is not open for business.

The Canadian economy depends on natural resource exports, so a bull market in commodities tends to support the Canadian dollar. Meanwhile, the changing geopolitical landscape could cause China to make significant overtures to Canada, given its strategic location bordering the United States.

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