Dollar and S&P 500 Strategy for the FOMC Rate Decision
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FOMC Cut Talking Points:
- Despite predicting no changes in policy this year, the Fed cut its benchmark another 25bp with forecasts still projecting no further changes
- The Dollar managed to gain as slow cuts fail to shift relative policy while steady US equities reflect faltering conviction in central banks
- Monetary policy remains the top theme as BOJ considers negative rates, the SNB and Norges bank follows the ECB, rounded out by BOE and SARB
See how retail traders are positioning in the Dollar pairs, US indices, broader FX pairs, gold and oil intraday using the DailyFX-IG speculative positioning data on the sentiment page.
The Fed Cuts Rates, Still Expects to Hold Ahead, Dollar Climbs
After a significant amount of oscillation in interest rate expectations from the market in the lead up to its September policy gathering, the Federal Open Market Committee (FOMC) managed to meet the backbone of expectations with a rate cut. A 25 basis point reduction to the range from 2.00 to 2.25 percent down to a span of 1.75 to 2.00 percent marks the second cut in as many meetings. What is remarkable is that in the last forecasts issued by the US authority back with the June 19th decision, they had expected no change to the benchmark rate throughout 2019. Nonetheless, with data holding fairly and benchmark capital markets climbing, the Fed would still cut rates for the first time in over a decade in July. Fed Chairman Powell attempted to signal to the market that this move was a one-off - a 'mid-cycle adjustment'. The FOMC minutes from the same meeting reiterated the same. And yet, the bank moved again this past session. Once again, the SEP (Summary of Economic Projections) that accompanied this past move signals no further cuts for this year - and not expected cuts in 2020. Yet, given their recent track record, it should come as no surprise that they are straining credulity and credibility.
Looking at the Fed's own forecasts, there doesn't seem a need for preemptive action at this past meeting. There is, however, pressure external to the bank and its dual mandate. President Donald Trump has certainly maintained pressure on the monetary authority to offer quick easing in a bid to beat back broad fears over the health of the US economy, exacerbated by the cumulative pain derived from trade wars. Yet, Fed Chairman Jerome Powell and company have reiterated their staunch view that politics have no sway over their policy making. The head central banker even opened his press conference with words to that effect and he answered questions on the same topic even more pointedly. The more oppressive external force is the market itself. Thankfully for the Fed, speculative forecasts eased back from calls for a 50-basis point cut a few weeks ago and the four-cuts-in-2019 drive deflated. That said, the central bank seems to be benchmarking its policy decisions increasingly with markets in mind so as not to inadvertently trigger a collapse in risk trends that seem to depend on some measure of support. All while attempting to maintain credibility. Where does that leave the Dollar? US rates are easing, but the yield gap to other majors is not dropping quickly. If Trump wants a USD slide, he may need to take matters into his own hand.
Chart of EURUSD and German-US 10yr Yield Spread (Daily)
Chart Created on Tradingview Platform
Markets Are Starting to Evaluate Dovish Policies More Closely
Rather than looking at just the Fed's policy stance relative to its largest counterparts for insight on FX advantage, it is worth looking at monetary policy in a more holistic perspective. In fact, the slim relative yield to be found in deflated carry trades seems to draw very little appetite in the trading ranks. While the spread between the Dollar and Euro say is larger than previous years back to the start of the Financial Crisis, the general willingness to accept such anemic returns - chasing yield - seems to be far lower than what we witnessed in the hey-day of risk appetite spurred by complacency. It is that direct question of value relative to cost of monetary policy that is increasingly popping up in regular investor conversation. The costs are more than notional Dollars, Euros, Yen; but also the stability of fiat and banking systems (the EIU warned on European banks stability Wednesday). Alternatively, the added value from more support is difficult to account for given the economic outlook continues to fade and inflation falls short of target all while markets now don't even earn their dubious gains.
A Run of Central Banks
While all of the attention through the first half of this week has been afforded to the Fed, there is actually a wide run of central banks over the 24-hourtransition from Wednesday into Thursday. On the back of the higher profile ECB rate cut (-10bps to -0.50 percent) last week and the Fed's move this past session, we also learned that Brazil's central bank lowered rates -50bps to an all-time low 5.50 percent. This is a large country and frequent carry target. The same can be said of the South African Rand whose Reserve Bank is set to announce policy itself this upcoming session. Meanwhile, the Bank of England (BOE) decision should be watched and processed for future implications; but their attention, like investors', is fixed directly on the outcome of Brexit for the time being.
On the more extreme end of the dovish curve. The Bank of Japan (BOJ) competes with the ECB for the title of the most dovish major central bank. Sporting a 'modest negative rate' and a stimulus target for the 10-year JGB yield, the group maintains a policy mix that leads to steady Yen depreciation. There have been reports that the group is considering a deeper dive into negative rates which could hasten the assessment of ineffective monetary policy - as they are already failing their objectives - that ultimately batters risk taking. The European groups on tap - Swiss National Bank (SNB) and the Norges Bank - will have to evaluate how closely to pace the ECB for the sake of maintaining steady trade relations to the main economy. That should lead to particularly interesting evaluations on pairs like EURCHF.
Chart of EURCHF with 50-Day Moving Average (Daily)
Chart Created on Tradingview Platform
Recently, I have been attempting to find those markets that are not so directly beholden to the more oppressive fundamental themes unfolding in the market as it an offer diversification or just more 'tradable' opportunities. This morning, the Australian Dollar and New Zealand Dollar were of considerable interest on that front. Both were saddled with direct and important data - August employment and 2Q GDP respectively - which is known for generating significant volatility against surprises; but there is little else in the background that would immediately cap follow through.
The Euro is another currency that should be considered more closely. It is still dealing with the pressure of the ECB's cut into questionable territory with monetary policy this past week, but the market has held its balance since. With the fundamental development out of the way, the currency is now able to take greater advantage of pressed counterparts. The likes of EURUSD, EURGBP and EURCHF are loaded crosses; but pairs such as EURCAD, EURJPY and EURAUD strike more interesting and unburdened poses.
Chart of EURJPY with 50-Day Moving Average (Daily)
Chart Created on Tradingview Platform
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