Canada’s Consumer Price Index core measure rose 0.2% month on month in May, up from 0.1% in the prior reading. The move points to a modest firming in underlying price pressures on a monthly basis.
The acceleration leaves core CPI running one-tenth of a percentage point faster than in the previous month. Markets will weigh whether the uptick reflects temporary factors or a broader shift in inflation momentum, as monthly prints can be volatile even when the trend is steadier.
Implications For Bank Of Canada Policy And Market Positioning
We see this slight uptick in core inflation from 0.1% to 0.2% as a signal that the Bank of Canada will be more patient. This challenges the market’s expectation for a quick follow-up to the rate cut we saw earlier this month. The path to 2% inflation is proving to be bumpy, not a straight line down.
In the coming weeks, we are adjusting interest rate derivative positions to reflect a more hawkish BoC. The odds of a July rate cut, which were sitting above 60% according to overnight index swaps, have now likely fallen below 35%. We are therefore looking to short September BAX futures or pay fixed on interest rate swaps expecting rates to stay higher for longer.
Currency, Equity Market, And Employment Considerations
This data provides a tailwind for the Canadian dollar, especially as other central banks remain poised to ease policy. We are favouring strategies that benefit from a stronger loonie, such as buying puts on the USD/CAD pair. A move below the 1.3600 level seems increasingly plausible if this inflation stickiness persists.
For equity markets, this is a headwind for rate-sensitive sectors of the TSX like REITs and utilities. We are buying short-dated put options on relevant sector ETFs to hedge against potential underperformance. The broader index may also face pressure as higher borrowing costs temper enthusiasm.
This reading, combined with May’s surprisingly strong addition of 38,000 jobs, gives the Bank of Canada cover to wait and see. We have seen this before in the post-pandemic era, where premature declarations of victory over inflation led to policy whiplash. We expect the BoC will want to avoid that mistake and will proceed with extreme caution.
