The Canadian dollar pared earlier gains on Friday as the US dollar recovered, with markets weighing uncertainty over a potential US-Iran peace agreement alongside expectations of a hawkish Federal Reserve after Thursday’s broadly in-line US PCE data. USD/CAD was trading around 1.1491, close to levels last seen in April 2025, and remained on track for a fourth consecutive weekly advance. President Donald Trump said Iran had launched “at least four one-way attack drones” at ships transiting the Strait of Hormuz, framing it as a breach of a ceasefire.
The US and Iran agreed a 60-day Memorandum of Understanding earlier this month, though latest talks still show gaps on nuclear inspections and future management of the Strait. In rates, core inflation in the PCE release was described as relatively contained, while headline inflation accelerated, keeping open the prospect of a Fed hike later this year. The US Dollar Index (DXY) stood near 101.35 after reaching about 101.80 earlier in the week; CME FedWatch showed a 60% probability of a September hike, down from 70% a week earlier. WTI traded around $69.20, the weakest since early March and about 9.5% lower on the week, while next week brings Canada’s April GDP, US NFP, and remarks from Kevin Warsh and Tiff Macklem.
US Dollar Tailwinds and Geopolitical Risk
We see the current environment as supportive for continued US Dollar strength against the Canadian Dollar. The USD/CAD pair is trading firmly above its 50-day moving average, a technical signal that reinforces the underlying bullish trend. The combination of geopolitical risk and a hawkish Federal Reserve outlook is creating a powerful tailwind for the Greenback.
The escalating tension in the Strait of Hormuz is a key factor driving flight-to-safety flows into the US Dollar. Historical data shows that similar maritime security crises have often preceded periods of sustained dollar strength, with the Dollar Index (DXY) rising over 4% in the three months following the 2019 tanker incidents. We view the current uncertainty as a solid floor for the USD in the near term.
Monetary Policy Divergence and Oil Price Weakness
Monetary policy divergence remains the central theme, and we believe it favors a higher USD/CAD. While the market has slightly pared back bets on a September Fed rate hike, the spread between US and Canadian 2-year bond yields has widened to its highest point since late 2025. This indicates that fixed-income markets are pricing in a more aggressive Fed compared to a Bank of Canada constrained by domestic factors.
Crashing oil prices are a significant headwind for the loonie, directly impacting Canada’s terms of trade. The recent 9.5% weekly plunge in WTI crude is a major bearish development, and with global inventories reportedly rising by 2.1 million barrels last week, we see little prospect for a sharp price recovery. This fundamental weakness for Canada’s primary export should continue to weigh on the CAD.
Given this backdrop, we are positioning for further upside in USD/CAD through the options market. Buying call options with an August 2026 expiry allows us to capitalize on a potential move higher following next week’s NFP report, while strictly defining our risk to the premium paid. We find the 1.1550 strike price particularly attractive for capturing this expected momentum.
The upcoming speeches from Fed Chair Warsh and BoC Governor Macklem are critical risk events that will inject volatility. Implied volatility for one-week USD/CAD options has already surged to an 11% annualized rate, reflecting market anxiety ahead of the NFP data and central banker commentary. We will look to use this volatility to our advantage, potentially adjusting our positions after these key events.
