The market poured over the FOMC's statement and new forecasts with a fine toothcomb, and came out with an overall hawkish impression from the meeting. As I said yesterday, the bar for surprise was very low. The transition from quantitative (6.5 percent unemployment threshold, etc.) to qualitative guidance was as expected.
But, given that the weather has generated so much uncertainty about the strength of a US recovery, the wording and projections on the economy and inflation were surprisingly sanguine, and it was surprising to see more FOMC members looking for hikes to start in 2015 and for the pace of the removal of accommodation to be more aggressive. The response in rates at the front end of the curve was impressive, with the 2-year rate rocketing 7 bps higher to 42 bps and back toward the high end of the range for the last two and a half years, save for a brief excursion above 50 bps just ahead of the “non-taper” last September.
As well, during the Q&A, new Fed chair Janet Yellen opened the door for the Fed interpretation that some of the US labour market’s weakness and struggle to improve more robustly was due to structural rather than cyclical factors, a hawkish turn as this view means that the unemployment level could remain somewhat elevated, even in the event that the economy improves further and could ease the Fed focus on this side of its dual mandate (i.e., Fed Funds Rate rises could begin at a higher unemployment rate than if the Fed viewed the labour market problem as purely cyclical.)
H1 2015 rate rise?
Yellen also defined “a considerable period” of about six months for when to raise rates. Meaning that if we are on a USD 10 billion per meeting schedule, hiking could begin well before the end of the first half of next year, though I don’t think she intended to send this specific a message about the timing.
Still, the most important factor to remember is that the current market volatility is all about the interplay of the market’s expectations with where the Fed stands on policy given an assumed path of the economy. But, that “assumed path” is the real key, so it will still be up to the incoming data to either challenge or underline the new, somewhat more hawkish Fed stance. The first key data points will be the usual first week of the month US ISM surveys and employment data.
As for the USD trading stance in the wake of the FOMC statement, as I stated last night:
“It may be tempting to focus on the USDJPY due to the strong rate response from this hawkish FOMC development. However, do note the liquidity implications from hawkishness are negative, i.e., they pressure the QE-dependent asset markets, which tends to pressure JPY crosses lower (JPY higher). So with those two factors [pulling] in opposite directions, the USDJPY outlook would appear uncertain. However, USD/G10 smalls should be well supported”
Indeed, the less liquid currencies are the ones that have been hit the hardest by the hawkish Fed message, as the G10 smalls. Around the world, emerging-market currencies were also hit hard and the USDCNY set a new high for the cycle above 6.20, a level that has received considerable focus because of the risks of large derivatives structures put on to take advantage of the USDCNY carry trade. Look for further confirmation in asset markets and bond markets to support the ongoing strength in the USD versus the less liquid currencies.
Chart: EUR/USD
It’s tempting to call a top for the EUR/USD, but we really need to push down through the 1.3775/1.3800 zone for the bears to get a sense that the bullish case is breaking.
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Chart: USD/SEK
Note how the SEK has dramatically under-performed against the euro in the wake of the FOMC minutes, showing how the higher rates/risk-off response is negative for risk appetite due to fears that ongoing Fed tapering/hawkishness will continue to drain the world of liquidity. The USD/SEK is in an interesting spot today- knocking on 6.40 area resistance after yet another test toward the bottom of the longer-term range.
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Looking ahead
One surprise that doesn’t quite fit the pattern of post-FOMC reactions was the USD/CHF, as the EUR/CHF managed to rally. Note that we have an Swiss National Bank statement today where absolutely nothing is expected, so the surprise potential is large. The Swiss numbers have been surprising to the downside lately, making it increasingly likely that the SNB moves at some point, though it is likely too early now. SNB chairman Thomas Jordan was out last night complaining that the franc’s safe-haven status “presents a big challenge for monetary policy”.
This FOMC meeting dramatically raises the risk of higher volatility across all asset classes and currencies so stay careful out there.
Economic data highlights
- New Zealand Q4 GDP out at +0.9% QoQ and +3.1% YoY as expected and vs. +3.5% YoY in Q3
- Switzerland Feb. Trade Balance out at +2.62B vs. +2.59B in Jan.
- Germany Feb. PPI out at 0.0% MoM and -0.9% YoY vs. +0.1%/-0.9% expected, respectively and vs. -1.1% YoY in Jan.
Upcoming economic calendar highlights (all times GMT)
- Switzerland SNB announces 3-month LIBOR Target Rate (0830)
- UK Mar. CBI Trends in Total Orders/Selling Prices (1100)
- US Weekly Initial Jobless Claims (1230)
- US Weekly Bloomberg Consumer Comfort Survey (1445)
- US Mar. Philadelphia Fed Survey (1400)
- US Feb. Existing Home Sales (1400)
- Eurozone ECB’s Lautenschlaeger to Speak (1500)
- UK BoE’s Weale to Speak (1630)
- New Zealand ANZ Consumer Confidence (0000)
- New Zealand Feb. Credit Card Spending (0200)