RPT-BAY STREET: C$ due for pullback, but downside limited

(Repeats column first run May 10)

By Frank Pingue

TORONTO May 10 (Reuters) - The Canadian dollar looks set for a pullback after its recent charge to a six-month high as investor euphoria over upbeat data meets the hard reality of the global economy's ongoing problems.

But analysts said the currency's downside is likely to be limited by the recovery in energy prices and the reluctance so far of Canada's central bank to join its global peers in embracing unconventional monetary policy.

"A lot of these commodity currencies are probably going to be set up for some disappointment later this year and it's just a matter of whether it is relatively violent or moderate," said David Watt, senior currency strategist at RBC Capital Markets.

"Things look good now, but three months from now we are going to see this was the peak of the 'green shoot' backdrop. And the struggles of the global economy and global trade are going to be a little bit more persistent."

A Reuters poll published on May 6 showed Canada's currency is expected to fall to C$1.20 to the U.S. dollar, or 83.33 U.S. cents, in one month and slide further to C$1.23 in three months time. [ID:nN06394325].

On Friday, the currency hit C$1.1490 to the U.S. dollar, or 87.03 U.S. cents, its highest level since Nov. 5. The move was spurred by a domestic employment report that surprised investors with news the economy created jobs, as well as a healthier U.S. jobs report than forecast. [ID:nN08444159]

One of the best performing major currencies of 2007, the Canadian dollar charged above the greenback that year for the first time in more than three decades. It then slumped along with commodity prices when the global financial crisis took hold. It only recently started to regain its footing.

Fueling the more recent rally has been a series of encouraging data and economic news. That has also helped drive Canadian stocks to a six-month high.

But experts warn the global economy remains vulnerable and a rebound in demand for commodities and manufactured goods is still uncertain. This could spell renewed trouble for Canada's export-reliant economy and, by extension, its currency.

"Market sentiment has swung from pricing in a depression a few months ago to pricing in a very early recovery, perhaps as soon as the summer and that's why risk-aversion has taken a giant step backward," said Sal Guatieri, senior economist at BMO Capital Markets.

"But in our view the U.S. and Canadian economies will likely remain weak for the next couple of quarters and a recovery is unlikely until late this year, so we could see a modest step back in the Canadian dollar over coming months," Guatieri said.

EYE ON CENTRAL BANK

Providing a backstop for the Canadian dollar has been the Bank of Canada's surprise decision in April told hold off on following lead of central banks in the United States, Britain and elsewhere in using unconventional policy tools. These include quantitative easing, or printing money to buy government and corporate debt.

But, again, experts warn the currency's recent gain, about 9.5 percent since the end of March, could just as easily disappear if the central bank feels the need to alter its tone at its next scheduled policy announcement on June 4.

"As soon as the market believes that the Canadian financial system needs some extra boost beyond rates at essentially zero and the central bank does comply, then you are going to see the Canadian dollar move the other way very quickly," said Dustin Reid, a senior currency strategist at RBS Global Banking and Markets in Chicago.

Despite the currency's rapid advance, not all market watchers are ready to rule out a further move higher, given some expectations that appetite for riskier assets will continue throughout the summer months.

"Looking from a multi-month perspective, we feel that you could get down to levels like C$1.10 (90.9 U.S. cents) before we really reach the end of this move," said Gareth Sylvester, senior currency strategist at HIFX Plc in San Francisco.

"There are some stronger Canadian fundamentals but it's really been the resurgence of risk appetite ... Some traders in equity markets are of the belief that we could be in the initial stages of return to a road to a recovery, globally." (Editing by Jeffrey Hodgson and Rob Wilson)