FOMC Review: Market Grapples With Conflicting Messages

The USD Goes Higher As Fed Stays On Course

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As expected, the Fed raised rates by 0.25% for the third time this year at its September meeting which concluded this week. The move, which has taken the Fed funds rate to 2% – 2.25%, was priced as a virtual certainty by the market and so the main focus was on the statement and updated projections, including the dot plot.

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“Accommodative” Dropped

The main change to the statement was the removal of the term “accommodative” in describing the bank’s monetary policy approach. The other notable change was that the Fed expected “further gradual increases” in the policy rate as necessary to achieve growth. The key takeaway here is that the Fed is not done hiking and that further hikes can be expected over the coming quarters, with the focus now turning to a fourth hike for 2018 at the upcoming December meeting.  Aside from these two alterations, there were no other changes to the statement which described activity and jobs as remaining “strong” along with inflation remaining near the target.

Forecasts Revised Higher

A further hawkish turn was seen in the updated forecasts with GDP growth for 4Q18 shifted up to 3.1% from 2.8% forecast in June along with a 0.1% raise to 2019 GDP which is now forecast to hit 2.5%. Growth is then expected to dip back t 2% in 20202 and fall further to 1.8% in 2021 (the new forecast period added this time). Inflation forecasts were left roughly unchanged around 2% with unemployment mostly unchanged also, projecting 3.5% to be the low for 2019 and 2020.

With this in mind, the Fed’s central rate is forecast to end 2018 at 2.4%, suggesting one further rate hike this year. This is forecast to rise to 3.1% in 2019, indicating three rate hikes, and 3.4% in 2020, suggesting one further rate hike that year

Key Points For The Press Conference

In the press conference following the meeting, Powell was quick to stress that removing the term accommodative from the statement was no reflection of the Fed’s intent to step up its tightening program, merely saying that the term had grown stale.

rate hikes

The Fed chief also downplayed the importance of the dot projections in the longer run years highlighting the high level of uncertainty linked to these projections and the role that unforeseen shocks can have in determining the actual outcome.  However, Powell did note that stronger than expected inflation could force the Fed to raise rates at a quicker pace than currently projected though added the caveat that he “doesn’t really see that.”

Market Reaction and Technical Perspective

USD was reasonably volatile around the rates statement and subsequent press conference given the conflict between the removal of the term accommodative, which the market took as a hawkish sign, and the more dovish tone to Powell’s comments following the decision.

However, the net outcome has seen stable USD buying with traders now looking ahead to the December meeting. Indeed, with data continuing to print strongly, the risk of a quickened tightening of policy is keeping bulls encouraged. However, it is worth noting that over the medium to longer term, the tide is likely to shift in the other direction given that the Fed has moved well into the second third of its tightening program while other G10 central banks are only just getting started or have yet to begin.

The Dollar index is higher today after gapping up in response to the meeting. USD is also up across the board among the major currency pairs reflecting the current dominance of the Fed’s tightening cycle.

us dollar index

The move in the index has taken price up to just shy of retesting the broken bullish channel base around 94.30 where we also have the bearish trend line from current 2018 highs. To the downside, essential support sits around the 93.19 level which was vital support earlier in the year and also holds the completion of the ABCD symmetry swing.

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