What to expect from the Fed❓

9:44 AM June 16, 2021

💲The US central bank has driven markets to records but it will face some challenging questions on inflation and asset bubbles.

When?

The FOMC meeting concludes with the decision released today in the evening at 7pm BST (8pm CET) and the post-meeting conference will begin 30 minutes later. The statement will be releases along with new macroeconomic forecasts and the dot-plot so there will be a lot of materials to focus on. Please make sure to visit the “News” section when we will provide the post-decision update.

What is the background?

The US economy is booming thanks to a massive policy support and inflation reached 5% in May. What is more, core inflation (ex food and energy) is at 3.8% - the highest level in nearly 30 years. While some of this is transitory (as the Fed likes to point out), high household incomes can exert an upward pressure on inflation for a longer time period and supply difficulties can last for months. Furthermore, the Treasury Department reduced its cash position flooding markets with liquidity and forcing Fed to carry record reverse repo operations to prevent overnight rates from sinking below 0%. All this in theory creates a perfect ground for policy tightening.

Retail sales remains much above pre-covid trend. Source: Macrobond, XTB Research

What to expect?

The “old” Fed would be already tightening the policy. However, this Fed has created every impression that they want to overheat the economy and the markets and see what happens. Any actual tightening at this meeting has pretty much 0% probability. Therefore investors should focus on two things:

  1. QE discussion – Chairman Powell said they would communicate any discussion regarding reduction of QE so the smallest pivot the Fed can do is to announce such discussion. Lack of it would be seen as very dovish
  2. IOER rate – record reverse repo operations reflect massive USD overliquidity that could be reduced by increasing rate on banks’ reserves (now 0.1%). That would be technical move but it would take away some fuel that is now pushing bond and stock prices higher – and this makes such move unlikely  

Markets to watch – US100

If there is one market that ideally reflects how markets feel about the FOMC decision it’s US100. High tech US stocks are being traded at record valuations partly because their business are growing but partly due to extremely accommodative monetary policy. Any change is therefore unwelcome for this market.

The impact of the FOMC decision will be seen on US100. Technically the trend remains clearly bullish after a large “abc” correction was completed in May. Source: XTB Research

 

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