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Fed’s ambiguity keeps investors in two minds

European markets had a mixed session yesterday as investors sat on their hands ahead of last night’s Federal Reserve rate decision.

As expected the Fed raised its fed funds rate by 25 basis points, putting the upper bound at 2.25%, thus remaining on course to raise rates every quarter this year. There was no surprise in this decision, and there was nothing in the accompanying statement that suggested that any on the FOMC were resiling from the prospect of raising rates again in December.

The accompanying statement and press conference came across as pretty bullish about the US economy, with policymakers upgrading their forecasts for the US economy from 2.8% to 3.1%, for 2018.

So far so good, however, while policymakers projected one more rate rise for this year and three for 2019, their outlook for inflation, along with the dropping of the language that described monetary policy as accommodative, suggested that the Fed remained much closer to the end of their hiking cycle than markets had originally anticipated.

Fed chair Jay Powell’s comments that there was no evidence whatsoever of inflationary pressure knocked US yields which had been climbing in the lead up to this week’s meeting, down quite sharply, and also saw both the S&P500 and Dow finish the day lower.

That, combined with a slight nudge higher in the unemployment forecast gave the impression that US policymakers were slightly less optimistic about the long term future outlook than they were a few weeks ago, and this saw US yields slip back, as investors indulged in a spot of profit taking.

In some ways this is a welcome respite for emerging markets, where concern about rising US rates has been at its highest, while the US dollar was only slightly firmer, in the aftermath of the decision.

The Fed appears to have done it again in offering something for the doves as well as the hawks, while at the same time keeping borrowing costs on a fairly even keel. This constructive ambiguity keeps the optionality of another potential four rate rises on the table by the end of 2019, while at the same time hinting that a slowing economy might cause them to reassess that outlook over the next 12 months.

On the rates front in Europe the preliminary German CPI numbers for September are expected to show that inflationary pressures in the German economy have remain subdued at 1.9%, still comfortably below the ECB’s 2% target for price stability.

Later today the final iteration of US Q2 GDP is expected to be confirmed at 4.2%, while durable goods for August are expected to show a rise of 1.9%, up from a 1.7% decline in July.

In some of the data seen thus far the economic performance seen in Q3 has shown little sign of a significant slowdown from what we saw in Q2, though it’s unlikely we’ll match it. Nonetheless it would be disappointing if we didn’t get close to a Q3 expansion of 3% or more, given the nature of recent headlines. Weekly jobless claims last week came in at 201k, their lowest level since November 1969 and within touching distance of a sub 200k number.

Today’s claims number is expected to show an uptick to 210k, however the overall trend has consistently remained towards the downside so while we may not see a sub 200k today there is the possibility that we could fall below this level in the coming weeks.

The latest August trade balance numbers, more than any of the other economic announcements today could be a market mover given the current trade tensions, between the US and China. The July numbers showed the US deficit with China hit a record level despite the imposition of tariffs at the beginning of July. It would be surprising if the August numbers were significantly different, from the July numbers, however if the gap were to widen then we could see concerns rise that the US could widen the tariffs to include the remaining $267bn of Chinese goods which are currently not tariffed.

The total trade gap is expected to narrow slightly from $72bn to $70.6bn.

EURUSD – has thus far been unable to move beyond the 1.1840 area and June highs. A break below support below 1.1690 opens up the prospect of a move towards 1.1620.

GBPUSD – while the 1.3220 area the risk remains for a move back towards the lows this week at 1.3090. We need to see a move back through 1.3220 to argue for a return to the 1.3300 area. The larger support remains back towards the 1.3000 level with the 50-day MA at 1.2990.

EURGBP – has continued to slip back, falling below 0.8935 with the potential to fall further, back towards support at 0.8880, and potentially below that at 0.8840/50. Interim resistance now comes in at 0.8940 with the bigger level remaining back at the 0.9040 area.

USDJPY – while the 113.20 level caps we could see a drift back to the 112.00 area. A move below 111.80 opens up a return to the 111.20 area where we the main cloud support area.

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