Bank of Canada Expectations on a Yo-Yo

| About: Royal Bank (RY)

By Boyd Erman

Just as quickly as they appeared, expectations for a rate cut this year from the Bank of Canada (NYSE:RY) have disappeared from the market. Because of that, it's been a heck of a week for money-market traders who occupy what is normally one of the sleepier corners of a trading floor.

Just two weeks ago, markets were pricing in a good chance of two quarter-point rate hikes by year end. By Monday, as equities plunged and people re-evaluated the global growth outlook, expectations had swung all the way to a good chance of a quarter-point cut by December.

The bankers' acceptance futures market is now saying Bank of Canada governor Mark Carney is likely to leave his benchmark overnight target rate at 1 percent through December. The yield on the December BA future dropped from 1.42 percent two weeks ago to 0.83 percent on Tuesday and has now rebounded back to 1.03 percent.

It's all about the growth outlook. RBC Dominion Securities on Friday knocked half a point off its 2011 economic growth forecast for Canada, taking it to 2.7 percent from 3.2 percent. The cut is "largely reflecting weaker trade performance, but also the hit to domestic consumption and investment arising from the recent financial swoon," RBC said in a note Friday morning.

In that environment, there's no pressure on Mr. Carney to start raising rates. "An extended pause now seems most likely by the BoC until 2012Q2. We believe the Bank will begin hiking at that stage (and have a cumulative increase of 100bp in our forecast for next year)."

RBC said that while Mr. Carney is in the mood to tighten, and has indicated a bias to raising rates, "the pre-conditions laid out for acting on this bias — a containment of the sovereign debt crisis, continued strong business investment and supportive net exports — are far from being met at present and are unlikely to be in place before mid-2012."