A Pseudo-Leveraged Loonie Bet

In the past year the loonie has appreciated roughly 20 percent. This appreciation is destroying manufacturing and retail sectors in Canada, as producers and consumers alike head south of the border in search of deals. Stories abound of book retailers selling books at a loss at their American label price, 8 hour waits at the border, caravans of tour-buses carting Canadians south to shop (they wave as they pass their American counterparts who are headed north to buy pharmaceuticals), and empty malls at Christmas time.

The Canadian government and finance minister have been trying to talk the loonie down, but with aggressive Fed easing and oil at 90+ dollars per barrel, talk is not enough. The Bank of Canada is going to start cutting interest rates to get the dollar down (one can only assume below the psychologically destructive parity if not further) and herein lies an opportunity.

The iShares MSCI Canada Index Fund (EWC) is composed of 31% financial stocks, 28% energy stocks and 15% materials stocks. It holds very little of the heavily affected retailers and manufacturers, a lot of interest rate sensitive banks, and best of all it is denominated in US dollars.

If you are Canadian, own this fund, and the above scenario plays out, you are going to profit doubly as the CAD declines relative to the USD and Canadian stocks rally. (If you are American you can make this play too, it just means owning the USD/CAD cross as well as the EWC ETF).

(If you are Canadian) this is a pseudo-leveraged play without the cost of leverage since these converging factors mean the same direction for your currency and stock position. This trade also has the added benefit of the interplay of oil, the dollar and the diversified Canadian stock ETF smoothing out the volatility of the position.

Disclosure: none

Comments

[dsrtwriter]

good article, but needs to explain terms: What is the "USA/CAD cross"?

[Ben Roberts]

Just want to do a quick update: the dollar trade is working out well, but I have changed my outlook on the TSX based on the ugly price action. After the rate cut, even on days when when the S&P and the energy stocks are advancing, the TSX still looks anemic. This is not the same super bull TSX we have seen in the past couple of years - something fundamental has changed here, although I don't know what it is (maybe the Government intervention/unpredict... we have seen recently is scaring off foreign investors?). I still think the dollar portion of the trade is valid, but at least for the time being park those greenbacks somewhere other than EWC.