DailyFX Fundamentals: Dollar – Where to After the Fed?

Talking Points:

• Dollar: Where to After the Fed?
• British Pound Shows Restraint after BoE Minutes Escalate Probability of 2014 Hike
• Swiss Franc Traders Should Take Note of the SNB’s Actions

Dollar: Where to After the Fed?

Though the dollar drifted lower and US equities advanced after the FOMC rate decision, the outcome of the event was more mixed than promising for the low-yield and yield-reach outlook. Had the Fed taken a serious dovish tack, the greenback’s tumble would have been more substantial than just the dribble below support and the appetite for exposure to ‘riskier’ assets would have been more broadly based and pronounced. So then, why did the EURUSD edge up to 1.3600 and the S&P 500 close at a record high? Heading into the policy meeting, there was a detectable preparation for a more substantial change – notably one that could have been interpreted as more ‘hawkish’. The dollar checked higher just before the news, Treasury yields recovered through June and volatility readings rose the previous week. The extent of the risk rally and dollar tumble therefore likely depends on how much unwinding there is to do.

Beyond the short-term adjustment from the dollar, though, it is important to interpret what the Fed’s event means through the medium-term. For that, we need to look more closely at the event. A further $10 billion Taper (QE3 is now $35 billion/month) was priced in, but it maintains the pace to wind down by October. The timing of the first hike and subsequent regime thereafter is where most of the speculative amplitude resides for the greenback. A downgraded growth forecast for 2014 was expected after the 1Q GDP slump, and the 2015 and 2016 consensuses were unchanged. Both the inflation and jobless projections modestly reinforced the prevailing time frame for a hike over the horizon.

The rate forecasts were far more interesting. One member shifted their vote to suggest that 2016 was more appropriate for the first hike rather than 2015. That said, 75 percent still believe 2015 will see the first hike. Furthermore, the expectations for the year-end Fed Funds rate (the ‘blue dots’) showed an average 1.2 percent rate at the end of 2015 and 2.5 percent to close 2016 (from 1.125 and 2.4 percent respectively). That insinuates a faster pace of tightening even if the first move is slightly deferred. For the dollar, this may place the US yield outlook behind that of the UK and New Zealand. But, it supports significant appeal over the Eurozone, Japan, China and even Australia. Moreover, should the outlook for rates translate into rising yields, the cost of leverages will increase – eventually undermining leverage and risk trends.

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British Pound Shows Restraint after BoE Minutes Escalate Probability of 2014 Hike

This past Thursday, the pound surged after Bank of England Governor Mark Carney remarked the central bank could increase its benchmark rate sooner than the markets expect. Suggesting a timelier hike may be in the works and the market hasn’t accurately priced it in is about as provocative for speculators as it gets. However, what we were offered this past session is arguably even more inflammatory. From the BoE minutes, we learned there was surprise amongst the MPC (Monetary Policy Committee) that the market was assigning such a low probability to a 2014 hike. Following up on that, Martin Weale echoed the bank may need to hike faster than expected and Andrew Haldane said he prefers a ‘front foot’ position on rates. After the sterling’s rise this past year, there is no doubt considerable premium to a timely hike priced in. However, there is no doubt still room for further gains on an even earlier move or a more aggressive pace after the first move.

Swiss Franc Traders Should Take Note of the SNB’s Actions

Where investors obsess over the US and UK monetary policy bearings, there has recently been rather little attention paid to the bearings from the Swiss National Bank. There is good reason to pay closer attention. Coming up this morning, we have the quarterly SNB policy meeting, and the consensus is for no change to the standard policy channels (no rate hike) and there is very little expectation that the extraordinary efforts (the 1.2000-floor on EURCHF) will be changed. That said, there may be a need for further moves from the central bank in the near future. With the ECB turning the stimulus tap back on, there is a notable bearish pressure developing around the euro. If the Eurozone policy authority follows up with asset purchases (QE), that currency pressure will only increase. That means, EURCHF will be pressured towards 1.2000. And even if it doesn’t have the drive to break, it can linger in the area for a much longer time. Will the SNB wait until it is forced to act?

Euro: IMF Encourages ECB to Adopt Quantitative Easing

At the last ECB meeting, the bank made note that the idea of outright asset purchases (QE) was being explored as a policy compliment to the targeted LTRO and rate cuts that were introduced. If a stimulus program along the lines of the Feds QE3 and Japan QQE is introduced, it will materially accelerate the Euro’s decline as the market is flooded with funds. This past session, the IMF voiced its opinion when it suggested the ECB quickly adopt the policy. This is a loose approval from a supranational authority to allow a side-effect of currency devaluation.

New Zealand Dollar Reverses Gains After 1Q GDP Miss

Growth in New Zealand seems to have been in a much better place than the United States and Eurozone. Yet, the market already has a bullish view of the country and its currency. To further an already-optimistic bias, the fundamental read needs to further improve. This morning’s Q1 GDP reading didn’t move the needle. While the period’s 1.0 percent growth is impressive – the year-over-year figure was a 6 year high – it fell modestly short of the consensus. In morning trading, the kiwi is down against all its major counterparts.

Gold Advances as Yields Slip, But Not Yet a Breakout

A more dovish interpretation that what was expected from the Fed is certainly fodder for gold bulls to bid their favorite metal. The commodity rose 0.6 percent this past session to $1,278, but the drive falls short of transitioning to a clear breakout and trend change. The outlook for the Fed is still on the hawkish track and threats of more timely hikes from the UK seriously undermine ambitions to mount a lasting rally.**Bring the economic calendar to your charts with the DailyFX News App.

ECONOMIC DATA

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CLASSIC SUPPORT AND RESISTANCE

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--- Written by: John Kicklighter, Chief Strategist for DailyFX.com

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