TD Securities expects Canada’s May CPI to firm, forecasting headline inflation at 3.1% year-on-year and 0.8% month-on-month. The call points to another sharp rise in energy products alongside seasonal tailwinds, while core goods are seen accelerating modestly from April and travel-related components are expected to rebound partially, adding to the headline reading.
The bank’s preferred core gauges are projected to be unchanged, with CPI-trim and CPI-median holding at 2.0% and 2.1% respectively after a combined 0.4pp slowdown over the past three months. On this view, core CPI would remain aligned with Bank of Canada projections set out in the April MPR, even as energy prices follow a higher path.
Market Reaction to Headline and Core Inflation Split
Based on the recent May inflation data, we see headline CPI hitting 3.1% year-over-year, largely because of a jump in energy prices. WTI crude oil has been trading stubbornly above $85 per barrel for the past month, directly feeding into this increase. This headline figure is outside the Bank of Canada’s preferred 1-3% range and will create market noise.
However, we are focusing on the stability in the core inflation measures, which are holding steady around the 2.1% mark. This is the key signal for us, as it suggests the underlying price pressures are contained and in line with the Bank of Canada’s own forecast. Historically, the Bank has often “looked through” temporary energy-driven spikes when core measures behave.
This split between high headline and stable core inflation means the Bank of Canada will likely remain patient and hold its policy rate at the next meeting. Recent commentary from the Governor emphasized a commitment to data-dependence, specifically noting the need to see sustained momentum in core CPI before acting. Therefore, we do not expect a hawkish pivot in the coming weeks.
Implications for Rates, Currency Strategy, and Key Risks
For our strategy, we see an opportunity in interest rate markets, as others might overreact to the 3.1% print and price in a rate hike. We will look to enter positions that benefit from rates remaining stable, such as receiver swaps or buying options on BAX futures. This is a bet that the market’s initial fear will subside as it digests the stable core figures.
In the currency market, this policy patience could weigh on the Canadian dollar, especially as recent US employment data showed an unexpected addition of 210,000 jobs, keeping the Federal Reserve on a more hawkish path. We will consider using options to position for a modest rise in the USD/CAD exchange rate toward the 1.38 level. The policy divergence between a patient Bank of Canada and a vigilant Fed supports a stronger US dollar.
The main risk to this view is if the upcoming June Labour Force Survey shows unexpectedly high wage growth, which could spill over into core inflation. We will be closely monitoring this release in early July. Any sign of accelerating wage pressures would force us to reconsider our position on the Bank’s patience.
