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The Importance, Impact and Strategy to the Fed Rate Decision

The Importance, Impact and Strategy to the Fed Rate Decision

Talking Points:

  • The Fed's rate decision today (18:00 GMT) is the 'quarterly' variety that includes decision, forecasts and Yellen presser
  • Markets see little-to-no chance of a hike this meeting - the first hold in four quarters - but traders are looking ahead
  • Between the tightening pace and QE reduction plans, this has the capacity to force a significant risk and Dollar move

Do you have exposure to this important Fed rate decision either through direct Dollar, indirect currency or general risk-sensitive positions? Join me as I cover this event risk live. Sign up for the event on the DailyFX Webinar Calendar.

From the Dollar, global equity indexes and volatility measures; it seems like the market is looking forward to a nondescript day ahead. Yet, with the Fed due to announce policy, its rate path moving forward and QE plans; the upcoming session is anything but dull. There is a particularly high risk of volatility from the Dollar - the world's most liquid currency - and to all assets that hold a 'risk' designation. That is owing in part to the scope of what this update will cover and its implications to the financial system that has grown acutely dependent on aggressive monetary policy. Yet, it is ominous a market mover due to the extreme positioning of the markets themselves. The day before this important event, the S&P 500 led its US equity index peers to a fresh record high while the VIX held anchored to the infamous 10 handle. EUR/USD meanwhile inched back up towards its multi-year highs atop of the incredible 2017 climb that has driven the Dollar Index to a meaningful discount.

This central bank gathering is one of the so-called 'quarterly' events where the central bank will not only deliberate on current policy and release a brief statement, it is also due to update the group's forecasts for growth, inflation, employment, yields as well present Chair Janet Yellen's press conference. Right from the jump, this is not anticipated to result in the standard fare of a 'hawkish' outcome. The markets are pricing in no chance that the central banks will hike rates from its current 1.125 percent median and thereby break a trend of three consecutive quarters of tightening. However, there is plenty to speculate on when it comes to rates in the forecasts. As of its June SEP (Summary of Economic Projections), the bank maintained a majority forecast for 75 basis points of hikes in 2017 - three hikes through the year. If that third hike projection is dropped for the last two meetings of the year, it could still surprise the market that still sees it as a 50/50 possibility. Markets will also be looking out to the 2018 projections with a growing field of groups willing to consider tightening. This front will supply a lot of impact potential from the Dollar in particular. I prefer EUR/USD, USD/CAD and AUD/USD for 'hawkish' outcomes; while the GBP/USD, USD/JPY and NZD/USD are more tailored for 'dovish' results.

This is not just an event for FX traders however. With the turn in policy views from central banks (or market speculation of their indentations) like the ECB, BoE and BoC; tension is increasing on the connection between speculative reach and the dependency on extreme monetary policy. Extraordinarily accommodation (QE, zero rates, negative rates, etc) was adopted to fight a financial crisis and recession. Those policies were maintained and even expanded deep into the recovery years; and that has in turn created a structure of dependency on sustained support. The Fed's intentions to start reducing its balance sheet in particular can signal a new stage in the course reversal global policy is taking. Traders don't have to look too far back to see what kind of impact the 'Taper' had and that was merely reducing the asset purchases and eventually leveling off the holdings. With the S&P 500 sporting a 5-day average daily range that is only comparable to holiday conditions over the past two decades and VIX at 10, these markets look particularly prone to a shakeup in sentiment. We discuss the importance, reach and scenarios of this key event in today's Strategy Video.

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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.