Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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USD rally wilting after FOMC
John J. Hardy
Chief Macro Strategist
Summary: The Powell Fed came out with a far less dovish address than markets expected Wednesday, cratering risk sentiment and pushing equity markets lower.
The FOMC meeting saw a dovish shift from the Powell Fed, but not nearly as dovish as global asset markets were hoping for. In response, riskier currencies were weak, but the euro and especially yen stayed firm against the greenback overnight and into this morning. Elsewhere, the Riksbank has hiked even as expectations slightly favoured no move this time around.
The market seemed to be gunning for a marked dovish shift from the Fed ahead of yesterday’s meeting, but Powell and company did not deliver as the new policy statement, modest shifts in the latest forecasts and especially the press conference were far less dovish than the market was pricing. Equity markets were thrown into a fresh selling frenzy in the wake of the meeting, while the USD response has been a bit mixed, with immediate USD strength only against the more thinly traded currencies late yesterday and overnight.
Judging from the action in US Treasuries, the market seems to be telling us that the Fed is making a policy mistake that it will regret as it is eventually forced to reverse.
A brief rundown of the what this FOMC did and didn’t deliver:
The statement itself: so few changes relative to the November statement. Given the market’s fears and the lack of any reassurance in this statement, it shouts from the skies that this Fed will prefer to look at economic data and ignore market volatility and is not fretting any systemic risks at this time.
Dot plot and economic forecasts: this was where the Fed made the most explicit admission that it is responding to unfolding economic conditions, as the Fed funds rate forecasts were lowered across the board from 20-30 basis points and 2019 inflation and GDP forecasts were lowered slightly.
Press conference: this gave the most hawkish impression, as Powell touted the strength of the US economy, robustly defended the Fed’s independence when asked about Trump’s tweets, and even went out of his way to praise the Fed’s QT schedule, arguing that it is operating well. It was his discussion of QT that seemed to tilt the generally risk off reaction into a full-blown deleveraging as many have argued that QT is the chief source of global pressure on liquidity.
Chart: USDJPY
USDJPY is lower despite the more hawkish than expected Fed, as the combination of lower US long yields and weak risk appetite weigh on the pair. Still wondering how profound a JPY rally can prove here, given that we would normally have expected a far larger JPY rally still with such a backdrop – of course, a glance over at the likes of AUDJPY and NZDJPY shows a very clear picture of JPY strength. The move becomes more significant if it can work through the 111.00 and even 110.00 area in coming weeks. If markets decide that this isn’t the end of the world and yields pick back up, on the other hand, the highs for the cycle may have yet to be seen.
The market seemed to be gunning for a marked dovish shift from the Fed ahead of yesterday’s meeting, but Powell and company did not deliver as the new policy statement, modest shifts in the latest forecasts and especially the press conference were far less dovish than the market was pricing. Equity markets were thrown into a fresh selling frenzy in the wake of the meeting, while the USD response has been a bit mixed, with immediate USD strength only against the more thinly traded currencies late yesterday and overnight.
Judging from the action in US Treasuries, the market seems to be telling us that the Fed is making a policy mistake that it will regret as it is eventually forced to reverse.
A brief rundown of the what this FOMC did and didn’t deliver:
The statement itself: so few changes relative to the November statement. Given the market’s fears and the lack of any reassurance in this statement, it shouts from the skies that this Fed will prefer to look at economic data and ignore market volatility and is not fretting any systemic risks at this time.
Dot plot and economic forecasts: this was where the Fed made the most explicit admission that it is responding to unfolding economic conditions, as the Fed funds rate forecasts were lowered across the board from 20-30 basis points and 2019 inflation and GDP forecasts were lowered slightly.
Press conference: this gave the most hawkish impression, as Powell touted the strength of the US economy, robustly defended the Fed’s independence when asked about Trump’s tweets, and even went out of his way to praise the Fed’s QT schedule, arguing that it is operating well. It was his discussion of QT that seemed to tilt the generally risk off reaction into a full-blown deleveraging as many have argued that QT is the chief source of global pressure on liquidity.
Chart: USDJPY
USDJPY is lower despite the more hawkish than expected Fed, as the combination of lower US long yields and weak risk appetite weigh on the pair. Still wondering how profound a JPY rally can prove here, given that we would normally have expected a far larger JPY rally still with such a backdrop – of course, a glance over at the likes of AUDJPY and NZDJPY shows a very clear picture of JPY strength. The move becomes more significant if it can work through the 111.00 and even 110.00 area in coming weeks. If markets decide that this isn’t the end of the world and yields pick back up, on the other hand, the highs for the cycle may have yet to be seen.
The G-10 rundown
USD – USD strength doesn’t look terribly convincing coming into this morning as EURUSD bobs back above 1.1400 and even the riskier currencies are taking back some territory. If the market is right and the Fed risks committing a policy error that it will have to reverse, the more hawkish than expected meeting outcome may not feed much further USD strength.
