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FOMC decision not a dovish hike, not a game changer


For some time the Federal Reserve has been guiding for and markets have been pricing for a fourth rate hike at this December meeting. However, this has come amid the backdrop of significantly reducing expectations of future rate hikes. That is why today’s meeting of the from the FOMC has the potential to be an absolutely crucial decision. The Federal Reserve has hiked interest rates for a fourth time this year, by 25 basis points to a Fed Funds range of 2.25%/2.50%. However, this is not the big takeaway. The changes to the dots and economic projections are the crucial aspect. We look at the implications.

FOMC magnifying glass

This meeting could be the most important announcement that the FOMC has made for a long while. It is a meeting which has confirmed a shift in expectation of future hikes and could now put the Fed on a path to ending its tightening cycle next year. What are the key changes to be aware of?

 

FOMC Statement changes

The main takeaways here is that “some” further rate hikes will be needed, whilst the FOMC also confirms that it is now looking at global economic conditions and the implications for the US.

A rate hike of 25 basis points

This was broadly priced in for weeks (although expectation of this has been dropping in recent days). No surprises

 

Changes to growth and inflation forecasts

The changes to the economic projections are below.

It is interesting to see the Fed (similar to the ECB) cutting growth and inflation expectations. However it is also interesting to see that unemployment looks set to increase in 2020. This looks to be the Fed, for the first time, signalling the end of its tightening cycle will be in 2019, before economic conditions deteriorate in 2020.

 

Fewer rate hikes ahead in 2019

In September there was almost no change to the net outlook on the dots, with rates expected to move towards 3.25%/3.50% before dropping back towards 3% in the long run (see below).

However, there has been a mild shift lower in the December dots.

The two big takeaways come with:

  • A shift of 3 hikes down to 2 in 2019
  • The long term rate back from 3% to 2.8%.

This is a dovish shift but not as much as the markets have been pricing for, so this is likely to be near term dollar positive but also a bit of a disappointment too. If global economic conditions continue  to deteriorate then the Fed is likely to need to further cut back its projections at meetings in 2019.

 

What could this now mean?

This is not quite the “dovish hike” that the market was looking for. Eurodollar futures were pricing for less than one hike in 2019 but the Fed is still guiding for two. This could have been a game changer for sentiment on markets, but is not. This has flattened the yield curve once more, with longer dated yields lower but shorter rising.

The strength of the dollar has been a key factor that has driven market sentiment lower 2018. However, this is an FOMC decision that has a mild dollar positive move. Initially dollar gains coming through, as this is risk negative (tends to be dollar positive), but also potentially more hikes than markets have been pricing. Could this now prevent equity markets from rallying into the new year? Perhaps, but if investors put more emphasis on the lower terminal rate (i.e. just two further hikes likely) then this could at least be equities supportive.

 

Market impact

The dollar is strengthening across the majors, Treasury yields pulling higher and equities falling back from day highs.

  • EUR/USD has dropped 50 pips
  • GBP/USD has dropped 40 pips
  • USD/JPY has rallied 10 pips (compared to moves on EUR/USD and Cable this suggests that this is a mild dollar positive but also risk negative move)
  • US Treasury yields – the curve has flattened with the 2s pushing 1 basis point higher whilst the 10s have dropped 2 basis points.
  • Gold has fallen by $5
  • S&P 500 has dropped by 9 ticks.

 


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At Hantec Markets Ltd we provide an execution only service. Any opinions expressed by analyst Richard Perry should not be construed as investment advice or an investment recommendation. This report does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. Forex and CFDs are leveraged products which can result in losses greater than your initial deposit. Therefore you should only speculate with money that you can afford to lose. Please ensure you fully understand the risks involved, seeking independent advice if necessary prior to entering into such transactions.