The recent surge in the Canadian dollar against the greenback is prompting Canadian companies to manage their currency risk through hedging programs, providing a boost to some of Canada's largest investment banks.
Phones are ringing off the hook as sales managers at BMO Nesbitt Burns Inc., TD Securities Inc., Scotia Capital Inc. and RBC Dominion Securities Inc. say they are fielding more queries from clients in response to recent strength in the Canadian dollar and rising interest rates.
Major movements in currencies and interest rates can create earnings volatility for companies and, in some cases, cost them hundreds of millions of dollars. Canadian exporters – for example in the energy, mining and other resource sectors – are typically hurt by a higher loonie and use currency swaps to hedge that risk. Meanwhile many importers, who benefit from the recent increase in the Canadian dollar, are looking to lock in the attractive rates for the future.
The loonie has been gaining against the U.S. dollar since the start of the summer, largely in response to a bullish economic outlook and two rate hikes, totalling half a percentage point, from the Bank of Canada. The central bank's benchmark lending rate is now at 1 per cent. Meanwhile, the U.S. dollar has been under pressure amid political turmoil and the economic impact of two devastating hurricanes.
As a result, the Canadian dollar has climbed more than 10 per cent against the greenback since June, according to National Bank. It surpassed the 82 cents U.S. mark before pulling back in recent days in response to an expectation that the U.S. Federal Reserve will also be sending interest rates higher. The growing demand for swaps from Canadian companies, particularly cross-border ones, is expected to continue given the possibility of further rate hikes from the Bank of Canada.
Blake Jespersen, managing director and head of Canadian corporate derivatives at BMO, said there has been a "flurry" of hedging activity by Canadian companies in recent weeks in both the currency and interest-rate space.
"We are certainly seeing an uptick in the number of client calls and the number of questions around where the dollar is going next and how high interest rates are going to go," Mr. Jespersen said. "It's challenging for companies to forecast and budget when the currency strengthens so quickly."
TD's Sharon Kim said some clients hedge all of their risk on a regular basis, and are therefore less affected by this type of move. But those who have more flexibility have "come to the plate in the last little bit," she added.
"Any time things move, generally, it will shake our client base out of complacency," said Ms. Kim, managing director and North American head of corporate, commercial and retail foreign exchange. "We do absolutely see an uptick in interest across all the different client bases."
Doug Houston, TD's managing director of derivative origination, said interest-rate swaps have not been affected as much as the currency side of the business. That's because the bank encouraged its corporate clients to lock in their debt last year, when rates were about as low as they could go.
"A lot of our clients are conservative so we don't really have a ton of clients that hadn't fixed their debt over the past year," Mr. Houston said.
The Canadian dollar historically trends around the 80 cents U.S. mark and when it deviates significantly from that rate it tends to trigger an increase in hedging activity by corporate clients, said Shaun Osborne, managing director and chief FX strategist at Scotia Capital.
"Activity does tend to increase when we move to those extremes, either close to parity or when the Canadian dollar is extremely soft, which is below the 77 cent point," he said.
While there has been an increase in calls from clients, Mr. Osborne said sales volumes are not dramatically higher. "That's mainly because a lot of the hedging programs, particularly from the corporate institutional base, are almost on auto-pilot," Mr. Osborne said.
Looking ahead, Mr. Jespersen said he expects to remain busy in the coming months, particularly given the possibility of further movement from the Bank of Canada.
"Whenever you have that situation where any bank announcement could mean another rate hike, it's going to cause a lot of market activity, both from speculators and from corporate hedging," he said. "We do expect activity to be quite active over the next quarter or so."