EUR – An Italian budget deal is official and helps at the margin; in the coming weeks it is only the fallout from an ugly turn in the Brexit talks that might hold the single currency back from a rally. Note the strength in the single currency in the crosses. Productive on the outlook for a higher EURUSD to kick off 2019 if the pair can close above 1.1450-1.1500.
JPY – USDJPY looking heavy into the first key pivot levels below 112.00, with the 200d-day moving average down near 111.00 the next focus. Assume the JPY maintains the upper hand as long as US treasuries show continued signs of safe haven seeking.
GBP – sterling tilting lower as EURGBP pulls above 0.9000, but we need clarity on next steps for Brexit to see a strong directional move. Bank of England hardly likely to bring anything new to the table today.
CHF – EURCHF celebrating the clearing up of Italy’s budget situation for this time around with a modest rally and interesting to note the lack of a CHF bid given the ugly risk sentiment.
AUD – the employment report overnight a mixed bag – headline payrolls growth looked strong, but all of it and more was part-time employment. The unemployment rate ticked up, but for the good reason that the participation rate rose 0.1%. More importantly, AUD sold off heavily against the G3 on risk off – but CNY may provide a anchor for AUDUSD soon if China keeps the USDCNY rate stable.
CAD – USDCAD rising to 1.3500, but CAD firmer against the market’s weakest links overnight. If USDCAD can remain clear of 1.3400, the next resistance area comes in around 1.3800. EURCAD has broken major levels, including the 200-day moving average.
NZD – the kiwi outperformance of late more firmly in the rear-view mirror as Q3 GDP prints below expectations at 0.3% q/q.
SEK – the Riksbank rate decision is unfolding here as I am writing and they have gone ahead and hiked! This should be positive for SEK and USDSEK could be even more interesting than EURSEK if EURUSD is bid. Press conference up shortly and the policy and especially the lowered inflation forecast updates from the Riksbank are taking some of the steam out of SEK’s attempt to rally.
NOK – the krone getting squeezed to new lows over recent session, but this may reverse sharply early next year as Norges Bank resumes purchases, although it would be helpful for both oil markets and risk appetite to stabilize.
Upcoming Economic Calendar Highlights (all times GMT)
0930 – UK Nov. Retail Sales
1000 – Riksbank Press Conference
1200 – UK Bank of England Meeting
1330 – US Philly Fed Survey
1330 – US Weekly Initial Jobless Claims
2330 – Japan Nov. CPI
USD – USD strength doesn’t look terribly convincing coming into this morning as EURUSD bobs back above 1.1400 and even the riskier currencies are taking back some territory. If the market is right and the Fed risks committing a policy error that it will have to reverse, the more hawkish than expected meeting outcome may not feed much further USD strength.
EUR – An Italian budget deal is official and helps at the margin; in the coming weeks it is only the fallout from an ugly turn in the Brexit talks that might hold the single currency back from a rally. Note the strength in the single currency in the crosses. Productive on the outlook for a higher EURUSD to kick off 2019 if the pair can close above 1.1450-1.1500.
JPY – USDJPY looking heavy into the first key pivot levels below 112.00, with the 200d-day moving average down near 111.00 the next focus. Assume the JPY maintains the upper hand as long as US treasuries show continued signs of safe haven seeking.
GBP – sterling tilting lower as EURGBP pulls above 0.9000, but we need clarity on next steps for Brexit to see a strong directional move. Bank of England hardly likely to bring anything new to the table today.
CHF – EURCHF celebrating the clearing up of Italy’s budget situation for this time around with a modest rally and interesting to note the lack of a CHF bid given the ugly risk sentiment.
AUD – the employment report overnight a mixed bag – headline payrolls growth looked strong, but all of it and more was part-time employment. The unemployment rate ticked up, but for the good reason that the participation rate rose 0.1%. More importantly, AUD sold off heavily against the G3 on risk off – but CNY may provide a anchor for AUDUSD soon if China keeps the USDCNY rate stable.
CAD – USDCAD rising to 1.3500, but CAD firmer against the market’s weakest links overnight. If USDCAD can remain clear of 1.3400, the next resistance area comes in around 1.3800. EURCAD has broken major levels, including the 200-day moving average.
NZD – the kiwi outperformance of late more firmly in the rear-view mirror as Q3 GDP prints below expectations at 0.3% q/q.
SEK – the Riksbank rate decision is unfolding here as I am writing and they have gone ahead and hiked! This should be positive for SEK and USDSEK could be even more interesting than EURSEK if EURUSD is bid. Press conference up shortly and the policy and especially the lowered inflation forecast updates from the Riksbank are taking some of the steam out of SEK’s attempt to rally.
NOK – the krone getting squeezed to new lows over recent session, but this may reverse sharply early next year as Norges Bank resumes purchases, although it would be helpful for both oil markets and risk appetite to stabilize.
Upcoming Economic Calendar Highlights (all times GMT)
0930 – UK Nov. Retail Sales
1000 – Riksbank Press Conference
1200 – UK Bank of England Meeting
1330 – US Philly Fed Survey
1330 – US Weekly Initial Jobless Claims
2330 – Japan Nov. CPI
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